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reductions. The QIO must operate “in an amount and manner
sufficient to eliminate such deficit balance as quickly as
possible.” Sec. 1.704-1(b)(2)(ii)(d), Income Tax Regs. (flush
language).
In the present matter, neither the IHCL Original Agreement nor
the IHCL Restated Agreement contains a provision requiring capital
account adjustments for reasonably expected distributions or a
“qualified income offset”. Although the second amendment to the
IHCL Restated Agreement does provide for a net income allocation to
pay off THEI’s deficit capital account, the second amendment falls
short of providing a QIO. Rather, the second amendment allocates
only net income, not “a pro rata portion of each item of
partnership income” allocated “in an amount and manner sufficient
to eliminate such deficit balance as quickly as possible.” Sec.
1.704-1(b)(2)(ii)(d), Income Tax Regs. Consequently, the IHCL
special allocation does not meet the alternative test of economic
effect.
(3) Economic Equivalence Test
There is a third economic effect “safe harbor”, referred to as
the “economic equivalence test”. Section 1.704-1(b)(2)(ii)(i),
Income Tax Regs., provides that, in the event that an allocation
would produce the economic equivalent of meeting the basic test for
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