NYC Broker-Dealer Tax Stance May Face Resistance

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By John Herzfeld

Dec. 6 — An updated New York City Finance Department policy on sourcing receipts by broker-dealers may encounter resistance in audits, practitioners said.

In an update on audit issues, the city provided guidance to taxpayers warning against broadly interpreting a pair of department letter rulings issued in 2013 and 2014 to establish eligibility for customer-based receipt allocation rules reserved for registered securities or commodities broker-dealers.

In those letter rulings, the city permitted unregistered limited partnerships to characterize themselves as registered, “based on specific representations” from the applicants about their status with federal regulators, the Nov. 25 guidance said.

But the letter rulings don’t set precedent and don’t reflect the department’s current analysis, the city said.

The representations were unreliable and didn’t establish that registration as a commodities pool operator (CPO) or commodities trading adviser would entitle the applicants to act as broker-dealers, it said.

Case-by-Case Consideration

The department may still consider allowing the broker-dealer status on a case-by-case basis to entities that establish they are legally acting in a broker-dealer capacity for the receipts in question, the guidance said, citing registered floor brokers or futures commission merchants as examples.

But the status won’t be extended to a CPO, or to unregistered owners of registered single-member limited liability companies, apart from receipts earned by the SMLLCs, the city said.

SMLLCs are disregarded entities for city tax purposes if they are disregarded entities for federal tax purposes, according to the guidance.

Special apportionment rules for city unincorporated business and general corporation taxes have been in place for registered broker-dealers since 2009, and the state has similar rules, said Leah Robinson, an attorney with Sutherland Asbill & Brennan LLP in New York.

State Shares City’s View

Both the city and the state have been pressing taxpayers in audits who rely on the earlier guidance to use the favorable broker-dealer rules, Robinson told Bloomberg BNA Dec. 5.

Companies have applied the conclusions of the letter rulings and similar state advice in good faith to “their substantially similar facts,” she said. But now the city “has backed away from its former guidance” by way of the audit update, and the state has done the same, while not publicizing the shift.

“We’ve seen this position in a handful of audits already,” Robinson said. “It’s huge.”

New York-based financial institutions or hedge funds “can use a market approach for sourcing” if they qualify as broker-dealers, she said. But if they don’t, they must use “a cost-of-performance method” and “could end up with apportionment of close to 100 percent for these receipts,” even if they have customers “all over the place.”

Substantial Departure

The city’s position that the registered broker-dealer status of a disregarded SMLLC won’t flow up to its sole member “is a substantial break” from the general rule that the separate existence of a disregarded SMLLC was disregarded for all purposes, said Alysse McLoughlin, an attorney with McDermott Will & Emery in New York.

The city’s update, she told Bloomberg BNA in a Dec. 4 e-mail, “raises several interesting issues, as it is not clear whether this is the only situation in which the department will assert that the separate existence of a single member LLC should be recognized.”

For instance, she said, will the status of a registered broker-dealer flow down for sourcing purposes to any disregarded SMLLCs owned by the broker-dealer?

“We are aware of several clients implicated by this update, although many have already been facing this issue in audit,” McLoughlin said. “To my knowledge, the largest impact is being felt by asset managers. This position will likely be challenged by taxpayers at audit and, depending upon whether the department sticks to this position, it could also result in litigation.”

City Official Doubts Risk

Zal Kumar, the city department’s director of business tax services, discounted the litigation risk.

Only registered securities or commodities brokers and dealers may use the special sourcing rules spelled out in the city law, he said in a Nov. 5 statement.

“If a single-member limited liability company is a disregarded entity for tax purposes, and is a registered securities or commodities broker or dealer, the member-owner may use the registered broker/dealer rules to allocate the SMLLC’s eligible receipts,” he said.

“The member-owner, however, may not then attribute the SMLLC’s registration status to other receipts or income, which must themselves be earned by a registered securities or commodities broker or dealer in order to potentially qualify for the same allocation method.”

City officials “do not perceive significant litigation risk on that issue,” Kumar told Bloomberg BNA.

“The update was meant to clarify that only registered entities qualify, but that we may consider other entities on a case-by-case basis if they are legally acting in the capacity of a broker or dealer,” he said. The guidance was a clarification and applied to all open tax years, he added.

It probably won’t have much application to future years, Robinson suggested.

With new market-sourcing regimes having been set in recent state and city statutory overhauls, “the issue probably goes away, as many more types of receipts are assigned based on market,” she said.

To contact the reporter on this story: John Herzfeld in New York at

To contact the editor responsible for this story: Ryan C. Tuck at

For More Information

The New York City Finance Department audit update is at

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