If a public REIT owns Tennessee rental-property LLCs and limited partnerships through a partnership, and those entities are disregarded for federal tax, can they deduct from Tennessee excise tax the earnings the partnership distributes up to the REIT?

Plain-English summary

A public real estate investment trust (the "Public REIT," defined in § 67-4-2004(39)) owns a controlling interest in — and is the sole general partner of — a limited partnership (the "Partnership"). The Partnership in turn owns several limited liability companies and limited partnerships (the "Taxpayers") that lease out residential real estate in Tennessee. Each year the Partnership distributes its net earnings — which include the Taxpayers' net earnings — up to the Public REIT.

Federally, the Partnership is a partnership, and each Taxpayer has a single owner (the Partnership) and did not elect to be taxed as a corporation, so each Taxpayer is disregarded as a separate entity. For Tennessee franchise and excise tax, though, each Taxpayer is treated as a separate entity and files its own return. None of the Taxpayers is owned by a "captive REIT" (§ 67-4-2004(7)).

The question: can the Taxpayers take the Tennessee excise-tax deduction in § 67-4-2006(a)(5)(A) for the net earnings the Partnership distributes (directly or indirectly) to the Public REIT?

The ruling: Yes. Tennessee imposes a 6.5% excise tax on net earnings (§ 67-4-2007(a)) and generally makes each entity file separately (§ 67-4-2007(e)(1)). But § 67-4-2006(a)(5)(A) lets a taxpayer deduct from its net earnings any amount distributed directly or indirectly to a public REIT, as long as the taxpayer is "treated as a partnership for federal tax purposes that is directly or indirectly owned by a public REIT." Under the federal entity-classification rules (Treas. Reg. § 301.7701-2(a)), a single-owner entity that doesn't elect corporate status is disregarded, and a disregarded entity's activities are treated the same as a division of its owner. So each Taxpayer is treated as a division of the Partnership — and the Partnership is a partnership owned by the Public REIT. That makes each Taxpayer a "partnership... owned by a public REIT" for this deduction, so each may reduce its net earnings by what is distributed to the REIT.

The Department added a related point: a taxpayer treated as a partnership federally that distributes 100% of its net earnings or losses to a public REIT is entirely exempt from the Tennessee excise tax under § 67-4-2019.

What this means for you

REIT structures that hold Tennessee real estate through partnerships and disregarded entities

If a public REIT owns Tennessee operating entities through a partnership, and those operating entities are single-owner LLCs or LPs disregarded for federal tax, they are treated as divisions of the partnership. That lets each one take the § 67-4-2006(a)(5)(A) excise deduction for earnings distributed up to the REIT — and a full 100% distribution makes the entity exempt from the excise tax altogether (§ 67-4-2019). The deduction follows the money distributed "directly or indirectly," so a multi-tier structure still works.

Why the federal disregarded status was the key

Tennessee makes each of these entities file its own franchise-and-excise return (separate-entity rule, § 67-4-2007(e)(1)). That separate-filing rule did not defeat the deduction, because the deduction's eligibility test asks about the entity's federal classification ("treated as a partnership for federal tax purposes"). Being disregarded federally — i.e., a division of a partnership owner — satisfied it. Watch the two facts that drove the result: a single owner and no Form 8832 election to be a corporation. Changing either could change the answer.

Accountants and tax professionals

The deduction in § 67-4-2006(a)(5)(A) — and the 100%-distribution exemption in § 67-4-2019 — turn on federal entity classification under Treas. Reg. § 301.7701-2(a): single-member, non-electing entities are disregarded and treated as divisions of the owner. Confirm "public REIT" status (§ 67-4-2004(39)) and that no "captive REIT" (§ 67-4-2004(7)) sits in the chain. Note this is a different deduction from the dividends-style deduction analyzed in Revenue Ruling 19-02 (which, for its own direct-ownership test, honored only single-member LLC disregard) — here the test is a straightforward federal partnership classification.

Common questions

Q: Can a disregarded LLC or LP that a REIT owns through a partnership take the Tennessee REIT distribution deduction?
A: In this ruling, yes. Because each entity had a single owner and didn't elect corporate status, it was disregarded federally and treated as a division of the partnership — a "partnership... owned by a public REIT" — so it qualified for the § 67-4-2006(a)(5)(A) deduction for earnings distributed up to the REIT.

Q: Does Tennessee's separate-entity filing rule block the deduction?
A: No. Even though each entity files its own Tennessee franchise-and-excise return, the deduction's eligibility looks to the entity's federal classification, and federal disregarded status (a division of the partnership) satisfied it.

Q: What if an entity distributes everything to the REIT?
A: A taxpayer treated as a partnership federally that distributes 100% of its net earnings or losses to a public REIT is entirely exempt from the Tennessee excise tax under § 67-4-2019.

Q: Can I rely on this letter ruling?
A: No. A Tennessee letter ruling is binding on the Department only as to the specific taxpayer and facts it was issued to, and it can be revoked or modified. Confirm your own structure with a tax professional.

Citations and references

Tennessee statutes (Tenn. Code Ann.):

• § 67-4-2006(a)(5)(A) (excise-tax deduction for amounts distributed directly or indirectly to a public REIT by a taxpayer treated as a partnership for federal tax purposes that is owned by a public REIT)
• § 67-4-2019 (excise-tax exemption for a taxpayer treated as a partnership federally that distributes 100% of its net earnings or losses to a public REIT)
• § 67-4-2007(a) (6.5% excise tax on net earnings); § 67-4-2007(e)(1), § 67-4-2106(c) (separate-entity filing); § 67-4-2105(a), § 67-4-2106(a) (franchise tax of $0.25 per $100 of net worth)
• § 67-4-2004(38) (persons subject to the franchise and excise taxes); § 67-4-2004(39) ("public REIT"); § 67-4-2004(7) ("captive REIT")

Federal authority:

• Treas. Reg. § 301.7701-2(a) (26 C.F.R. § 301.7701-2) (entity classification — a single-owner entity not electing corporate status is disregarded and its activities are treated as a division of the owner); IRS Form 8832 (Entity Classification Election)

Related guidance:

• Tenn. Dep't of Revenue Rev. Rul. 19-02 (disregarded-entity classification for the franchise & excise dividends deduction — a different deduction governed by a direct-ownership test)

Source

• Landing page: https://www.tn.gov/revenue/tax-resources/legal-resources/tax-rulings.html
• Original PDF: https://www.tn.gov/content/dam/tn/revenue/documents/rulings/fae/18-03fe.pdf

Original ruling text

Letter rulings are binding on the Department only with respect to the individual taxpayer
being addressed in the ruling. This ruling is based on the particular facts and circumstances
presented, and is an interpretation of the law at a specific point in time. The law may have
changed since this ruling was issued, possibly rendering it obsolete. The presentation of this
ruling in a redacted form is provided solely for informational purposes, and is not intended as
a statement of Departmental policy. Taxpayers should consult with a tax professional before
relying on any aspect of this ruling.

The application of the Tennessee excise tax deduction for distributions made by a partnership to a
public REIT that include net earnings or losses of the partnership’s subsidiaries.

This letter ruling is an interpretation and application of the tax law as it relates to a specific set of
existing facts furnished to the Department by the taxpayer. The rulings herein are binding upon the
Department, and are applicable only to the individual taxpayer being addressed.
This letter ruling may be revoked or modified by the Commissioner at any time. Such revocation or
modification shall be effective retroactively unless the following conditions are met, in which case
the revocation shall be prospective only:
(A)

The taxpayer must not have misstated or omitted material facts involved in the
transaction;

(B)

Facts that develop later must not be materially different from the facts upon
which the ruling was based;

(C)

The applicable law must not have been changed or amended;

(D)

The ruling must have been issued originally with respect to a prospective or
proposed transaction; and

(E)

The taxpayer directly involved must have acted in good faith in relying upon the
ruling; and a retroactive revocation of the ruling must inure to the taxpayer’s
detriment.

[Public REIT] (the “Public REIT”) is a public real estate investment trust, as defined in TENN. CODE ANN.
§ 67-4-2004(39) (Supp. 2017). The Public REIT owns a controlling interest in [Partnership, L.P.] (the

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“Partnership”) and is its sole general partner. The Partnership in turn owns several limited liability
companies and limited partnerships (the “Taxpayers”) that operate as lessors of residential property
in Tennessee. The Taxpayers own real property in Tennessee, but the Public REIT has no contacts in
Tennessee beyond the Taxpayers’ activities. The Partnership makes annual distributions of its net
earnings to the Public REIT, which include the Taxpayers’ net earnings.
The Partnership is classified as a partnership for federal tax purposes. Each Taxpayer is treated as
having a single owner and is disregarded as a separate entity for federal tax purposes. For
Tennessee franchise and excise tax purposes, the Taxpayers are treated as separate entities and
each files its own franchise and excise tax return. None of the Taxpayers are owned by captive REITs,
as defined in TENN. CODE ANN. § 67-4-2004(7) (Supp. 2017).

Do the Taxpayers qualify for the excise tax deduction under TENN. CODE ANN. § 67-4-2006(a)(5)(A)
(Supp. 2017) for distributions the Partnership makes to the public REIT, which include the Taxpayers’
net earnings?
Ruling: Yes. The Taxpayers qualify for the deduction under TENN. CODE ANN.
§ 67-4-2006(a)(5)(A) because they are treated as a division of the Partnership for federal
income tax purposes.

Tennessee imposes an excise tax at the rate of 6.5% on the net earnings of all persons doing
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business in Tennessee. Tennessee also imposes a franchise tax at the rate of $0.25 per $100, or
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major fraction thereof, on the net worth of a person doing business in Tennessee. Persons subject
to the Tennessee franchise and excise taxes include, but are not limited to, corporations, REITs,
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limited liability companies, and limited partnerships. With certain limited exceptions, each taxpayer
is considered a “separate and single business entity” and must file its Tennessee franchise and
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excise tax return on a separate entity basis.
For Tennessee excise tax purposes, a taxpayer may deduct from net earnings or loss any amount
“distributed either directly or indirectly to a public REIT,” provided that the taxpayer is “treated as a
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partnership for federal tax purposes that is directly or indirectly owned by a public REIT.”
Additionally, a taxpayer that is “treated as a partnership for federal tax purposes” and “directly or
indirectly distributes one hundred percent (100%) of its net earnings or net losses to a public REIT” is
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entirely exempt from the Tennessee excise tax.
1

TENN. CODE ANN. § 67-4-2007(a) (Supp. 2017).

2

TENN. CODE ANN. §§ 67-4-2105(a) and -2106(a) (2013 & Supp. 2017). This ruling does not address the Taxpayers’ liability for
franchise tax. As of the date of this letter, however, the Taxpayers are registered for and pay Tennessee franchise tax.
3

TENN. CODE ANN. § 67-4-2004(38) (Supp. 2017).

4

TENN. CODE ANN. §§ 67-4-2007(e)(1), -2106(c) (2013 & Supp. 2017).

5

TENN. CODE ANN. § 67-4-2006(a)(5)(A) (Supp. 2017).

6

TENN. CODE ANN. § 67-4-2019 (2013).

2

Treas. Reg. § 301.7701-2(a) (2016) clarifies the federal treatment of various business entities, stating
that “[a] business entity with two or more members is classified for federal tax purposes as either a
corporation or partnership. A business entity with only one owner is classified as a corporation or is
disregarded; if the entity is disregarded, its activities are treated in the same manner as a … division
of the owner.”
The Taxpayers are described as limited partnerships and limited liability companies with one owner,
the Partnership. Under Treas. Reg. § 301.7701-2(a), the Taxpayers will be classified as either a
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corporation or will be disregarded for federal income tax purposes. None of the Taxpayers have
elected to be classified as a corporation by filing Form 8832 (Entity Classification Election). Thus,
each Taxpayer is disregarded for federal tax purposes. Being an entity that is disregarded as
separate from its owner for federal tax purposes is not in and of itself a classification, but instead, a
default whereby the entity’s federal tax treatment is the same as its owner’s classification. As
disregarded entities, the Taxpayers are treated as divisions of the Partnership and therefore qualify
as partnerships owned by the Public REIT.
Accordingly, the Taxpayers qualify for the deduction under TENN. CODE ANN. § 67-4-2006(a)(5)(A) and
may reduce their net earnings by any amount distributed directly or indirectly to the Public REIT. If a
Taxpayer distributes 100% of its net earnings or losses to the Public REIT, it qualifies for the excise
tax exemption under TENN. CODE ANN. § 67-4-2019.

Courtney Swim
Assistant General Counsel

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APPROVED:

David Gerregano
Commissioner of Revenue

DATE:

8/13/18

26 C.F.R. § 301.7701-2.

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