Blanco Investments & Land, Ltd. v. Comm'r of Internal Revenue, Docket No. 14022-87

• Decision Date: 10 December 1987
• Docket Number: Docket No. 14022-87
• Citation: 89 T.C. 1169,89 T.C. No. 82
• Parties: BLANCO INVESTMENTS & LAND, LTD., JACK M. LITTLE, TAX MATTERS PERSON, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent
• Court: U.S. Tax Court

89 T.C. 1169

89 T.C. No. 82

BLANCO INVESTMENTS & LAND, LTD., JACK M. LITTLE, TAX MATTERS PERSON, Petitioner

v.COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 14022-87

United States Tax Court

Filed December 10, 1987.

P is the tax matters person of B, an S corporation which, during its 1983 taxable year, had only one shareholder. R examined B's Federal income tax return pursuant to the S corporation audit and litigation procedures, section 6241 et seq., and issued a Notice of Final S Corporation Administrative Adjustment (‘FSAA‘). The partnership audit and litigation procedures were, in general, grafted onto the S corporation audit and litigation procedures except as modified or made inapplicable by regulations. In 1983, there were no regulation s under the S corporation audit and litigation procedures. HELD, the small partnership exception set forth in section 6231(a)(1)(B), which exempts partnerships with 10 or fewer partners from the partnership audit and litigation procedures, ‘relate »s†‘ to partnership items and, therefore, is made applicable to S corporation audits by section 6244(2). Consequently, the statute mandates an exception for small S corporations. HELD FURTHER, R's failure to promulgate regulations does not eliminate that exception. HELD FURTHER, due to the differences between S corporations and partnerships, the statute does not contemplate a small S corporation exceptions et at 10 shareholders, and we will not sit as the tax administrator in choosing the appropriate number. Nevertheless, because the statute mandates that a small S corporation exception exist, it exists for S corporations with one shareholder. B was exempt from the S corporation audit and litigation procedures in 1983 . HELD FURTHER, the FSAA is invalid and we lack jurisdiction. Frank L. Swan, for the petitioner.

William Sabin and Henry Schneiderman, for the respondent.

OPINION

WILLIAMS, Judge:

This case is before us on petitioner's motions to dismiss for lack of jurisdiction and for litigation costs. The Commissioner determined adjustments to Blanco Investments & Land, Ltd.'s (‘Blanco‘) S corporation return for its 1983 taxable year as set forth in a Notice of Final S Corporation Administrative Adjustment.

Petitioner contends that Blanco was exempt from the S corporation audit and litigation procedures of subchapter D of chapter 63 of subtitle F, section 6241 et seq., ¹ in 1983 because it had only one shareholder. Respondent argues that there was no small S corporation exception in 1983. We must decide whether and to what extent section 6244 incorporates into the S corporation audit and litigation procedures, section 6241 et seq., the small partnership exception to the partnership audit and litigation procedures, section 6221 et seq., set forth in section 6231(a)(1)(B).

A hearing was held on petitioner's motions on October 21, 1987 at Washington, D.C. Petitioner filed a Statement in Lieu of Appearance pursuant to Rule 50(c) on October 19, 1987. The relevant facts are not in dispute.

Petitioner, Jack M. Little, is the Tax Matters Person of Blanco, a corporation organized under the laws of the State of California and having its principal place of business at Laguna Hills, California. Blanco elected to be taxed as a subchapter S corporation during the year in issue. See section 1362(a).

In 1983, Blanco had only one shareholder, William T. White, III. White's 1983 income tax return consistently reports the information obtained from the Schedule K-1 issued by Blanco. On August 9, 1985, respondent commenced an examination of Blanco's 1983 S corporation return pursuant to the S corporation audit and litigation procedures, section 6241 et seq. On February 20, 1987, respondent mailed a Notice of Final S Corporation Administrative Adjustment (‘FSAA‘) to petitioner, proposing changes to Blanco's S corporation return for 1983.

Petitioner timely filed a petition with this Court on May 19, 1987, seeking readjustment of respondent's determinations set forth in the FSAA. On May 22, 1987, petitioner filed a Motion to Dismiss for Lack of Jurisdiction on the ground that Blanco was exempt from the S corporation audit and litigation procedures as a small S corporation. Petitioner concurrently filed a Motion for Litigation Costs. On September 4, 1987, respondent filed his Notice of Objection to petitioner's Motion to Dismiss and Memorandum in support thereof. Respondent also filed a Notice of Objection to petitioner's Motion for Litigation Costs on the ground that the Motion was premature under Rule 231(a)(2) ² because the Court had not ruled on petitioner's Motion to Dismiss.

The S corporation audit and litigation procedures, section 6241 et seq., were added to the Code in 1982 to provide a method for unified treatment of subchapter S items among the shareholders. Subchapter S Revision Act of 1982, Pub.L. 97-354, section 4(a), 96 Stat. 1691-1692; see S. Rept. No. 97-640, 97th Cong., 2d Sess. 25 (1982), 1982-2 C.B. 718, 729. A ‘subchapter S item‘ is ‘any item of an S corporation to the extent regulations prescribed by the Secretary provide that, for purposes of this subtitle, such item is more appropriately determined at the corporate level than at the shareholder level. ‘ Section 6245. The tax treatment of subchapter S items, except as otherwise provided by regulations, is determined at the corporate level. Section 6241. Each shareholder in an S corporation must ‘be given notice of, and the right to participate in, any administrative or judicial proceeding for the determination at the corporate level of any subchapter S item.‘ Section 6243.

The Subchapter S Revision Act of 1982, supra, was enacted shortly after the Tax Equity and Fiscal Responsibility Act of 1982, Pub.L. 97-248, 96 Stat. 324, which added the partnership audit and litigation procedures, section 6221 et seq., to the Code. Section 6244 ³ makes certain provisions of the partnership audit and litigation procedures applicable to S corporations except as modified or made inapplicable by regulations. There were no regulations under the S corporation audit procedures in 1983.

On January 30, 1987, respondent issued temporary regulations ⁴ providing special rules for the treatment of certain small S corporations. The regulations are effective for ‘any taxable year of an S corporation the due date of the return for which (determined without regard to extensions) is on or after January 30, 1987.‘ Section 301.6241-1T(c)(2)(i), Temp. Proced. and Admin. Regs., 52 Fed. Reg. 3003 (January 30, 1987).

Petitioner argues that section 6231(a)(1)(B), which exempts partnerships with 10 or fewer partners from the partnership audit and litigation procedures is made applicable to S corporations by section 6244. If the statute provides a small S corporation exception, because Blanco had only one shareholder in 1983, respondent would have been without authority to issue a FSAA, and the case should be dismissed for lack of jurisdiction. Respondent argues that the small partnership exception of section 6231(a)(1)(B) is not incorporated into the S corporation audit procedures by section 6244 and that prior to the effective date of section 301.6241-1T(c)(2), Temp. Proced. and Admin. Regs., 52 Fed. Reg. 3003 (January 30, 1987), no small S corporation exception existed. Consequently, respondent contends the FSAA is valid, and the Court has jurisdiction.

Section 6244 incorporates generically four categories of partnership audit and litigation provisions into the S corporation audit and litigation procedures: those relating to (1) assessments of deficiencies, (2) filing claims for credit or refund, (3) judicial determinations of partnership items, and (4) partnership items. Section 6231(a)(1)(B) ⁵ does not relate to an assessment, refund claim or judicial determination and, therefore, is not made applicable to S corporation audits by section 6244(1). Consequently, the small partnership exception applies to S corporation litigation only if it ‘relate» s† to partnership items‘ within the meaning of section 6244(2).

Respondent contends that the small partnership exception does not relate sufficiently to partnership items to be incorporated into the S corporation audit and litigation procedures. Moreover, respondent argues that because S corporations are by definition small, see section 1361(b)(1)(A), Congress did not intend for the small partnership exception to be incorporated via section 6244.

We believe that the small partnership exception does, by definition, ‘relate‘ to partnership items. Eligibility for small partnership status turns, in part, on how the partners share partnership items. Section 6231(a)(1)(B)(i)(II) expressly provides that a necessary element of small partnership status is that each partner share in partnership items in the same proportion as that partner shares in all other items. Further, the existence of partnership items depends on the existence of a partnership. If a partnership meets the requirements for the small partnership exception of section 6231(a)(1)(B), it is not considered to be a partnership for purposes of the partnership litigation procedures. In that event, no partnership items exist. The connection, therefore, between the small partnership exception and partnership items is direct and substantial. In these circumstances, to hold as respondent argues that the small partnership exception does not ‘relate‘ to partnership items would require a strained reading of section 6244(2).

The partnership litigation provisions were, in effect, grafted onto the subchapter S litigation provisions. No specific expression of Congressional approval or disapproval of a small subchapter S exception can be found; nevertheless because a very detailed statute was being grafted onto the subchapter S litigation provisions, we presume that Congress was aware of that statute's reach and application. The small partnership exception is part of that detail, and because it...