8534 / Are small businesses exempt from the business interest deduction limitations?

Related entities are generally aggregated if they aggregated for other tax code purposes. For example, if multiple businesses are treated as a single employer under the controlled group rules, they are aggregated for purposes of the gross receipts test. The same is true for businesses aggregated under the affiliated service group rules and Section 414(o).

In past years, some small businesses were uncertain whether they fell into the definition of “tax shelter” because there was some uncertainty in the way “syndicate” was defined. Generally, the Section 448(d)(3) definition of tax shelter cross-references Section 461(i)(3), which partially defines tax shelter as a syndicate. Multiple definitions of the term “syndicate” apply in different tax code sections. For example, a “syndicate” is defined as a partnership or non-corporate entity where more than 35 percent of the entity’s losses are allocated to limited partners or limited entrepreneurs.

The IRS clarified this by releasing proposed regulations stating that “syndicate” is defined using the Treasury Regulation Section 1.448-1T(b)(3) definition. Therefore, an “actual allocation” rule will apply. In other words, only small businesses that have passive investors who are actually allocated losses are treated as tax shelters that are ineligible.¹