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(3) Economic Equivalence Test
There is another economic effect "safe harbor" (which is of
limited application), 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 economic effect, it will
be deemed to have economic effect even if it does not otherwise
meet the formal requirements of the basic test. This economic
equivalence test is likely to be met only by the least complicated
partnerships. Here, neither party maintains that the allocations
in this complex multitiered partnership situation would have the
equivalent economic effect of meeting the basic test. To the
contrary, the existence of large deficit capital accounts with no
obligation to repay would appear to preclude the meeting of that
test here. Thus, the IHCL partnership fails to meet this "safe
harbor" test.
2. Partners' Interests in the Partnership
The General Rule
Section 704(b) provides that an allocation of partnership
income, gain, loss, deductions, or credit (or item thereof) that
does not meet the requirements for substantial economic effect will
be "determined in accordance with the partner's interest in the
partnership". This requirement, although less specific than the
test for economic effect, nevertheless requires that partnership
allocations be analyzed on the basis of their actual economic
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