On July 31, 2025 the IRS the released the final version of regulations under Code section 706 addressing how partnerships should allocate tax items to partners who enter, leave, or otherwise change their interest in the partnership during the tax year (Federal Register publication date August 3). The proposed regulations were published April 14, 2009, and NAPTP submitted comments on items applying specifically to PTPs in July 2009 (see report here)

The IRS simultaneously released on Friday new proposed regulations under section 706 dealing with determining partners’ distributive shares of cash items and items attributable to partners’ distributable shares of an interest in a lower-tier partnership. Of particular interest to PTPs in these proposed regulations is a section permitting PTPs that have income subject to withholding under section 1441 to treat that income as an extraordinary item allocated to PTP unit holders who are the record holders on the date the distribution is declared.

Background

On April 13, 2009 the IRS issued proposed regulations under Code section 706, which deals with partnership and partner tax years, addressing how partnerships should allocate tax items to partners who enter, leave, or otherwise change their interest in the partnership during a tax year. The proposed rules potentially impacted the monthly conventions generally used by PTPs to account for the numerous partners who buy and sell units during the year.

The proposed regulations generally provided that partnerships should divide the tax year into segments based on the dates when partners’ interests change (“variations”). The partnership should determine the distributive shares of partnership items in each segment using the “interim closing of the books method” (1) and allocate items among partners in accordance with their respective partnership interests during the segment. With agreement of the partners, however, the partnership could use a proration method (2) rather than an interim closing of the books method. If the partnership used the interim closing method, it could use either a daily convention (the books are deemed to close at the end of the day on which the change occurs) or a semi-monthly convention.(3) If the partnership used the proration method the proposed regulations required a daily convention. The same convention must be used for all variations within the tax year.

For PTPs, which have partners changing interests on a daily basis, the proposed rules posed particular issues. The preamble to the regulations stated that the IRS and Treasury were aware that some PTPs are using a monthly convention (any change occurring during a month is deemed to occur on one particular day of the month, usually the first day or the last day) or a semi-monthly convention with the proration method. In light of this, the proposed regulations provided a special rule exempting existing PTPs from the proposed rule requiring that a daily convention be used with the proration method. Instead a safe harbor was provided under which PTPs, whether using the interim closing of the books method or a proration method, could use either the semi-monthly convention or a monthly convention that treated all transfers of publicly traded units during a month as occurring on the first day of the following month under a consistent method adopted by the partnership. Block transfers of units would not qualify for the safe harbor.

It was agreed that there were issues on which the Association needed to comment, and the Association’s comments were submitted to the IRS on July 13, 2009. The comments were limited to items that particularly affected PTPs, leaving more general partnership issues to be addressed by others.

Final Regulations

The final regulations change this somewhat and allow partnerships to use both the interim closing and the proration methods during the same tax year. A partnership divides the tax year into segments based on interim closings of the books, and if it chooses to use proration, the proration periods are specific portions of each segment for which the partnership chooses to use the proration method. The first proration period begins at the beginning of the segment and ends when the first variation occurs for which the proration method is used. The second proration period begins immediately after the close of the first and ends with the next variation, and so on until the end of the segment. The partnership must use the same convention for all variations for which it uses the interim closing method. Because PTPs are also permitted to use semi-monthly and monthly rather than daily conventions for variations for which they use the proration method (see below), however, they must use the same convention for all variations during the tax year.

In the final regulations, the provisions of the PTP safe harbor, with modifications in response to comments, have been incorporated into the main provisions of the regulations, so that a separate safe harbor is no longer needed.

Below are NAPTP’s recommendations and how they are treated in the final regulations.

(1) The interim closing of the books method assumes for purposes of the allocations that the partnership’s books were closed just before the change in partnership interests and allocates items based on ownership interests at the time the books were “closed.”

(2) Under a proration allocation method, the items allocated among the partners are based on their pro rata share on each item for the entire tax year.

(3) The semi-monthly convention assumes that any ownership change that occurs on the 1st-15th days of the month, is deemed occur on the last day of the preceding month, while any for ownership change during the second half of the month is deemed to occur on the last day of the month)

Additional Information