LLC restructuring does not recapture Gulf Opportunity Zone depreciation

Plain-English summary

An individual owned two single-member LLCs that were disregarded for federal income tax purposes. One LLC owned qualifying Gulf Opportunity Zone property for which the individual had claimed 50-percent bonus depreciation. The proposed restructuring would distribute the property to the individual, contribute it to the second LLC, lease it back to the first LLC under an operating lease, and elect S corporation status for the first LLC. The IRS ruled that the restructuring would not trigger recapture under IRC § 1400N(d)(5). The individual remained the property's federal tax owner through the disregarded second LLC, and the individual's management activities and the non-triple-net operating lease meant the property remained used in the active conduct of a trade or business in the zone.

Ruling snapshot

• Question: Will transferring Gulf Opportunity Zone property between disregarded LLC arrangements and leasing it back trigger bonus depreciation recapture?
• Outcome: Approved, no recapture under IRC § 1400N(d)(5)
• Key authorities: IRC §§ 1400N(d), 167, 168, and 179(d)(10); Notice 2006-77

Full text (IRS public release)

Internal Revenue Service                                      Department of the Treasury
                                                              Washington, DC 20224

Number: 201618008                                             Third Party Communication: None
Release Date: 4/29/2016                                       Date of Communication: Not Applicable
Index Number: 1400N.00-00
                                                              Person To Contact:
-------------------------                                     ------------------, ID No. ------------------
------------------------------                                Telephone Number:
------------------------------                                ----------------------
                                                              Refer Reply To:
                                                              CC:ITA:7
                                                              PLR-129769-15
                                                              Date:
                                                              February 01, 2016

Re: Request for Private Letter Ruling under Section 1400N(d)

Taxpayer       =   ---------------------------------------------------
A              =   ------------------------------------------------------------------------------------
B              =   -----------------------------------------------------------------------------
C              =   -------------------------
D              =   --------------------
E              =   -----------------------------
State          =   ----------------
Date1          =   --------------------------
Date2          =   ---------------------------
Date3          =   --------------------------
Date4          =   ---------------------------
Property       =   ------------------------------------------------------------------------------------------

Dear -----------------:

      This letter responds to a letter dated September 3, 2015, submitted by Taxpayer
requesting a ruling under section 1400N(d) of the Internal Revenue Code.

FACTS

         Taxpayer represents that the facts are as follows:

         Taxpayer is an individual resident of C.

       A, a State limited liability company, was formed on Date1, under the State
Limited Liability Company Act for the purpose of developing and managing a D
business in E. Taxpayer owns all of the membership interests of A and serves as its

PLR-129769-15                                 2

sole manager. As a single-member limited liability company, A is disregarded as an
entity separate from its owner, Taxpayer, for federal income tax purposes.

       B, a State limited liability company, was formed on Date2, under the State
Revised Limited Liability Company Act. Taxpayer owns all of the membership interests
of B and serves as its sole manager. As a single-member limited liability company, B is
disregarded as an entity separate from its owner, Taxpayer, for federal income tax
purposes.

       A owns the Property. A acquired the Property on or around Date3, and placed
the Property in service on Date4. All of the use of the Property is in the Gulf
Opportunity Zone (GO Zone). At the time of A’s acquisition of the Property and at all
times thereafter, the Property is qualified Gulf Opportunity Zone property (GO Zone
property) under section 1400N(d)(2). On his individual federal income tax return for the
placed-in-service year of the Property, Taxpayer deducted the 50-percent additional first
year depreciation deduction provided under section 1400N(d) (GO Zone bonus
depreciation) for the Property.

      A and B will each restructure its business operations by doing the following
transactions (cumulatively referred to as the “Restructure Transactions”):

         1. A will distribute the Property to Taxpayer.
         2. Upon receiving a distribution of the Property from A, Taxpayer will contribute
the Property to B.
         3. B and A will enter into an operating lease pursuant to which B will lease the
Property to A for use in its D business. This lease is not a triple net lease. B will retain
certain management and maintenance responsibilities with respect to the Property.
Further, Taxpayer will manage and operate the Property for B.
         B was formed for the purpose of acquiring and holding the Property, and leasing
it to A for use in its D business.
         4. Upon distributing the Property to Taxpayer, A will make an election to be an S
corporation. After making the S corporation election, A intends to retain its federal
employer identification number, but it will no longer be disregarded from its owner for
federal income tax purposes.

       The purpose of the Restructure Transactions is to provide additional liability
protections for Taxpayer and A.

RULING REQUESTED

       Taxpayer requests the Internal Revenue Service issue the following ruling:

      The Restructure Transactions will not result in the recapture of any GO Zone
bonus depreciation with respect to the Property under section 1400N(d)(5).

PLR-129769-15                               3

LAW AND ANALYSIS

       Section 1400N(d) generally allows a 50-percent additional first year depreciation
deduction for the taxable year in which GO Zone property is placed in service by a
taxpayer. The computation of the allowable GO Zone bonus depreciation and the
otherwise allowable depreciation deduction for GO Zone property is made in
accordance with rules similar to the rules for 50-percent bonus depreciation property in
section 1.168(k)-1(d)(1)(i), (1)(iii), and (2) of the Income Tax Regulations. See section
2.01 of Notice 2006-77, 2006-2 C.B. 590, as clarified, modified, and amplified by section
5 of Notice 2007-36, 2007-1 C.B. 1000.

       GO Zone property is depreciable property that meets all of the requirements in
section 1400N(d)(2) and in section 2.02 of Notice 2006-77, and is not described in
section 2.03 of Notice 2006-77.

        Section 1400N(d)(5) provides that for purposes of section 1400N(d), rules similar
to the recapture rules under section 179(d)(10) apply with respect to any GO Zone
property that ceases to be GO Zone property. Section 1.179-1(e) provides the
recapture rules under section 179(d)(10).

        Section 6 of Notice 2006-77 provides the rules for applying the recapture
requirement in section 1400N(d)(5). Section 6.02 of Notice 2006-77 provides that if GO
Zone property is no longer GO Zone property in the hands of the same taxpayer at any
time before the end of the GO Zone property’s recovery period as determined under
section 167(f)(1) or section 168, as applicable, then the taxpayer must recapture in the
taxable year in which the GO Zone property is no longer GO Zone property (the
recapture year) the benefit derived from claiming the GO Zone bonus depreciation for
such property. The benefit derived from claiming the GO Zone bonus depreciation for
the property is equal to the excess of the total depreciation claimed (including the GO
Zone bonus depreciation) for the property for the taxable years before the recapture
year over the total depreciation that would have been allowable for the taxable years
before the recapture year as a deduction under section 167(f)(1) or section 168, as
applicable, had the GO Zone bonus depreciation not been claimed (regardless of
whether such excess reduced the taxpayer’s tax liability). The amount to be recaptured
is treated as ordinary income for the recapture year. For the recapture year and
subsequent taxable years, the taxpayer’s deductions under section 167(f)(1) or section
168, as applicable, are determined as if no GO Zone bonus depreciation was claimed
with respect to the property. If, subsequent to the recapture year, a change in use of
the property results in the property again being GO Zone property, then the GO Zone
bonus depreciation is not allowable for the property.

      In this case, the Property is nonresidential real property. Before the Restructure
Transactions, the Property is owned by A. Because A is a disregarded entity for federal

PLR-129769-15                                 4

income tax purposes, Taxpayer is treated as the owner of the Property for federal
income tax purposes.

        After the Restructure Transactions, the Property will be owned by B. Because B
is a disregarded entity for federal income tax purposes, Taxpayer will continue to be
treated as the owner of the Property for federal income tax purposes. Accordingly, the
Property is in the hands of the same taxpayer before and after the Restructure
Transactions.

       The issue in this case is whether the Property is used in the active conduct of a
trade or business by B and Taxpayer in the GO Zone after the Restructure Transactions
in accordance with section 1400N(d)(2)(A)(ii).

         Section 3.02 of Notice 2006-77 provides the rules applicable to the “active
conduct of a trade or business” requirement in section 1400N(d)(2)(A)(ii). Solely for
purposes of section 1400N(d)(2)(A)(ii), section 3.02(2) of Notice 2006-77 provides that
the determination of whether a trade or business is actively conducted by the taxpayer
is to be made based on all of the facts and circumstances. A taxpayer generally is
considered to actively conduct a trade or business if the taxpayer meaningfully
participates in the management or operations of the trade or business. Furthermore, for
purposes of section 1400N(d)(2)(A)(ii), a member of a limited liability company is
considered to actively conduct a trade or business of the limited liability company if the
limited liability company meaningfully participates (through the activities performed by
itself, or by others on behalf of the limited liability company) in the management or
operations of a trade or business.

        In this case, all of the use of the Property is in the GO Zone before and after the
Restructure Transactions. After the Restructure Transactions, B will use the Property in
B’s rental real estate business. B will lease the Property to A for use in its D business.
Taxpayer represents that (i) this lease is an operating lease and is not a triple net lease,
and (ii) Taxpayer will manage and operate the Property for B. Because Taxpayer
manages and operates the Property and the lease between B and A with respect to the
Property is an operating lease and is not a triple net lease, B and Taxpayer
meaningfully participate in the management and operation of the Property for purposes
of section 3.02(2) of Notice 2006-77. Accordingly, the Property is used in the active
conduct of a trade or business by B and Taxpayer in the GO Zone after the Restructure
Transactions. See Examples 1, 3, and 4 in section 3.02(3) of Notice 2006-77.

CONCLUSION

        Based solely on Taxpayer’s representations and the relevant law and analysis
set forth above, we conclude that the Restructure Transactions will not result in the
recapture of any GO Zone bonus depreciation with respect to the Property under
section 1400N(d)(5).

PLR-129769-15                                5

       Except as specifically set forth above, no opinion is expressed or implied
concerning the tax consequences of the facts described above under any other
provisions of the Code (including other subsections of section 1400N(d)). Specifically,
no opinion is expressed or implied on whether the Property is GO Zone property that
meets all of the requirements in section 1400N(d)(2) and in section 2.02 of Notice 2006-
77, as clarified, modified, and amplified by section 5 of Notice 2007-36.

      In accordance with the power of attorney, we are sending a copy of this letter to
Taxpayer’s authorized representative. We are also sending a copy of this letter to the
appropriate Service official.

      This letter ruling is directed only to the taxpayer requesting it. Section 6110(k)(3)
provides that it may not be used or cited as precedent.

                                                 Sincerely,

                                                 Kathleen Reed

                                                 Kathleen Reed
                                                 Branch Chief, Branch 7
                                                 Office of Associate Chief Counsel
                                                 (Income Tax and Accounting)

Enclosures (2):
      copy of this letter
      copy for section 6110 purposes