TAX &
BUSINESS
LAW REPORT
A Newsletter of the Tax & Corporate Practice Group
Editor’s Note…
With the opening of
our new Philadelphia
office (the 15th Floor
of 8 Penn Center), we
have substantially
expanded our
regional presence.
Moreover, with resi-
Richard J. Flaster dent lawyers based in
Philadelphia having practices in the fields
of employment law, intellectual property
law, environmental law, and general litiga-
tion, we have enhanced our capabilities
and availability to our clients in the
Philadelphia area.
This current Tax and Business Law
Report provides a cross-section of articles
of interest — ranging from federal taxa-
tion of compensatory partnership inter-
ests, expanded scope of New Jersey
income taxation, new payroll tax responsi-
bilities for “disregarded entities”, and
changes in individual income tax return
filing procedures.
If you provide us with your e-mail
address and the e-mail addresses of
colleagues who would be interested in
receiving this Report, we would be
pleased to include that information in
the data bank for this Report. Please
send that information to me at
rick.flaster@flastergreenberg.com.
In This Issue. . .
Longer Automatic Return
Filing Extension ......................2
Expanded Scope for Taxing NJ
Source Income ........................2
Disregarded Entities Now
Responsible for Employment
and Excise Taxes ......................3
Copyright © 2005
FALL 2005
New Proposed Tax Regs Could Change Tax
Treatment of Partnership Interests Given
for Services
BY MICHAEL P. SPIRO
Many emerging growth companies are founded when an indi-
vidual with an idea joins together with an individual with money to
finance that idea, and the two form either a partnership or a limited
liability company. Generally, the individual with the idea will receive
his interest in return for providing services to the new company (a
so-called “compensatory interest”), and the individual with money
will receive his interest in return for capitalizing the company. For
years, the proper tax treatment of the compensatory interest has been litigated — the
question being whether the compensatory interest should be taxed currently as income
to the service provider. While it has long been established that the granting of a “capital
interest” (i.e., an interest in the capital as well as profits of a partnership) is taxable to
the recipient, there has been confusion about the treatment of a mere “profits interest,”
which grants an individual no immediate interest in the company’s existing capital
accounts, but only the right to share in future partnership profits. However, the IRS
has recently published new rules under Internal Revenue Code Section 83 which will
now govern the treatment of compensatory partnership profits interests. IRS Notice
2005-43.
Background — The Current Rule
The current rule applicable to compensatory partnership interests was enunciated in
the Eighth Circuit case of William G. Campbell, 943 F.2d 815 (8th Cir. 1991) and
adopted by the IRS in Revenue Procedure 93-27 (as clarified in Rev. Proc. 2001-43).
In Campbell, the taxpayer received a profits interest in a limited partnership interest in
exchange for performing various future services for the partnership. According to the
Campbell Court, the profits interest was not taxable as it had only speculative value and
could not be appropriately valued for tax purposes. In Rev. Proc. 93-27, the IRS set
forth a position consistent with Campbell that where profits are not “substantially certain
and predictable,” the receipt of a profits interest in a partnership is not a taxable event.
The Proposed New Rule
Proposed Regulation 1.83-3(l) now seeks to eliminate much of the confusion
caused by the distinction between “profits interests” and “capital interests” by removing
the distinction altogether. The IRS now proposes that taxpayers must recognize the
(continued on page 2)
This report is for general use and information, and the content should not be interpreted as rendering legal
advice on any matter. Specific situations may raise additional or different issues and such information should be
coordinated with professional legal advice.
Tax & Business Law Report • Flaster/Greenberg P.C.
 2
New Proposed Tax Regs Could Change Tax
Treatment of Partnership Interests Given
for Services
(CONTINUED FROM PAGE 1)
value of all compensatory partnership interests as taxable
income. The Regulation then establishes a “safe harbor”
pursuant to which the value of a compensatory partnership
interest shall be equal to the “liquidation value of that interest.”
Compare with In Re Hill’s Estate 193 F.2d 724 (2d. Cir. 1954).
Under the safe harbor, the value of a profits interest will neces-
sarily be zero, as the holder of such an interest is not entitled to
any capital upon liquidation. Essentially, this new safe harbor
codifies the pre-existing rule with respect to “profits interests”
and eliminates the taxability of profits interests even where profits
are “substantially certain and predictable.”
The key significance of the safe harbor is that such treatment
must be elected by a partnership in order to be applicable.
Moreover, Notice 2005-43, provides that upon adoption of the
Regulation, Revenue Procedures 93-27 and 2001-43 will
become obsolete. Therefore, if the election under Prop. Reg.
1.83-3(l) is not made, the IRS can tax the grant of a compen-
satory partnership profits interest (after the date of adoption of
the final Regulations). It is therefore crucial to understand the
method for making the safe harbor election under Prop. Reg.
1.83-3(l).
Safe Harbor Election
The safe harbor election requires both a filing by the part-
nership and for certain provisions to be placed in the partner-
ship agreement.
First, the partnership must prepare a document, executed by
the partner who has responsibility for Federal income tax
reporting by the partnership (i.e., the Tax Matters Partner),
stating that the partnership is making this election (on behalf of
the partnership and each of its partners) to have the safe harbor
apply irrevocably as of the stated effective date, and the docu-
ment must be attached to the tax return of the partnership for
that year.
Second, the partnership agreement must contain the follow-
ing provisions:
• The partnership is authorized and directed to elect the safe
harbor; and
• The partnership and each of its partners agrees to comply
with all requirements of the safe harbor with respect to all
partnership interests transferred in connection with the per-
formance of services while the election remains effective. If
the partnership agreement does not contain the required
provisions, each partner in the partnership must sign a sepa-
rate document containing those provisions.
Observation
According to representatives of the IRS, Proposed Regulation
1.83-3(l) is expected to be finalized in June of 2006. ◆
Tax & Business Law Report • Flaster/Greenberg P.C.
Disregarded Entities Now
Responsible for Employment
and Excise Tax Filings
BY RICHARD J. FLASTER
Under existing rules, single-owner
“disregarded entities” (such as single
member LLCs or Qualified Subchapter S
Subsidiaries) were not responsible for
employment tax and excise tax obligations.
Rather, the owners of such entities had
this responsibility.
However, with the announcement of Proposed Regulations
§307.7701-2(c)(2), the IRS seeks to treat the disregarded
entity as the employer and to establish its responsibility for:
• Employment Taxes/Back-Up Withholding: Depositing
FICA, FUTA and income tax withholding with the IRS,
filing 941 returns, and issuing W-2 forms.
• Excise Taxes: Reporting and payment of applicable excise
taxes, registering as a buyer or seller in a transaction subject
to excise taxation and claiming refunds and credits in
such transactions.
Observation: The new employment tax rules will take
effect when the final regulations are issued. The new excise tax
rules will take effect for years beginning after January 1, 2006. ◆
Automatic Extension for
Filing 2005 Tax Returns
Increased to Six Months
BY ALAN H. ZUCKERMAN
In the recently released version of
Publication 509 (Tax Calendars for
2006), revised December 2005, the IRS
announced that individuals filing 2005
federal income tax returns (Form 1040)
will be permitted to use Form 4868
(Application for Automatic Extension of
Time to File U.S. Individual Income tax Return) to obtain
an automatic six-month, rather than a four-month, extension.
Individuals will not need to file Form 2688 to obtain the
additional two-month extension that was normally required
in order to obtain a total of a six-month extension. ◆
 3

New Jersey Taxes on Be our guest for breakfast on

Company with No In-State Tuesday, January 24th
Physical Presence
Rutgers School of Business - Camden
BY MARKLEY S. RODERICK Quarterly Business Outlook
The Appellate Division of the Superior
Court recently held that Lanco, Inc., a Featuring CEOs of Southern New Jersey
Delaware corporation with no physical
corporations forecasting their economic
presence in New Jersey, is subject to the
Corporation Business Tax (“CBT”) on outlook for the region in five sectors:
royalties it receives from a New Jersey retailer. Economic Overview
Lanco, Inc. v. Division of Taxation, 379
N.J.Super. 562 (A.D. 2005) reversing an earlier decision of the
Commercial Real Estate
New Jersey Tax Court, this decision changes the rules of the Health Care
game for many out-of-state companies which have previously
Manufacturing
assumed they were constitutionally protected from New Jersey
tax as long as they maintained no physical presence here. Retail/Consumer Products
Lanco owns certain intellectual property (trademarks, trade
names, and service marks) which it licenses to Lane Bryant, a Clarion Hotel & Conference Center
retailer with multiple New Jersey locations and receives royalties
on Lane Bryant’s New Jersey sales. However, Lanco has no Cherry Hill, NJ
offices, employees, or property of its own in New Jersey. Registration and breakfast: 7:45 a.m.
In 2003 the New Jersey Tax Court held that New Jersey
Program: 8:30 a.m. - 9:30 a.m.
could not impose the Corporation Business Tax on the royalties
received by Lanco. Relying on the decision of the U.S. Supreme
Court in Quill Corp. v. North Dakota, a case that involved the Co-sponsored by:
imposition of sales and use taxes on catalog sellers, the Tax
Court held that there was insufficient “nexus” between Lanco Flaster/Greenberg P.C.
and New Jersey to satisfy the Commerce Clause of the U.S. Chamber of Commerce Southern New Jersey
Constitution.
However, following recent decisions from other states, the
Appellate Division held that while a physical presence might be
Register by e-mail:
required to impose sales and use taxes under Quill, it is not firm@flastergreenberg.com
required to impose state income taxes. The court appears to have
accepted the argument made by the New Jersey Division of
Taxation that the “benefits” obtained by Lanco, including the
existence of the New Jersey legal system and New Jersey’s
educated workforce, established a constitutionally-sufficient Office Locations
“nexus” for the imposition of income tax even in the absence of
a physical presence. 1810 Chapel Avenue West 441 East State Street
Cherry Hill, NJ 08002-4609 Trenton, NJ 08608
Observation: While the opinion of the Appellate Division Tel 856-661-1900 Tel 609-695-4000
clearly provides that New Jersey may impose the CBT on Lanco Fax 856-661-1919 Fax 609-695-5111
and other companies receiving royalties from New Jersey sales, 2900 Fire Road, Suite 102A 190 South Main Road
it does not establish — or even suggest — guidelines for Egg Harbor Twp., NJ 08234 Vineland, NJ 08360
determining under what circumstances New Jersey may not Tel 609-645-1881 Tel 856-691-6200
impose the CBT on out-of-state companies. Consequently, Fax 609-645-9932 Fax 856-696-8150
unless the decision is modified or overturned by a higher 89 Headquarters Plaza North 8 Penn Center
court, prudent taxpayers will assume that all income from 14th Floor, Suite 1472 1628 JFK Boulevard, 15th Fl
New Jersey will be subject to the CBT, without regard to any Morristown, NJ 07960 Philadelphia, PA 19103
constitutional restraint. ◆ Tel 973-605-1799 Tel 215-279-9393
Fax 973-605-1344 Fax 215-279-9394

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TAX & CORPORATE PRACTICE GROUP

Richard J. Flaster Peter R. Spirgel Elliot D. Raff
rick.flaster@flastergreenberg.com peter.spirgel@flastergreenberg.com elliot.raff@flastergreenberg.com
856-661-2260 856-661-2267 856-382-2241

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Allen P. Fineberg Elaine J. Petruzziello Michael P. Spiro

allen.fineberg@flastergreenberg.com elaine.petruzziello@flastergreenberg.com michael.spiro@flastergreenberg.com
856-661-2264 856-661-2287 856-382-2203

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856-661-2265 856-382-2237 856-382-2222

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