Does Illinois tax a resident partner's full guaranteed payment even if it was earned from real estate sales in other states?

Plain-English summary

A partnership asked the Illinois Department of Revenue how to handle guaranteed payments (commissions on real estate sales) earned by its partners across various states. One partner, an Illinois resident, earned all of his guaranteed payments by selling Illinois real estate and had never even visited the other states where the partnership operates. The partnership wanted to know: are guaranteed payments allocable only to the state where the commission was earned, or apportioned based on the partnership's total multi-state sales activity?

IDOR's answer turns on how guaranteed payments are classified. Under IRC Section 707(c) and Treas. Reg. Section 1.707-1(c), a guaranteed payment is treated as a payment to someone outside the partnership only for narrow purposes (gross income and trade-or-business expense rules). For virtually every other purpose, it is treated as the receiving partner's own distributive share of ordinary partnership income — not as a third-party payment tied to a particular sale or location.

That classification decides the case. IITA Section 301(a) allocates all items of income of an Illinois resident to Illinois, without qualification. Because a guaranteed payment received by a resident partner is legally his own distributive share of income, Section 301(a) sweeps it in entirely, regardless of where the sales activity that generated it took place. It would not have mattered if the payment had been earned entirely from out-of-state property sales instead — the resident partner's guaranteed payments are fully allocated to Illinois either way. If the partner also owes tax to another state on the same income, he can claim a credit using Illinois Schedule CR (Credit for Tax Paid to Other States) with his Form IL-1040.

This is a General Information Letter (GIL), issued under 2 Ill. Adm. Code 1200.120(b) and (c). It is not a statement of Department policy and is not binding on the Department.

What this means for you

Multi-state partners and real-estate professionals

If you are an Illinois resident earning guaranteed payments (such as real-estate sales commissions) through a multi-state partnership, expect Illinois to tax the full amount of those payments no matter which state the underlying sales activity occurred in. The "apportion based on where you earned it" idea does not apply to you as a resident — residency, not the location of the sale, is what controls. A credit for tax paid to another state on the same income may reduce double taxation, but it doesn't change the fact that Illinois allocates the entire payment to you in the first place.

Accountants and tax preparers

For a resident partner, do not apply the nonresident apportionment rule in IITA Section 305(a) — that provision governs how nonresident partners' shares of partnership business income are apportioned to Illinois, and it simply does not apply here because the partner is a resident. Instead, guaranteed payments to a resident partner are governed by IITA Section 301(a), which allocates all of the resident's income (including guaranteed payments, which IRC Section 707(c) and Treas. Reg. Section 1.707-1(c) treat as the partner's own distributive share) to Illinois in full. If the client paid tax to another state on the same guaranteed payments, prepare Schedule CR (Credit for Tax Paid to Other States) with the Form IL-1040 to mitigate double taxation.

Common questions

Q: Does it matter that the guaranteed payments were earned entirely from Illinois real estate sales?
A: No. IDOR's ruling would be the same either way. Because the partner is an Illinois resident, IITA Section 301(a) allocates all of his income to Illinois regardless of where the sales activity underlying the guaranteed payments took place — whether in Illinois or another state.

Q: Why doesn't the partnership apportion the guaranteed payment based on its multi-state sales activity?
A: Apportionment based on a partnership's multi-state activity applies to partners who are not Illinois residents, under IITA Section 305(a). That rule doesn't apply to a resident partner. For a resident, IITA Section 301(a) allocates all income to Illinois, full stop.

Q: Why are guaranteed payments treated as the partner's own income rather than a payment from the partnership?
A: Under IRC Section 707(c) and Treas. Reg. Section 1.707-1(c), guaranteed payments are treated as payments to someone outside the partnership only for limited purposes (gross income and certain trade-or-business expense provisions). For most other purposes, including this Illinois allocation question, they are regarded as the receiving partner's own distributive share of ordinary partnership income.

Q: Can the resident partner avoid being taxed twice if another state also taxes the same income?
A: He may be able to claim a credit for tax paid to that other state by completing Illinois Schedule CR (Credit for Tax Paid to Other States) and attaching it to his Form IL-1040.

Q: Is this ruling binding on the Department?
A: No. This is a General Information Letter (GIL) issued under 2 Ill. Adm. Code 1200.120(b) and (c). A GIL is designed to provide general information; it is not a statement of Department policy and is not binding on the Department.

Citations and references

Statutes and regulations:

• IITA Section 301(a) (35 ILCS 5/301(a)) — allocates all items of income of an Illinois resident to Illinois
• IITA Section 305(a) (35 ILCS 5/305(a)) — apportionment of partnership business income by partners other than residents (does not apply to a resident partner)
• IRC Section 707(c) — defines guaranteed payments
• Treas. Reg. Section 1.707-1(c) — guaranteed payments regarded as the receiving partner's distributive share of ordinary income for most purposes

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2022.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2022/it22-0006-gil.pdf

Original ruling text

IT-22-0006 04/15/2022 ALLOCATION - GUARANTEED PAYMENTS FROM
PARTNERSHIP TO RESIDENT
Resident partners include guaranteed payments in Illinois base income.
(This is a GIL.)
April 15, 2022
Re:

Illinois income tax

Dear NAME:
This is in response to your letter received March 2, 2022, in which you request
information regarding Illinois income tax. The nature of your request and the
information you have provided require that we respond with a General
Information Letter (“GIL”), which is designed to provide general information, is not
a statement of Department policy, and is not binding on the Department. See 2
Ill. Adm. Code 1200.120(b) and (c), which may be found on the Department’s
web site at www.tax.illinois.gov.
Your letter states as follows:
Please advise regarding state tax apportionment of guaranteed payments
for commission on sale of real estate.
We have partners earning a guaranteed payment (commission) for sale of
real estate in various states. Does the state of Illinois handle these
payments as allocable to the state the commission was earned in or
apportioned based on total sales of partnership?
We have an Illinois partner who has never even been to other states we
operate in who earned all his guaranteed payments by selling Illinois
property and we are questioning if this should be by apportionment based
on the partnership activity in various states or directly allocated to Illinois.
Thank you for your guidance.
RULING
Section 707(c) of the Internal Revenue Code (“IRC”) provides for the definition of
guaranteed payments:
To the extent determined without regard to the income of the partnership,
payments to a partner for services or the use of capital shall be
considered as made to one who is not a member of the partnership, but
only for the purposes of section 61(a) (relating to gross income) and,
subject to section 263, for purposes of section 162(a) (relating to trade or
business expenses).
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Treasury Regulation Section 1.707-1(c) further provides that:
Guaranteed payments are considered as made to one who is not a
member of the partnership only for the purposes of section 61(a)(relating
to gross income) and section 162(a)(relating to trade or business
expenses) . . . For the purposes of other provisions of the internal revenue
laws, guaranteed payments are regarded as a partner’s distributive share
of ordinary income. Thus, a partner who receives guaranteed payments
for a period during which he is absent from work because of personal
injuries or sickness is not entitled to exclude such payments from his
gross income under section 105(d). Similarly, a partner who receives
guaranteed payments is not regarded as an employee of the partnership
for the purposes of withholding of tax at source, deferred compensation
plans, etc.
The “ordinary income” of a partnership referred to in this regulation is the
partnership’s income excluding amounts required to be separately taken into
account by the partners, such as capital gains and losses, dividends, charitable
deductions, etc. See Sections 702(a) and Section 703(a) of the IRC.
Section 301 of the Illinois Income Tax Act (“IITA”, 35 ILCS 5/101 et seq.)
provides the general rule for allocation and apportionment of base income:
(a) Residents. All items of income or deduction which were taken into
account in the computation of base income for the taxable year by a
resident shall be allocated to this State.
(b) Part-year residents. All items of income or deduction which were taken
into account in the computation of base income for the taxable year by a
part-year resident shall, for that part of the year the part-year resident was
a resident of this State, be allocated to this State and, for the remaining
part of the year, be allocated to this State only to the extent provided by
Section 302, 303 or 304 (relating to compensation, nonbusiness income
and business income, respectively).
(c) Other persons.
(1) In general. Any item of income or deduction which was taken
into account in the computation of base income for the taxable year
by any person other than a resident and which is referred to in
Section 302, 303 or 304 (relating to compensation, nonbusiness
income and business income, respectively) shall be allocated to
this State only to the extent provided by such section.
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(2) Unspecified items. Any item of income or deduction which was
taken into account in the computation of base income for the
taxable year by any person other than a resident and which is not
otherwise specifically allocated or apportioned pursuant to Section
302, 303 or 304 (including, without limitation, interest, dividends,
items of income taken into account under the provisions of Sections
401 through 425 of the Internal Revenue Code, and benefit
payments received by a beneficiary of a supplemental
unemployment benefit trust which is referred to in Section
501(c)(17) of the Internal Revenue Code):
(A) in the case of an individual, trust, or estate, shall not be
allocated to this State; and
(B) in the case of a corporation or a partnership, shall be
allocated to this State if the taxpayer had its commercial
domicile in this State at the time such item was paid,
incurred or accrued.
Section 1501(a)(20) of the IITA defines “resident” as:
A. An individual (i) who is in this State for other than a temporary or
transitory purpose during the taxable year; or (ii) who is domiciled in
this State but is absent from the State for a temporary or transitory
purpose during the taxable year;
B. The estate of a decedent who at his or her death was domiciled in
this State;
C. A trust created by the will of a decedent who at his death was
domiciled in this State; and
D. An irrevocable trust, the grantor of which was domiciled in this
State at the time such trust became irrevocable. For purpose of
this subparagraph, a trust shall be considered irrevocable to the
extent that the grantor is not treated as the owner thereof under
Sections 671 through 678 of the Internal Revenue Code.
86 Ill. Admin. Code 100.3020 provides further guidance on the IITA definition of
resident.
Section 1501(a)(14) of the IITA defines “nonresident” as a person who is not a
resident.
Section 305 of the IITA in relevant part provides:
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(a) Allocation of partnership business income by partners other than
residents. The respective shares of partners other than residents in so
much of the business income of the partnership as is allocated or
apportioned to this State in the possession of the partnership shall be
taken into account by such partners pro rata in accordance with their
respective distributive shares of such partnership income for the
partnership’s taxable year and allocated to this State.
(b) Allocation of partnership nonbusiness income by partners other than
residents. The respective shares of partners other than residents in the
items of partnership income and deduction not taken into account in
computing the business income of a partnership shall be taken into
account by such partners pro rata in accordance with their respective
distributive shares of such partnership income for the partnership’s taxable
year, and allocated as if such items had been paid, incurred or accrued
directly to such partners in their separate capacities.
(c) Allocation or apportionment of base income by partnership. Base
income of a partnership shall be allocated or apportioned to this State
pursuant to Article 3, in the same manner as it is allocated or apportioned
for any other nonresident.
The allocation and apportionment of base income by nonresident partners is
further outlined in 86 Ill. Admin. Code 100.3500. Section 100.3500(a)(4)
provides:
Except as provided in this subsection (a), all items of base income of a
partner that are derived from the partnership shall be allocated or
apportioned pursuant to this Section, including all items required to be
separately stated to the partner under IRC section 703(a)(1), all
guaranteed payments under IRC section 707(c), and all addition and
subtraction modifications, but excluding items described in IRC section
707(a).
Therefore, nonresident partners apportion guaranteed payments to Illinois based
on the apportionment factor of the partnership. Resident partners include the
guaranteed payments in Illinois base income. You represent in your ruling
request the partner in question is an Illinois resident. If you determine that the
partner meets the IITA definition of “resident”, then the partner would allocate the
guaranteed payments to Illinois. To claim credit for any taxes paid to other
states, a resident should complete and attach Schedule CR, Credit for Tax Paid
to Other States, to their Form IL-1040, Individual Income Tax Return.

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As stated above, this is a GIL. A GIL does not constitute a statement of
Department policy that applies, interprets or prescribes the tax laws, and it is not
binding on the Department.
Sincerely,
Jennifer Uhles
Associate Counsel (Income Tax)

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