The New York City unincorporated business tax (“UBT”) addback for payments to partners continues to present a vexing problem. In a decision issued in October 2012, but only recently released, the Chief Administrative Law Judge for the New York City Tax Appeals Tribunal held that a real estate brokerage firm must add back commissions paid to its member-partners for UBT purposes, whether or not the payments qualified under IRC § 707(a) as payments made to persons other than in their capacity as partners. Matter of Massey Knakal Realty Services of Manhattan, LLC, TAT(H) 09-37(UB) (N.Y.C. Tax App. Trib., Admin. Law Judge Div., Oct. 22, 2012).
Massey Knakal, an LLC taxable as a partnership, is a licensed real estate brokerage firm located in New York City and is subject to the UBT. Its member-partners each entered into a separate independent contractor brokerage agreement with the firm for the performance of brokerage services, pursuant to which the member-partners received commissions. Thus, when real property was sold, the client paid Massey Knakal a commission, and Massey Knakal in turn paid a share of the commission to the broker. Form 1099s were issued to report the commissions paid to the member-partners, separate from the Form K-1s reflecting each member’s distributive share of the firm’s profits, and the commissions were deducted by the firm on its federal Form 1065.
In its UBT returns, and consistent with its Form 1065, Massey Knakal deducted the commissions paid to its member-partners. The Department of Finance disallowed the deductions as “amounts paid to a partner for services” under Administrative Code § 11-507(3). The firm argued that the commissions were payments occurring between a partnership and one who is not a partner under IRC § 707(a), and therefore were not “payments to partners” subject to addback under the UBT. The firm urged the ALJ to “revisit” the New York City Tax Appeals Tribunal decision in Miller Tabak Hirsch & Co. (TAT(E) 94-173(UB) (N.Y.C. Tax App. Trib., Mar. 30, 1999)). In Miller Tabak, the City Tribunal held that a partnership’s payments to limited partners who were also employees of the partnership were nonetheless subject to the UBT addback as nondeductible “payments to partners.”
The ALJ, declining to revisit Miller Tabak, held that since they were paid to individuals who were considered “partners,” the commissions were non-deductible payments to partners for services. The ALJ noted that while the parties disagreed whether the payments in question actually qualified under IRC § 707(a) as payments made to partners other than in their capacity as partners, it was not necessary to make that determination since “the recipients of the payments were still members and the payments were still for their services.” The ALJ also upheld the validity of 19 RCNY § 28-06(d)(1)(ii)(A), which specifically provides that “the fact that the individual [partner] is providing such services not in his capacity as a partner within the provisions of [IRC § 707(a)] will not change the result.”
Additional Insights. Given the precedent, this decision upholding the addback of the commissions paid to member-partners is not surprising. It should be noted that the Department’s regulations do not require the addback of a partnership’s payments to the partnership’s corporate partners, to the extent the payments represent the value of services furnished by the corporate partners’ employees and would otherwise constitute allowable business deductions of the partnership. 19 RCNY § 28-06(d)(1)(ii)(C).