William C. Lipnick & Dale A. Lipnick v. Commissioner ( 2019 )

153 T.C. No. 1
UNITED STATES TAX COURT
WILLIAM C. LIPNICK AND DALE A. LIPNICK, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 1262-18. Filed August 28, 2019.
P-H’s father owned interests in partnerships that made debt-
financed distributions to the partners. P-H’s father used the proceeds
of those distributions to purchase assets that he held for investment.
P-H’s father treated the interest paid by the partnerships on those
debts and passed through to him as “investment interest” subject to
the limitation on deductibility imposed by I.R.C. sec. 163(d).
In 2011 and 2013 P-H’s father transferred interests in the part-
nerships to P-H by gift and bequest. The partnerships continued to
incur interest expense on the debts, which was passed through to P-H
as a new partner. P-H treated the debts as properly allocable to the
partnerships’ real estate assets and reported the interest expense on
his 2013 and 2014 Schedules E, Supplemental Income and Loss, as
offsetting the passed-through real estate income.
For Ps’ taxable years 2013 and 2014, R characterized the inter-
est passed through to P-H as “investment interest.” Because Ps had
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insufficient investment income for these years, R disallowed 100% of
the deductions for interest expense under I.R.C. sec. 163(d).
1. Held: P-H, unlike his father, did not receive the pro-
ceeds of any debt-financed distributions and did not use partnership
distributions to acquire property held for investment. Rather, he is
deemed to have made a debt-financed acquisition of the partnership
interests he acquired by gift and bequest, and the associated interest
expense is allocated among the assets of the partnerships.
2. Held, further, because the assets owned by the partner-
ships were not property held for investment, none of the interest ex-
pense passed through to P-H was “investment interest” subject to
limited deductibility under I.R.C. sec. 163(d).
3. Held, further, the interest expense passed through to P-H
cannot be characterized as “investment interest” on the theory that he
stepped into his father’s shoes.
Michael I. Sanders and Jill E. Misener, for petitioners.
William J. Gregg, Bartholomew Cirenza, and Benjamin H. Weaver, for
respondent.
OPINION
LAUBER, Judge: With respect to petitioners’ Federal income tax for 2013
and 2014, the Internal Revenue Service (IRS or respondent) determined defi-
ciencies and accuracy-related penalties as follows:
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Year Deficiency Penalty
2013 $269,202 $53,840
2014 286,232 57,246
During 2013 and 2014 petitioner husband (William or petitioner) partici-
pated in real estate partnerships that incurred interest expense. The real estate in-
come and associated expenses were passed through to him, and petitioners report-
ed those items on Schedules E, Supplemental Income and Loss. The question pre-
sented is whether petitioners properly offset the interest expense in full against the
real estate income on Schedules E, or whether (as respondent contends) they
should have reported the interest expense on Schedules A, Itemized Deductions,
subject to the limitation imposed by section 163(d) on “investment interest.”1 We
decide this question in petitioners’ favor, thus absolving them both of the defi-
ciencies and of the penalties.
Background
The parties submitted this case for decision without trial under Rule 122.
Relevant facts have been stipulated or are otherwise included in the record. See
1
All statutory references are to the Internal Revenue Code in effect for the
years at issue, and all Rule references are to the Tax Court Rules of Practice and
Procedure. We round all monetary amounts to the nearest dollar.
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Rule 122(a). Petitioners resided in Washington, D.C., when they filed their
petition.
A. Lipnick/Cafritz Partnerships
William is the son of Maurice Lipnick (Maurice), who died in October 2013
at age 95. For many years Maurice participated in partnerships with Calvin Caf-
ritz, a legendary real estate entrepreneur in the Washington, D.C., area. These
partnerships owned and operated rental real estate in the District and its suburbs.
As of 2009 Maurice’s investments2 included a 50% interest in Mar-Cal, LLC
(Mar-Cal), which owned apartment buildings in the District and suburban Mary-
land; a 50% interest in Mayfair House Apartments (Mayfair), which owned an
apartment building in Falls Church, Virginia; and a 25% interest in Brinkley Asso-
ciates, LLC (Brinkley), which owned rental real estate in Temple Hills, Maryland.
The remaining interest in each partnership was held by Mr. Cafritz.
In June 2009 Mar-Cal, Mayfair, and Brinkley borrowed money from M&T
Realty Capital Corp. (M&T) and distributed the proceeds to Maurice and Mr.
Cafritz. Mar-Cal borrowed $22.7 million, Mayfair borrowed $15.25 million, and
Brinkley borrowed $41.5 million. The terms of the loans were substantially simi-
2
These interests were held by a grantor trust and were thus treated as being
owned by Maurice directly. See sec. 671.
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lar. Each loan had a 5.88% interest rate and a note secured by the partnership’s
assets, but neither Maurice nor Mr. Cafritz was personally liable on the notes.
Out of these debt proceeds Mar-Cal, Mayfair, and Brinkley in June 2009
made debt-financed distributions to Maurice of $10,854,950, $4,790,857, and
$6,413,684, respectively. These funds were initially deposited in Maurice’s per-
sonal account at BB&T Bank. The cash was thereafter invested in money market
funds and other investment assets, and those assets were held in Maurice’s person-
al accounts until his death.
During 2009-2011 Mar-Cal, Mayfair, and Brinkley incurred interest ex-
pense on the M&T loans. Each partnership issued to Maurice for each year a
Schedule K-1, Partner’s Share of Income, Deductions, Credits, etc., reporting his
distributive shares of its rental real estate income and interest expense. On his
Federal income tax return for each year, Maurice reported his distributive shares
of the interest expense on the M&T loans as “investment interest” on Schedule A.
On July 31, 2011, Maurice transferred to William, by inter vivos gift, 50%
of his ownership interests in Mar-Cal, Mayfair, and Brinkley. William thereupon
agreed to be bound by each partnership’s operating agreement. But he did not be-
come personally liable on any of the M&T loans.
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By gratuitously transferring to William his partnership interests in Mar-Cal,
Mayfair, and Brinkley, Maurice was relieved of his shares of the partnership liabil-
ities represented by the M&T loans. On his 2011 Federal income tax return, he
treated the nonrecourse partnership liabilities of which he was relieved as
“amounts realized” on the transfers. See secs. 1.752-1(h), 1.1001-2(a)(4)(v),
Income Tax Regs. He accordingly reported taxable capital gains of $10,026,045,
$6,492,303, and $8,667,786, respectively.
B. Claridge Partnership
Claridge House Alexandria Associates, L.P. (Claridge), a partnership for
Federal tax purposes, owned and operated rental real estate, including an apart-
ment complex in Alexandria, Virginia. Before his death Maurice held in Claridge
a 2.5% general partnership (GP) interest and a 10% limited partnership (LP) in-
terest. Maurice indirectly held an additional 5.498% LP interest in Claridge by
virtue of his 25% interest in the Lipnick Family Limited Partnership (Family LP).
In February 2012 Claridge borrowed $20 million from Walker & Dunlop,
LLC (W&D) at an interest rate of 4.19% and distributed the proceeds to its part-
ners. The partnership’s note was secured by the partnership assets, but neither
Maurice nor any of the other partners was personally liable on the note. From
these debt proceeds Claridge distributed $1,683,864 directly to Maurice and
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$706,780 indirectly to Maurice through the Family LP. These funds were initially
deposited in Maurice’s personal bank account, and the cash was thereafter invest-
ed in money market funds and other investment assets that were held in Maurice’s
personal accounts until his death.
Claridge during 2012 and 2013 incurred interest expense on the W&D loan.
Claridge issued to Maurice for each year Schedule K-1 reporting his distributive
shares of Claridge’s rental real estate income and interest expense. On his Federal
income tax return for each year, Maurice reported his distributive share of the
interest expense on the W&D loan as “investment interest” on Schedule A.
Maurice died on October 15, 2013. His will bequeathed to William his
2.5% GP interest in Claridge, a 3.75% LP interest in Claridge, and half of his in-
terest in the Family LP. The latter gave William (indirectly) an additional 2.749%
LP interest in Claridge. After this bequest William did not become personally
liable on the W&D loan.
C. Tax Reporting and IRS Examination
The M&T and W&D loans remained outstanding during 2013 and 2014,
and the four partnerships paid interest on these loans. For 2013 Mar-Cal, Mayfair,
and Brinkley issued to William Schedules K-1 reporting that his distributive
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shares of the partnerships’ rental real estate income and interest expense attribut-
able to the M&T loans were:
Partnership Income Interest Expense
Mar-Cal $515,018 $344,688
Mayfair 294,360 177,052
Brinkley 264,249 193,763
For 2014 Mar-Cal, Mayfair, Brinkley, and Claridge issued Schedules K-1
reporting that William’s distributive shares of the partnerships’ rental real estate
income and interest expense attributable to the M&T and W&D loans were:3
Partnership Income Interest Expense
Mar-Cal $511,433 $340,259
Mayfair 269,293 174,677
Brinkley 245,474 191,215
Claridge 208,750 25,751
For 2013 and 2014 petitioners jointly filed Forms 1040, U.S. Individual In-
come Tax Return, attaching to each return a Schedule E. They took the position
that the interest paid by the partnerships on the M&T and W&D loans was not
3
The amounts shown for Claridge include amounts appearing on the Sched-
ule K-1 issued to William, plus William’s share of amounts shown on the Sched-
ule K-1 issued to the Family LP. The amounts passed through to William from the
Family LP included $7,866 of interest paid on the W&D loan (which is included
in the table) and $15,731 of miscellaneous investment interest (which petitioners
separately reported as investment interest on Schedule A of their 2014 return).
The latter amount is not at issue here.
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“investment interest,” as it had been in the hands of Maurice, because William had
not received any of the loan proceeds and had not used any partnership distribu-
tions to acquire investment assets. Rather, they treated the interest as having been
paid on indebtedness properly allocable to the partnerships’ real estate assets, and
hence treated William’s distributive shares of the interest expense as fully deduct-
ible against his distributive shares of the partnerships’ real estate income. Accord-
ingly, on each Schedule E they netted against the income for each partnership (as
shown in the tables above) the corresponding amount of interest expense (as
shown in the tables above). They reported the resulting net income on Forms
1040, line 17.
On October 30, 2017, the IRS issued petitioners a timely notice of defi-
ciency for 2013 and 2014. It determined that William’s distributive shares of the
interest paid by the partnerships on the M&T and W&D loans should properly
have been reported on Schedules A as “investment interest.” Under section
163(d)(1), “investment interest” is deductible only to the extent of a taxpayer’s
“net investment income.” Because petitioners had insufficient investment income
for both years, the IRS disallowed deductions for all of the passed-through interest
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attributable to the M&T and W&D loans. It also determined accuracy-related
penalties under section 6662(a).4
Petitioners timely petitioned this Court for redetermination of the deficien-
cies and the penalties. On December 20, 2018, the parties submitted the case for
decision without trial under Rule 122.
Discussion
The IRS’ determinations in a notice of deficiency are generally presumed
correct, and the taxpayer bears the burden of proving them erroneous. Rule
142(a); Welch v. Helvering, 290 U.S. 111, 115 (1933). Petitioners do not contend
that the burden of proof should shift to respondent under section 7491(a). In any
event, because only legal issues remain, the burden of proof is irrelevant. See Nis
Family Tr. v. Commissioner, 115 T.C. 523, 538 (2000).
4
Neither party contends that any of the partnerships was subject to the audit
procedures of the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA).
See secs. 6221-6234 (as in effect for years before 2018). Mar-Cal, Mayfair, and
Brinkley filed their 2013 and 2014 returns as small partnerships exempt from
TEFRA procedures. See sec. 6231(a)(1)(B). Each partnership checked a box indi-
cating that it was not electing to have TEFRA procedures apply. See sec.
6231(a)(1)(B)(ii). In any event, if the Commissioner “reasonably determines” on
the basis of a partnership’s return that TEFRA procedures do not apply for a par-
ticular year, “then the provisions of this subchapter shall not apply to such partner-
ship * * * for such taxable year or to partners of such partnership,” even if the
Commissioner’s determination is erroneous. Sec. 6231(g)(2). Claridge’s 2013
and 2014 partnership returns are not in the record, but neither party contends that
TEFRA procedures were applicable to it.
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A. Governing Statutory and Regulatory Structure
Section 163(a) generally provides that “[t]here shall be allowed as a deduc-
tion all interest paid or accrued within the taxable year on indebtedness.” For tax-
payers other than corporations, “personal interest” as defined in section 163(h) is
generally nondeductible. Nondeductible personal interest is defined to exclude
(among other things) “interest paid or incurred on indebtedness properly allocable
to a trade or business” and “any interest which is taken into account under section
469 in computing income or loss from a passive activity.” Sec. 163(h)(2)(A), (C).
Personal interest also excludes “any investment interest (within the meaning of
subsection (d)).” Sec. 163(h)(2)(B).
Respondent contends that the interest paid by the partnerships on the M&T
and W&D loans and passed through to William constituted “investment interest.”
Section 163(d) allows a deduction for investment interest, but subject to a limita-
tion. Specifically, it provides that, “[i]n the case of a taxpayer other than a cor-
poration, the amount allowed as a deduction * * * for investment interest for any
taxable year shall not exceed the net investment income of the taxpayer for the
taxable year.” Sec. 163(d)(1).
Petitioners had little net investment income for 2013 and 2014. They ac-
cordingly agree that, if the interest in question constituted “investment interest”
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under section 163(d), it would be nondeductible. And respondent agrees that, if
the interest was not “investment interest,” it was properly reportable and deduct-
ible on Schedule E.
Investment interest is defined as interest that is “paid or accrued on indebt-
edness properly allocable to property held for investment.” Sec. 163(d)(3)(A).
The interest in question was incurred by Mar-Cal, Mayfair, Brinkley, and Cla-
ridge, which owned, operated, and actively managed apartment buildings and
other rental real estate. The loans on which the interest was paid were secured by
those real estate assets. Respondent does not contend that the operating assets
held by the partnerships constituted “property held for investment.”
Temporary regulations, promulgated in 1987 but never finalized, provide a
tracing rule for determining when debt is “properly allocable to property held for
investment.” Sec. 163(d)(3)(A); see sec. 1.163-8T, Temporary Income Tax Regs.,
52 Fed. Reg. 24999 (July 2, 1987). Generally, “[d]ebt is allocated to expenditures
in accordance with the use of the debt proceeds and * * * interest expense accru-
ing on a debt * * * is allocated to expenditures in the same manner as the debt is
allocated.” Sec. 1.163-8T(c)(1), Temporary Income Tax Regs., 52 Fed. Reg.
25000 (July 2, 1987). “Debt is allocated,” in other words, “by tracing disburse-
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ments of the debt proceeds to specific expenditures.” Sec. 1.163-8T(a)(3),
Temporary Income Tax Regs., 52 Fed. Reg. 24999 (July 2, 1987).
For example, if a taxpayer uses debt proceeds to make a personal expendi-
ture, such as taking a vacation, the interest is treated as nondeductible personal
interest. See sec. 163(h); sec. 1.163-8T(a)(4)(ii), Example (1), Temporary Income
Tax Regs., 52 Fed. Reg. 25000 (July 2, 1987). If a taxpayer uses debt proceeds in
connection with a passive activity, the interest is subject to the passive loss limita-
tions. See sec. 469; sec. 1.163-8T(a)(4)(ii), Example (1), Temporary Income Tax
Regs., supra. And if a taxpayer uses debt proceeds to make “an investment ex-
penditure,” the interest incurred on the debt is allocable to such investment ex-
penditure, and the interest “is treated for purposes of section 163(d) as investment
interest.” Sec. 1.163-8T(a)(4)(i)(C), Temporary Income Tax Regs., 52 Fed Reg.
25000 (July 2, 1987).
The temporary regulations do not specify how these tracing rules apply to
partnerships and their partners. But the IRS has published guidance on this point.
See Notice 89-35, 1989-1 C.B. 675.5 It provides that, if a partnership uses debt
proceeds to fund a distribution to partners--i.e., to make debt-financed distribu-
5
The IRS has indicated that taxpayers may rely on the guidance provided in
Notice 89-35 for taxable years ending after December 31, 1987. See 1989-1 C.B.
at 676. The taxable years at issue ended long after that date.
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tions--each partner’s use of the proceeds determines whether the interest passed
through to him constitutes investment interest. Id. at 676-677. Thus, if a partner
uses the proceeds of a debt-financed distribution to acquire property that he holds
for investment, the corresponding interest expense incurred by the partnership and
passed on to him will be treated as investment interest. Ibid. In short, if a taxpay-
er uses debt proceeds to acquire an investment, the interest on that debt is invest-
ment interest regardless of whether the debt originated in a partnership.
B. Analysis
Reduced to its essentials, the question before the Court is whether William
is bound to treat the interest expense passed through to him in the same manner as
Maurice. William acquired interests in the four partnerships by gift or bequest
from his father. Respondent argues that William in effect stepped into his father’s
shoes, with the supposed result that the interest, properly reported by Maurice as
investment interest, remains investment interest so long as the loans remain on the
partnerships’ books. We find no support for this theory in the statute, the regula-
tions, or the decided cases.
Maurice received debt-financed distributions from the four partnerships. He
used the proceeds of those distributions to acquire shares of money market funds
and other assets that he held for investment. Consistently with the temporary
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regulation’s tracing rule, as applied to partners by Notice 89-35, supra, Maurice
treated the interest expense incurred by the partnerships and passed through to him
as “investment interest” properly reportable on Schedule A.
William did not receive, directly or indirectly, any portion of the debt-
financed distributions that the partnerships made to Maurice in 2009 and 2012.
Nor did William use distributions from those partnerships to make “investment
expenditure[s].” See sec. 1.163-8T(a)(4)(i)(C), Temporary Income Tax Regs.,
supra. In short, the facts that caused the passed-through interest to be “investment
interest” in Maurice’s hands simply do not apply to William.
The temporary regulations include a provision that explains how debt
should be allocated where (as here) no proceeds are disbursed to the taxpayer:
If a taxpayer incurs or assumes a debt in consideration for the sale or
use of property * * * or takes property subject to a debt, and no debt
proceeds are disbursed to the taxpayer, the debt is treated for pur-
poses of this section as if the taxpayer used an amount of the debt
proceeds equal to the balance of the debt outstanding at such time to
make an expenditure for such property * * * [Sec. 1.163-8T(c)(3)(ii),
Temporary Income Tax Regs., 52 Fed. Reg. 25001 (July 2, 1987).]
William acquired his ownership interests in the four partnerships by gift or
bequest from Maurice. He acquired those interests subject to the M&T and W&D
debts that were then on the partnerships’ books. Under the temporary regulation,
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William is thus treated as using his allocable share of that debt “to make an ex-
penditure for such property,” viz., his partnership interests.
Notice 89-35 refers to this scenario as a debt-financed acquisition, as op-
posed to a debt-financed distribution, and it explains how the regulation applies to
partnerships and their partners: “In the case of debt proceeds allocated under sec-
tion 1.163-8T to the purchase of an interest in a passthrough entity (other than by
way of a contribution to the capital of the entity), the debt proceeds and the associ-
ated interest expense shall be allocated among all the assets of the entity using any
reasonable method.”
In short, whereas Maurice received a debt-financed distribution, William is
treated as having made a debt-financed acquisition of the partnership interests he
acquired from Maurice. See ibid. For section 163(d) purposes, therefore, the debt
proceeds are allocated among all of the partnerships’ real estate assets using a
reasonable method, and the interest paid on the debt is allocated to those assets in
the same way. Sec. 1.163-8T(c)(1), Temporary Income Tax Regs., supra.
The partnerships’ real estate assets were actively managed operating assets.
Respondent agrees that those assets did not constitute “property held for invest-
ment.” See sec. 163(d)(3)(A). The interest paid on the M&T and W&D loans
therefore was not “investment interest.”
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In support of the opposite conclusion, respondent disputes the relevance of
section 1.163-8T(c)(3)(ii), Temporary Income Tax Regs., supra, urging that Wil-
liam, when acquiring the partnership interests from his father, did not “assume[] a
debt” or “take[] property subject to a debt.” Respondent agrees that the M&T and
W&D loans were bona fide liabilities of the partnerships. But he emphasizes that
William had no personal liability on those loans, which were nonrecourse, and that
the liens held by the lenders ran against the partnerships’ real estate assets, not
against William’s partnership interests.
We find no support for respondent’s position. In Smith v. Commissioner,
84 T.C. 889 (1985), aff’d, 805 F.2d 1073 (D.C. Cir. 1986), we considered whether
a corporation should be considered to have assumed a liability for purposes of
section 357(c) where a shareholder contributed to it an interest in a partnership
whose assets were encumbered by non-recourse debt. Judge Tannenwald
answered that question in the affirmative: “Where, as here, the partnership in-
terests transferred are themselves encumbered in substance by a right of fore-
closure on the partnership’s real property, the corporation acquires such interests
subject to the encumbrance.” Smith, 84 T.C. 910 (emphasis added) (citing
Commissioner v. Tufts, 461 U.S. 300 (1983)). The Commissioner himself had
previously reasoned similarly, ruling that, where limited partnership interests are
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transferred to a corporation, “[e]ach transferring limited partner’s share of partner-
ship nonrecourse liabilities shall be considered as a liability to which the partner-
ship interest is subject.” Rev. Rul. 80-323, 1980-2 C.B. 124, 125.
These authorities show that William acquired his interests in Mar-Cal, May-
fair, Brinkley, and Claridge “subject to” the M&T and W&D debts, even though
he did not personally assume those debts, which remained nonrecourse with re-
spect to the partners individually. In the converse situation, where a partner sells a
partnership interest, the regulations provide that the partner’s “amount realized”
includes his share of the partnership liabilities of which he is relieved, even if the
liabilities are nonrecourse. See secs. 1.752-1, 1.1001-2(a)(4)(v), Income Tax
Regs.; see also sec. 1.1001-2(c), Example (4), Income Tax Regs. (stating that a
taxpayer’s “amount realized” on transfer of a partnership interest includes the non-
recourse liabilities of which he is relieved, where the transferee “takes the partner-
ship interest subject to the * * * liabilities”). For purposes of subchapter K gener-
ally, any increase or decrease in a partner’s share of partnership liabilities is treat-
ed as a deemed contribution or distribution, regardless of whether the debt is re-
course or nonrecourse. See sec. 752; sec. 1.752-1, Income Tax Regs. In short, the
fact that a partner is not personally liable for a partnership’s debt does not mean
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that his partnership interest is not “subject to a debt” for purposes of subchapter
K.6
For these reasons, we conclude that section 1.163-8T(c)(3)(ii), Temporary
Income Tax Regs., supra, in conjunction with Notice 89-35, supra, dictates that the
interest expense passed through to William from the partnerships was not “invest-
ment interest” under section 163(d). But even if that temporary regulation were
somehow thought inapplicable here, respondent has not articulated any principle
or rule that would affirmatively require the interest in question to be characterized
as “investment interest.” The principle that required such interest to be character-
ized as “investment interest” in Maurice’s hands clearly does not apply because
William (unlike Maurice) did not receive any debt-financed distributions from the
partnerships.
Respondent does not contend that William received debt-financed distri-
butions indirectly or that the substance of the parties’ transactions differed from
their form. Respondent’s position thus reduces to the contention that, because
6
When Maurice gratuitously transferred interests in Mar-Cal, Mayfair, and
Brinkley to William in 2011, he was required to include the partnership debt from
which he was relieved as an “amount realized,” and he reported capital gains tax
accordingly. See supra p. 6. To the extent Maurice was relieved of the debt, liabi-
lity therefore necessarily shifted to the other partners, including William. William
thus took his partnership interests “subject to the debt,” even though the liabilities
were nonrecourse.
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William acquired the partnership interests from his father, he stands in his father’s
shoes and must treat the passed-through interest the same way his father did. But
neither section 163(d) nor its implementing regulations include any family attribu-
tion rule or similar principle that would require this result.
It seems obvious that William would have no “investment interest” if he had
acquired his ownership interests in the four partnerships from a third party for
cash. Respondent has not explained why the result should be different because
William acquired those interests from his father by gift and bequest. Respondent,
in short, has enunciated no principle that would justify characterizing the interest
passed through to William as “properly allocable to property held for investment”
by William. Sec. 163(d)(3)(A).
Respondent urges us to adopt a “once investment interest, always invest-
ment interest” rule on the theory that any other approach would “place a myriad of
additional administrative burdens on both taxpayers and the government.” But the
temporary regulations and IRS guidance clearly dictate different outcomes de-
pending on whether the partner receives a debt-financed distribution or makes a
debt-financed acquisition. See sec. 1.163-8T(c)(3)(ii), Temporary Income Tax
Regs., supra; Notice 89-35, supra. Recognition that partnership interests may
change hands is thus an inherent part of the regulatory structure. And the alloca-
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tion is no more cumbersome than allocating debt for any other purpose under
subchapter K.
In sum, we hold that the interest expense passed through to William from
the M&T and W&D loans was not “investment interest” under section 163(d).
When William acquired the partnership interests from his father, he was in the
same position as any other person who acquired partnership interests encumbered
by debt. He did not receive the proceeds of those debts, and he did not use (and
could not have used) the proceeds of those debts to acquire property that he subse-
quently held for investment. There is thus no justification for treating the interest
expense passed through to him as investment interest under section 163(d). Rath-
er, petitioners correctly reported it on Schedule E as allocable to the real estate as-
sets held by the partnerships. Concluding that there are no deficiencies in peti-
tioners’ income tax for 2013 and 2014, we find that they are likewise liable for no
penalties.
To reflect the foregoing,
Decision will be entered for
petitioners.