Internal Revenue Service
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 Rev. Rul. 79-34

1979-1 C.B. 285

Section 736

IRS Headnote

Partnership retirement plan; payments made in following year. Payments made by a partnership retirement plan to a retired partner from current partnership earnings are excepted from "net earnings from self-employment" for purposes of section 1402(a) of the Code even though receipt of part of the payments is deferred until shortly after the beginning of the following year.

Full Text

Rev. Rul. 79-34

ISSUE

Are payments made by a partnership retirement plan to a retired partner from current partnership earnings excepted from the term "net earnings from self-employment" for purposes of section 1402(a) of the Internal Revenue Code of 1954 if receipt of part of the payments is deferred until shortly after the beginning of the following year?

FACTS

The ABC partnership written agreement provides for payments to retired partners. Under the provisions of the agreement a partner may retire from active participation in partnership affairs at the expiration of any taxable year of the partnership after the partner has reached age 65. Each retiring partner is paid (1) the partner's distributive share of profits less all drawings and other items properly chargeable against the partner's account for the taxable year at the end of which the partner retired; (2) the partner's full share of partnership capital on the date the partner retired; and (3) a continuing share in the profits of the partnership until death measured by the partner's former percentage of participation.

Retired partners receive a monthly draw based upon a projection of the partnership's earnings. After the end of the partnership's taxable year, an adjustment is made so that the total payments for such taxable year conform to the retired partner's distributive share of the partnership's earnings.

A, a partner in the ABC partnership, retired from the partnership as of the close of December 31, 1976. The taxable year of both A and the partnership is the calendar year. During the partnership's taxable year ending December 31, 1977, A rendered no service with respect to any trade or business carried on by the partnership and A's share of the capital of the partnership had been paid to A. During 1977 A received a monthly draw of 2x dollars, totaling 24x. A's distributive share of the partnership's income is 30x dollars. The excess of 6x dollars was unpaid as of December 31, 1977, but was paid shortly after the beginning of the calendar year 1978.

LAW AND ANALYSIS

Section 736(a)(1) of the Code provides that payments made in liquidation of the interest of a retiring part-as provided in section 736(b), be conner or a deceased partner shall, except sidered as a distributive share to the recipient of partnership income if the amount thereof is determined with regard to the income of the partnership. come Tax Regulations provides that payments, to the extent considered as a distributive share of partnership income under section 736(a)(1) of the Code, are taken into account under

Section 1.736-1(a)(4) of the In-section 702 in the income of the withdrawing partner and thus reduce the amount of the distributive shares of the remaining partners.

Section 1.736-1(a)(5) of the regulations states that the amount of any payments under section 736 of the Code shall be included in the income of the recipient for the recipient's taxable year with or within which ends the partnership taxable year for which the payment is a distributive share.

Section 1402(a) of the Code provides that the term "net earnings from self-employment" includes the distributive share of income derived by an individual from any "trade or business" carried on by a partnership of which the individual is a member.

Section 1402(a)(10) of the Code excludes from the term "net earnings from self-employment" amounts received by a partner pursuant to a written plan of the partnership that provides for payments on account of retirement on a periodic basis to partners, such payments to continue at least until the retired partner's death. The exclusion is based on the following conditions: (A) That such partner rendered no services with respect to any trade or business carried on by such partnership during the taxable year of such partnership, ending within or with the partner's taxable year, in which such amounts were received, and (B) no obligations exist (as of the close of the partnership's taxable year referred to in (A)) from the other partners to such partner except with respect to retirement payments under such plan, and (C) such partner's share, if any, of the capital of the partnership has been paid to the partner in full before the close of the partnership's taxable year referred to in (A).

Section 1.1402(a)-17 of the regulations provides that the effect of the conditions is that the exclusion may apply with respect to payments received by a retired partner during the taxable year only if at the close of the partnership's taxable year the retired partner has no financial interest in the partnership except for the right to retirement payments.

For purposes of section 1402(a)(10) of the Code, "payments" on account of retirement, on a periodic basis, are considered to be payments made in the year such amounts are includible in the retired partner's income and not in the year the amounts are distributed to the retired partner.

In the instant case, the 30x dollars are Code section 736(a)(1) payments and are A's distributive share to be included in A's return for calendar year 1977.

The 6x dollars unpaid at the close of the partnership's taxable year is an integral part of the partnership's retirement plan. Despite deferral of its payment for a short time after year end, the 6x dollars is not an obligation within the intent of section 1402(a)(10)(B) of the Code, but is a retirement payment. For purposes of section 1402(a)(10), the 30x dollars are considered to be payments made in 1977.

HOLDING

The "payments" of 30x dollars made by the partnership to A during the taxable year 1977 under the partnership's retirement plan are excepted from the term "net earnings from self-employment" for purposes of section 1402(a) of the Code.