The IRS in Notice 2025-28, released on July 29, 2025, announced its intent to partially withdraw proposed regulations on the corporate alternative minimum tax (CAMT) applicable to corporate investments in partnerships and to propose new CAMT regulations on those investments. The Notice also provides interim guidance on which taxpayers may rely until the new proposed regulations have been issued.

BACKGROUND

I. General

The Inflation Reduction Act (IRA) amended IRC Section 55 to impose a 15% CAMT on the adjusted financial statement income (AFSI) of "applicable corporations" for tax years beginning after December 31, 2022. Generally, AFSI is defined as a taxpayer's net income or loss set forth in the taxpayer's applicable financial statement (AFS) for the tax year (financial statement income or FSI), as adjusted under IRC Section 56A. IRC Sections 56A(c) and (d) outline the adjustments made to FSI to compute AFSI.

IRC Section 56A(c)(2)(D)(i) provides that, "except as provided by the Secretary, if the taxpayer is a partner in a partnership, AFSI of the taxpayer with respect to such partnership shall be adjusted to only take into account the taxpayer's distributive share of [AFSI] of such partnership."

IRC Section 56A(c)(2)(D)(ii) provides that, "for the purposes of [IRC Sections 55-59], the [AFSI] of a partnership shall be the partnership's net income or loss set forth on such partnership's [AFS] (adjusted under rules similar to the rules of [IRC Section 56A]."

IRC Section 56A(c)(15) authorizes Treasury and the IRS to provide AFSI adjustments to carry out the purposes of IRC Section 56A, including to prevent duplications and omissions and to carry out certain IRC Subchapter C (corporate) principles and IRC Subchapter K (partnership) principles on partnership contributions and distributions.

II. Notice 2023-7

Under Section 3 of Notice 2023-7, FSI from a transaction that qualifies for nonrecognition completely under IRC Sections 332, 337, 351, 354, 355, 357, 361, 368, 721, 731, or 1032, or a combination thereof (a Covered Nonrecognition Transaction), is excluded from AFSI. Notice 2023-7 also disregarded any increase or decrease in the AFS basis of an item of property from a Covered Nonrecognition Transaction in determining the CAMT basis of that item of property. Thus, under Notice 2023-7, the gain recognition and basis consequences of certain partnership contributions and distributions would be similar for CAMT purposes and for regular tax purposes. Notice 2023-7 permitted taxpayers to rely on its guidance provided until the proposed CAMT regulations were issued.

III. The proposed regulations

          A. General

On September 12, 2024, the IRS and Treasury issued a Notice of Proposed Rulemaking (the proposed regulations) with guidance for determining whether a corporation is an "applicable corporation" subject to the CAMT and computing an entity's AFSI (see Tax Alert 2024-1798).

Some of the rules are proposed to apply to tax years ending after September 13, 2024 (the "specified regulations"), while the remainder are generally proposed to apply to tax years ending after the date the final regulations are published. Taxpayers may choose to early-rely on the proposed regulations, including for 2023 tax years; however, early reliance comes with several conditions.

          B. AFSI with respect to partnership investments (Prop. Reg. Sections 1.56A-5 and -20)

While requiring a partner's AFSI with respect to a partnership to be adjusted to only take into account the partner's distributive share of partnership AFSI (Distributive Share Amount), IRC Section 56A(c)(2)(D) did not specify how to determine a partner's Distributive Share Amount. The proposed regulations generally determined a partner's Distributive Share Amount based on financial accounting principles, rather than federal income tax principles under Subchapter K.

The proposed regulations would adopt a "bottom-up" approach, under which a partnership would determine its AFSI and allocate each partner its Distributive Share Amount. To determine the Distributive Share Amount of an applicable corporation of an upper-tier partnership, the process would start with the lowest-tier partnership, which would determine its AFSI and allocate each partner its respective Distributive Share Amount. That process would be repeated at each succeeding tier until the highest-tier partnership allocates to the partner that is an applicable corporation its Distributive Share Amount. The drafters of the proposed regulations rejected a "top-down" approach, under which a partner would determine its Distributive Share Amount based on the method it uses to account for its investment in the partnership for AFS purposes.

The proposed regulations provided a six-step process for determining a partner's Distributive Share Amount:

1. The partner would disregard any amount that is reflected in its FSI with respect to its partnership investment (e.g., changes in the fair value of its investment under the fair value method of accounting). This first step, however, would not apply to amounts that are (1) attributable to any transaction between any partner and the partnership, or between partners, and (2) not derived from, and included in, the partnership's FSI. If the partner and the partnership were consolidated for financial accounting purposes, then the partner would determine its FSI with respect to its partnership investment as though it prepared a separate financial statement in which the investment was properly accounted for under the relevant accounting standards for investments in other entities.
2. The partner would determine its distributive share percentage, which would be a fraction that is based on the method of financial accounting the partner uses to account for its partnership investment for AFS purposes. A taxpayer's whose financial accounting method is not listed in Prop. Reg. Section 1.56A-5(e) would have to determine its distributive share percentage using a method that is reasonable under the facts and circumstances, and reflective of the proportionate amount of the partnership's FSI that the partner is reporting for AFS purposes. Notably, a partner's distributive share percentage could exceed 100% (such as where a partner's loss from its investment in a partnership under the hypothetical liquidation at book value method exceeds the partnership's FSI for the year; see Prop. Reg. Section 1.56A-5(k)(3)(ii)(B) (Ex. 3 — Step 2)).
3. The partnership would determine its modified FSI, which is the partnership's FSI for the partnership's taxable year, adjusted to take into account certain adjustments in the proposed regulations.
4. The partner would multiply the partnership's modified FSI by its distributive share percentage.
5. The partner would adjust its share of modified FSI by certain separately stated adjustments, such as IRC Section 743(b) adjustments to IRC Section 168 property, or deferred distribution gain or loss (described later).
6. The end result would be the partner's Distributive Share Amount, which the partner would include in its AFSI in the final step.

          C. Reporting and filing requirements for partnerships

If a partner were unable to determine its Distributive Share Amount without receiving information from the partnership, the proposed regulations would generally require the partner to request information from the partnership by the 30th day after the end of the partnership's tax year. If the partnership were not to provide the requested information, the partner would be required to determine its Distributive Share Amount by making a "required good faith estimate." In general, this means the partner would be obligated to determine its Distributive Share Amount based "on whatever information it [could] reasonably obtain" before the statute of limitations period expires (generally, three years after its return was filed); the partner would be required to continue using best efforts to obtain the required information from the partnership. A partnership that fails to provide requested information could be subject to penalties and adjustments. These compliance requirements were expected to require significant additional resources.

          D. Contributions to, and distributions by, partnerships

While Notice 2023-7 disregarded Covered Nonrecognition Transactions between partners and partnerships for AFSI purposes, Prop. Reg. Section 1.56A-20 would have adopted a "deferred sale" approach. Under this approach, if a contribution of property to a partnership were to qualify for nonrecognition under IRC Section 721(a), any gain or loss reflected in the contributor's FSI from the contribution would generally have to be included in the contributor's AFSI over a prescribed period (referenced in the proposed regulations as the applicable recovery period). The gain or loss to be included in the contributor's AFSI would be the FSI gain or loss recomputed using CAMT basis (the CAMT gain or loss). Any CAMT gain or loss that must be included in the contributor's AFSI in a year after the contribution would be considered deferred sale gain or loss. While the applicable recovery period would generally be based on the property's recovery period for tax or AFS purposes (depending on the type of property), the proposed regulations would require CAMT gain (or loss) from a contribution of nonamortizable, nondepreciable property (e.g., land, goodwill and going-concern value) to be included in AFSI over 15 years. Certain events (e.g., a partnership disposing of the contributed property) would accelerate inclusion of the deferred sale gain or loss. Any other FSI resulting from the transaction (e.g., deconsolidation or dilution gain) would not be subject to the deferred-sale approach, and therefore would be taken into account in full, consistent with the AFS treatment. A similar set of rules would apply to property distributions by a partnership. Special rules in Prop. Reg. Section 1.56A-4(b) would apply to contributions and distributions of stock of a foreign corporation.

The proposed regulations consider a partnership's CAMT basis in contributed property to be the partnership's carrying value of the contributed property for AFS purposes (AFS basis). The contributor's initial CAMT basis in its partnership investment would equal its AFS basis, decreased by any deferred sale gain and increased by any deferred sale loss. The contributor's CAMT basis in its partnership investment would then be adjusted over time, as the contributor recognizes deferred-sale gain or loss.

The IRC Section 752 liability rules (and related disguised sale exceptions) would be disregarded in applying the deferred-sale approach. As a result, a contribution of property encumbered by a qualified liability that qualifies for nonrecognition for regular tax purposes would be a partially taxable transaction for CAMT purposes under the proposed regulations. In that case, the contributor would be required to recognize a proportionate amount of the CAMT gain or loss at the time of contribution (in a partial nonrecognition transaction, described later), rather than over the applicable recovery period.

For partial nonrecognition transactions (for regular tax purposes, or as a result of disregarding IRC

Section 752 for CAMT purposes), FSI gain or loss would be recognized in the year of the transaction in the same proportion as taxable gain would be recognized if one disregarded IRC Section 752. Any FSI gain or loss not recognized in the year of the transaction would have to be recognized over the applicable recovery period.

NOTICE 2025-28

I. General

Notice 2025-28 (the Notice) announces that the IRS and Treasury intend to partially withdraw the proposed regulations and issue revised proposed regulations (the forthcoming proposed regulations), which will include rules similar to the guidance in Sections 3 through 7 of the Notice.

The Notice introduces two new elective methods to determine a partner's Distributive Share Amount, the "top-down election" (Section 3) and the "taxable-income election" (Section 4). These elective methods would be alternatives to the bottom-up approach in the proposed regulations. Although a partnership would still be required to report Distributive Share Amounts to partners that have not made a top-down election or a taxable-income election, the Notice permits a partnership to use any reasonable method to determine its partners' Distributive Share Amounts (Sections 5.02 and 5.03). The Notice also modifies some of the reporting requirements in the proposed regulations (Section 5.04).

Additionally, the Notice introduces two new elective methods to determine AFSI adjustments for partnership contributions and distributions, the "modified -20 method" (Section 6.02) and the "full Subchapter K method" (Section 6.03). These elective methods are alternatives to the deferred-sale and deferred-distribution approaches in the proposed regulations. Neither of these two methods would apply to contributions and distributions involving stock of a foreign corporation. As discussed later, the full Subchapter K method and the modified -20 method are generally incompatible with the top-down and taxable-income elections.

The Notice also deviates from the proposed regulations by excluding FSI resulting from certain "non-realization" events from AFSI (Section 7), such as dilution gain that can be reflected in the AFS of an existing partner when a new partner is admitted. In general, this change is expected to better align the CAMT consequences and regular tax consequences (of nonrecognition treatment) of non-realization events, similar to the more favorable treatment of partnership contributions and distributions under the Notice.

Section 8 of the Notice modifies the reliance rules in the proposed regulations, while Section 9 describes the extent to which taxpayers can rely on the guidance in Sections 3 through 7.

II. New elective methods to determine a partner's Distributive Share Amount

          A. The top-down election

                    1. General

In a significant departure from the intricate "bottom-up" calculation methodology previously detailed in Prop. Reg. Section 1.56A-5, Section 3 of the Notice introduces a partner-level "top-down election." This election permits a partner (other than another partnership) to determine its AFSI attributable to a specific partnership investment by reference to the FSI the partner reports for that investment, thereby reducing the need for complex information gathering and computational burdens at the underlying partnership level.

                    2. Computational mechanics of the top-down election

If a partner makes a valid top-down election for a partnership investment, its AFSI for that investment is calculated as the sum of the following three components:

1. 80% of the "top-down amount"
2. 100% of any amounts included in AFSI resulting from a sale or exchange of the partnership investment, with any such gain or loss computed using the partner's CAMT basis in its interest as specified in Section 3.02(3)
3. Certain specified AFSI adjustments related to foreign stock held by the partnership, as detailed in Section 3.02(4)

The core of this simplified methodology is the "top-down amount," which — subject to the exclusions noted later — includes any income, gain, expense, or loss that is reflected in the partner's FSI for the tax year and attributable to the partnership investment for which the election is in effect. Crucially, the top-down amount includes FSI amounts attributable to a contribution of property to, or a distribution of property from, the partnership, effectively rendering the complex deferred sale regime of the proposed regulations inapplicable for an electing partner.

                    3. Exclusions

The following items are excluded from the top-down amount:

• Any FSI amounts attributable to a sale or exchange of all or a portion of the partnership investment in a recognition transaction, which are accounted for separately as a 100% inclusion (with certain adjustments)
• Certain FSI or AFSI amounts related to foreign corporations and federal and foreign income taxes, specifically those described in Prop. Reg. Sections 1.56A-4(c)(1)(i) and (ii), 1.56A-6(c)(2)(iii), or 1.56A-8(b) and (c) (certain of these amounts receive special partner level AFSI treatment)
• Any "specified non-realization amounts" to the extent excluded under the rules of Section 7 of the Notice

                    4. Observations on the top-down election

Interplay with the treatment of partnership contributions and distributions: Although the top-down approach may be simpler from a computational standpoint, careful consideration should be given to the potential for partnership contributions and distributions to give rise to a significant CAMT liability, which may otherwise be deferred if another method that incorporates the nonrecognition provisions of Subchapter K is used instead.

Structural limitations and qualified simplification: The top-down election may significantly ease the compliance and reporting burden for applicable corporations that own (directly or indirectly through a corporate subsidiary) interests in partnerships (including investment funds structured as partnerships). However, the top-down election may not simplify compliance matters for partnerships that continue to have significant reporting burdens for other partners not electing the top-down method. As noted, any partner that is a partnership (an Upper-Tier Partnership) cannot make the top-down election. Thus, unless each partner of the Upper-Tier Partnership makes the top-down election, the Upper-Tier Partnership would continue to be subject to the more complex bottom-up calculation regime for its investments in lower-tier partnerships.

While the availability of multiple methods to determine a partner's Distributive Share Amount (including the top-down method, the limited taxable-income election under Section 4, and the modified bottom-up approaches under Sections 5 and 6) is generally a welcome change, making an informed decision regarding which of these methods should be used may require a significant modeling exercise. Such modeling requires a sophisticated understanding of the interplay between the various elective regimes.

The 80% factor: The Notice provides no specific policy justification for the 80% inclusion factor applied to the top-down amount. The 80% factor appears intended to function as a rough proxy for the aggregate effect of various partnership-level AFSI adjustments (e.g., for depreciation under IRC Section 56A(c)(13)) that would have been required under the bottom-up method but do not apply under this elective approach. The 80% factor effectively creates a 20% "haircut" on the FSI a partner recognizes from its partnership investment (excluding sales of partnership interests and certain foreign items). This may be favorable where the partner's FSI from the partnership investment broadly aligns with (or is less than) the partner's distributive share of the partnership's modified FSI (e.g., a partner that does not have any distributive share of depreciation or other IRC Section 56A(c) adjustments), or its distributive share of the partnership's taxable income.

Conversely, for taxpayers whose reported FSI from a partnership investment materially exceeds the partner's distributive share of the partnership's modified FSI (e.g., a partner that has significant depreciation and reduces FSI under IRC Section 56A(c)) or its distributive share of the partnership's taxable income, the top-down method may result in a higher CAMT liability than would be produced by the more complex bottom-up or other elective methods. In some cases, modeling may be necessary for taxpayers to determine the optimal method for each partnership investment.

Duration of the election: Under Section 3.05 of the Notice, a top-down election, once made, continues in effect for all subsequent tax years beginning before the forthcoming proposed regulations are issued. The election's application to those tax years, coupled with the uncertainty of how or if this elective regime will be incorporated into final regulations, introduces a significant element of risk for taxpayers. A method chosen for its benefits in a current year may later become undesirable due to changes in a taxpayer's facts or the partnership's operations, but once a taxpayer makes a top-down election for a partnership, it will continue to be subject to the top-down election for that partnership for subsequent taxable years beginning before the forthcoming proposed regulations are issued.

          B. The taxable-income election

                    1. General

As an alternative to both the complex bottom-up methodology of the proposed regulations and the new top-down election, Section 4 of the Notice introduces a "taxable-income election." The taxable-income election permits certain qualifying partners to determine their AFSI from a partnership investment by reference to their distributive share of the partnership's taxable income, as computed for regular tax purposes.

                    2. Eligibility for the taxable-income election

Under Section 4.03, an eligible partner (which cannot be a partnership itself) may make the election only if the partner's "test group" meets two conditions as of the last day of the tax year:

1. The test group does not own more than 20% of the interests in the capital or profits of the partnership
2. The fair market value of the partnership investment held by the test group is $200 million or less.

The "test group," as defined in Section 4.03(2) by reference to Prop. Reg. Section 1.59-2(b)(6), is determined using controlled group aggregation principles.

                    3. Computational mechanics of the taxable-income election

A partner that makes a valid taxable-income election computes its AFSI from the relevant partnership investment as the sum of its "taxable-income amount" and any AFSI attributable to sales or exchanges of its partnership interest or distributed property, subject to certain adjustments to foreign stock.

The taxable-income amount is defined as the partner's distributive share of income, gain, loss, and deduction from the partnership for regular tax purposes. This computation explicitly incorporates all applicable regular tax rules under Subchapter K, including the principles of IRC Sections 704(c) and (d). For an electing partner, the taxable-income amount replaces the complex distributive share calculation in the proposed regulations. Instead of the deferred-sale and deferred-distribution rules for partnership contributions and distributions, the electing partner's taxable-income amount with respect to a partnership investment includes any income, gain, loss, or deduction resulting from partnership contributions and distributions as computed for regular tax purposes. An electing partner will adjust its CAMT basis in its partnership interest by its taxable-income amount.

A significant feature of the taxable-income election, detailed in Section 4.02(3), is its bifurcated approach to basis. While the partner's annual AFSI inclusion is determined by reference to regular tax principles, any gain or loss on the subsequent sale or exchange of the partnership interest itself must be determined using the partner's outside CAMT basis. Similarly, while a partner receiving a property distribution in a nonrecognition transaction will take an initial CAMT basis in the distributed property equal to its adjusted basis for regular tax purposes, any subsequent adjustments to that CAMT basis, and the determination of AFSI upon its disposition, will be governed by the proposed regulations.

                    4. Observations on the taxable-income election

Requirement to maintain CAMT basis: While the election simplifies the annual AFSI inclusion calculation by conforming it to the regular tax distributive share, it does not eliminate the requirement for the partner to maintain a separate outside CAMT basis in its partnership interest. Thus, a partner that makes the taxable-income election must continue to track both a regular tax basis and a CAMT basis in its partnership interest.

Valuation uncertainty and audit risk: The annual requirement to determine FMV for non-publicly traded interests creates a new, possibly high-stakes compliance burden and a potentially significant audit trigger. A successful IRS challenge to a taxpayer's valuation could retroactively disqualify the election. Open questions remain regarding the treatment of tiered partnership arrangements, the valuation of different classes of equity (such as preferred versus common interests), and the valuation and percentage ownership attributable to carried interests and other profits interests in complex capital structures with waterfall allocations.

Termination and lack of transition rules: The termination provision in Section 4.05 is potentially problematic. A taxable-income election terminates for the tax year in which the eligibility requirements are no longer met and for all subsequent years. Furthermore, the partner may not make a subsequent taxable-income election for that same partnership. Consequently, a temporary increase in the fair market value of a partnership investment above the $200 million threshold, or a temporary increase in the taxpayer's ownership interest in the partnership above 20%, could permanently disqualify a partner from using the simplified limited taxable-income method. Taxpayers could be forced into one of the more complex regimes indefinitely, even if the investment's value, or the taxpayer's ownership percentage, subsequently declines.

The Notice does not include any transition rules for reconciling a partner's CAMT basis after a termination forces a switch from a taxable-income-based method to an AFS-based method, creating potential uncertainty for taxpayers considering the election for long-term investments.

          C. The "reasonable method" standard

                    1. General

For partners that do not make an election under either Section 3 or Section 4 of the Notice and thus remain subject to the general "bottom-up" framework of the proposed regulations, Section 5 provides substantial relief by simplifying both the partnership's allocation methodology and the partner's information-gathering obligations.

In a significant reduction to the complexity of the proposed rules, Section 5.02 of the Notice replaces the often unwieldy "distributive share percentage" formula of Prop. Reg. Section 1.56A-5(e)(2) with a "reasonable method" approach. More specifically, the Notice permits a partnership to allocate its modified FSI among its partners using "any reasonable method," provided that the same method is used for all such partners.

                    2. Safe harbors

While the term "reasonable method" is not comprehensively defined, Section 5.02(2) provides two specific safe harbors:

1. Relative share of net IRC Section 704(b) income or loss: A partnership may determine a partner's distributive share based on the partner's relative share of the partnership's "net [IRC Section] 704(b) income or loss," the calculation of which explicitly disregards the effects of allocations under IRC Section 704(c) and its principles, as well as regulatory allocations (e.g., qualified income offset, minimum gain chargeback). For purposes of the calculation of net IRC Section 704(b) income or loss, any guaranteed payment under IRC Section 707(c) that is deductible for regular tax purposes is treated as a share of net IRC Section 704(b) income.
2. Partnership agreement allocations: A partnership may use the allocation provisions within its partnership agreement for net IRC Section 704(b) income or loss, provided those allocations comply with IRC Section 704(b). If the partnership makes a guaranteed payment within the meaning of IRC Section 707(c) that is deductible for regular tax purposes, solely for purposes of this rule, the provisions of the partnership agreement that the partnership uses to allocate net IRC Section 704(b) income or loss are considered to include the agreement's provisions on the guaranteed payment.

A method is not considered reasonable if it results in the allocation of more or less than 100% of the partnership's modified FSI among its partners, or if it is undertaken with a principal purpose of avoiding applicable corporation status or reducing or avoiding a CAMT liability.

                    3. Selection and duration of method

A partnership chooses a reasonable method by attaching a statement to its federal income or information return for the tax year. The statement must be titled "Reasonable Allocation Method for CAMT" and include the partnership's name, address, taxpayer identification number, a statement that the partnership is applying a reasonable method under Section 5 of Notice 2025-28 and a description of the reasonable method. Once a partnership has chosen a reasonable method under Section 5 of the Notice, the partnership must consistently apply the method for all subsequent tax years beginning before the forthcoming proposed regulations are issued.

                    4. Observations on the "reasonable method" standard

Significant compliance relief: The shift to a "reasonable method" standard, particularly with the availability of safe harbors tied to existing IRC Section 704(b) concepts, substantially simplifies the process for determining partners' Distributive Share Amounts.

Ambiguity beyond the safe harbors: Beyond the two specified safe harbors, the Notice provides no further examples of what might constitute a "reasonable method," leaving a degree of uncertainty for partnerships with complex allocation structures that may not align perfectly with the safe harbors provided.

Uncertainty in tiered structures: The Notice does not address how allocation methods should be synchronized in tiered structures or how reconciling adjustments should flow through multiple partnership tiers, particularly if a lower-tier partnership adopts one reasonable method while an upper-tier partnership elects another. The absence of guidance in this area leaves ambiguity for complex tiered investment structures.

III. Modifications to reporting requirements

          A. General

Section 5.04 of the Notice extends critical deadlines and lowers the burden on partners that are unable to obtain necessary CAMT information from a partnership. Instead of being required to request information by the 30th day after the close of the partnership's tax year, a partner may now request that information up to 60 days before the due date (including extensions) for the filing of the partnership's Federal income tax return. If a partnership fails to furnish the requested information, the partner is no longer required to adhere to the burdensome "best efforts" standard of the proposed regulations and may instead base its required estimate on its own books and records.

          B. Observations on the modified reporting requirements

The replacement of the burdensome "best efforts" standard in the proposed regulations with the book-based estimates required by the Notice is a welcome change for taxpayers. The previous "best efforts" standard imposed an unusually high burden on partners, which could, theoretically, apply until the statute of limitations expired on the partner's tax return for the year in which reporting information was being sought from an underlying partnership. Furthermore, a partner failing to comply with the "best efforts" standard could have been subject to penalties and other adjustments.

IV. New elective methods to adjust AFSI for partnership contributions and distributions

Section 6 of the Notice introduces two additional elective methods for determining AFSI adjustments for partnership contributions and distributions, offering alternatives to the deferred-sale and deferred-distribution approaches in the proposed regulations. These methods are apparently intended to address taxpayer concerns with the complexity of the proposed regulations and the potential for divergence between financial accounting and regular tax outcomes.

          A. The "modified -20" method

                    1. General

The modified -20 method, described in Section 6.02 of the Notice, is a partner-level election to apply the rules of Prop. Reg. Section 1.56A-20, with significant modifications.

Under the modified -20 method, IRC Section 752 and the disguised sale regulations (Treas. Reg. Sections 1.707-4, 1.707-5, and 1.707-6) apply to determine AFSI adjustments for contributions and distributions of property subject to liabilities. Thus, a contribution of property encumbered by a qualified liability to a partnership should not give rise to an AFSI inclusion with respect to the liability (assuming that the transaction is not otherwise treated as a disguised sale for regular tax purposes), as it might under the proposed regulations, if the contributing partner elects to use the modified -20 method.

The modified -20 method simplifies the complex recovery period rules of the proposed regulations. For deferred sale or distribution gain or loss in respect of property that is depreciable or amortizable for AFS purposes (including IRC Section 168 property), a 15-year recovery period applies. For property that is not depreciable or amortizable for AFS purposes, there is no applicable recovery period, and deferred sale or distribution gain or loss is included in the contributing partner's AFSI only upon the occurrence of certain acceleration events.

Under the modified -20 method, the acceleration events applicable to deferred sale gain or loss are limited to the following:

1. The contributing partner disposes of its entire investment in the partnership (including through a liquidation of the partnership).
2. The partnership disposes of the contributed property (or of any property whose tax basis is determined wholly or partly by reference to the adjusted basis of the contributed property) in a recognition transaction.
3. The contribution is subject to the IRC Section 721(c) gain deferral method, and an IRC Section 721(c) acceleration event occurs.

However, the first acceleration event (contributing partner disposes of its entire interest) apparently does not apply to deferred sale gain from property that is not amortizable or depreciable for AFS purposes.

The acceleration events applicable to deferred distribution gain or loss are limited to the following:

1. The partnership terminates under IRC Section 708(b)(1) as a result of a dissolution or liquidation.
2. A merger or consolidation occurs, and the partnership is not the resulting partnership for regular tax purposes.
3. A partner disposes of its entire interest in a partnership (including through a liquidating distribution by the partnership).

Any partner (including a partnership) that has not made a top-down or taxable-income election can elect to apply the modified -20 method to a partnership investment by attaching a statement to its federal income tax return or information return for the tax year and identifying the relevant partnership investment. Special rules apply for partners that are controlled foreign corporations (CFCs). A partner that elects to apply the modified -20 method to a partnership investment must apply that method to all contributions and distributions to that partnership for the tax year for which the election is made and all subsequent tax years beginning before the forthcoming proposed regulations are issued.

                    2. Observations on the modified -20 method   

Clarification on certain deferred-sale acceleration events: For deferred sale gain (i.e., deferred gain from a contribution), the Notice helpfully clarifies in Section 6.02(1)(e) that the acceleration event under Prop. Reg. Section 1.56A-20(c)(2)(iii) triggered by a partnership's disposition of the contributed property applies only if the partnership disposes of that property in a recognition transaction. However, the Notice does not provide a parallel nonrecognition exception (or a "step-in-the-shoes" rule) for the disposition of a partner's entire partnership interest. In fact, Section 6.02(1)(d) apparently provides that deferred sale gain is accelerated if the contributing partner disposes of its entire investment in the partnership (regardless of whether the transfer qualifies for nonrecognition). Thus, it appears that a nonrecognition transfer of a partnership interest (e.g., an IRC Section 721(a) contribution to an upper-tier partnership) will accelerate deferred sale gain, while a nonrecognition partnership-level disposition of the underlying deferred sale assets will not. It is unclear why a step-in-the-shoes rule, whereby the transferee of the partnership interest would continue to be subject to the remaining deferred sale gain, was not proposed instead.

Alignment on leveraged transactions: The application of the IRC Section 752 liability rules is a welcome change. This modification aligns the CAMT consequences of ordinary course transactions involving the contributions and distributions of business units (which often involve the transfer of encumbered assets) as well as other leveraged transactions more closely with established regular tax principles applicable to those transactions.

Deferral for certain nondepreciable, nonamortizable property: Eliminating the 15-year applicable recovery period for nondepreciable, nonamortizable property is a welcome change that more closely aligns the CAMT consequences of ordinary course transactions with regular tax principles.

          B. The full Subchapter K method

                    1. General

The full Subchapter K method, described in Section 6.03 of the Notice, is a partnership-level election to apply the principles of IRC Sections 721 and 731 to determine AFSI adjustments for partnership contributions and distributions in lieu of the deferred-sale and deferred-distribution approaches of the proposed regulations. This method effectively creates a parallel Subchapter K system for CAMT. A partnership making this election must apply all relevant provisions of Subchapter K (e.g., IRC Sections 704(c), 732, 734, 737, and 743), but must do so using CAMT inputs, such as CAMT basis, where appropriate. A partnership that elects to use the full Subchapter K method must apply the same methods and elections for CAMT purposes as it does for regular tax purposes. For example, a partnership that uses the remedial allocation method for IRC Section 704(c) purposes or has an IRC Section 754 election in effect for regular tax purposes must apply those same methods and elections for CAMT purposes.

A partnership can elect to apply the full Subchapter K method by attaching a statement to its US federal information return for the tax year. This election requires the written consent of all partners that were partners at any time during the tax year for which the full Subchapter K method election is initially made and that do not have a top-down or taxable-income election in effect for that tax year.

A partnership that elects to apply the full Subchapter K method must apply that method to all contributions and distributions to and from it for the tax year for which the election is made and all subsequent tax years beginning before the forthcoming proposed regulations are issued. Accordingly, partners that are admitted to a partnership in a subsequent tax year will be bound by the partnership's full Subchapter K method election. The partnership must also maintain in its books and records computations substantiating compliance with the full Subchapter K method.

                    2. Observations on the full Subchapter K method

A hybrid system: Because all calculations under the full Subchapter K method must be performed using CAMT inputs, the AFSI consequences of a partnership contribution or distribution may differ from the regular tax consequences. Thus, partnerships that elect to apply the full Subchapter K method and their partners (other than partners that make a top-down or taxable-income election) must maintain a complete, parallel set of CAMT basis calculations for both inside and outside basis, including separate CAMT IRC Section 704(c) layers and CAMT IRC Sections 743(b)/734(b) adjustments. These requirements are expected to increase the compliance burden for many partnerships, in some cases, significantly. However, partners wishing to defer the CAMT consequences of partnership contributions and distributions that otherwise would arise under the proposed regulations may be willing to take on this incremental compliance burden.

High bar for adoption: The partner consent requirement may pose a significant obstacle to elect the full Subchapter K method for many partnerships that are widely held or have a diverse investor base with conflicting tax objectives.

Uncertainty regarding interaction of elections: The Notice's language on the consent requirement and duration of the full Subchapter K election raises questions regarding its interaction with the partner-level elections. Future guidance is needed to clarify several questions, including:

1. Confirming that a partnership can make a full Subchapter K election even if one or more of its partners already have a top-down or taxable-income election in effect. The consent requirement in Section 6.03 can be read multiple ways. One interpretation suggests that if a single partner has a top-down or taxable-income election in effect, the partnership is ineligible to adopt the full Subchapter K election. Alternatively, the consent requirement could be interpreted to merely exclude partners with top-down or taxable-income elections in effect from the group of partners required to consent. This alternative reading is supported by the fact that these electing partners are presumably indifferent to the partnership's choice of a full Subchapter K election. Further, this reading prevents the impractical result where a single partner's choice to make a top-down or taxable-income election could veto a partnership-level election beneficial to all other partners. For these and other reasons, we believe the latter interpretation is the better one.
2. Confirming that a partner admitted to a partnership with a valid full Subchapter K election in place can make a top-down or taxable-income election for its own interest. The Notice's language on the duration of the partnership's full Subchapter K election creates tension with the rules governing partner-level elections. A restrictive reading might suggest that a new partner is precluded from making a top-down or taxable-income election if the partnership has a full Subchapter K election in effect. This view is supported by language in Section 6.03(3) stating the partnership's election is binding "regardless of whether a new CAMT entity partner is admitted to the partnership and does not consent," which could be interpreted to mean new partners are automatically bound by the partnership's existing methodology. Conversely, under a more permissive reading, the "regardless of consent" language is not a prohibition on the new partner's elective rights, but rather a clarification that (1) a new non-consenting partner cannot invalidate the partnership's election for the consenting partners; and (2) any newly admitted partners that do not make a top-down or taxable-income election will be bound by the partnership's existing full Subchapter K election.
3. Clarifying whether an existing partner that previously consented to the partnership's full Subchapter K election can subsequently choose to make a top-down or taxable-income election in a later year. It is unclear whether a partner, by consenting to the partnership-level election to adopt the full Subchapter K method, is precluded from subsequently making a top-down or taxable-income election. One view is that the partner-level elections are governed by their own distinct rules and remain available so long as the eligibility requirements are met in a given year. The consent provided for the partnership-level election could be seen as relevant only for the year of adoption and not as a permanent waiver of the partner's own future elective rights. One unresolved issue under this latter interpretation is the need for transition rules to reconcile a partner's CAMT basis and other attributes upon switching from the full Subchapter K method to a top-down or other method.

V. Exclusion of FSI from specified non-realization events

          A. General

Section 7 of the Notice allows a partner to exclude any FSI arising from a consolidation, remeasurement, deconsolidation, dilution, or a change in ownership of another partner from its AFSI to the extent those events are non-realization events for regular federal income tax purposes. A partner that excludes FSI related to such "specified non-realization amounts" from its AFSI must make "appropriate adjustments" to any relevant CAMT attributes to ensure that those amounts are not permanently eliminated (including, e.g., refraining from increasing its CAMT basis in its partnership investment where book rules would require an increase in AFS basis upon the recognition of FSI).

          B. Observations on the exclusion of FSI from specified non-realization events

Alignment with tax realization principles: Section 7 of the Notice is a welcome attempt to align the CAMT regime more closely with the foundational tax principle of realization. By preventing the imposition of tax on purely accounting-driven entries (e.g., a change in percentage ownership that is not a realization event for tax purposes but can result in FSI when that change results in a consolidation of the partnership investment with the partner's financials for financial accounting purposes), the rule mitigates what could otherwise be a significant acceleration of CAMT liability.

Lack of technical definitions: The guidance remains high-level and does not provide technical definitions, thresholds, or measurement dates for critical terms like "dilution" or "change in ownership." This ambiguity creates uncertainty for taxpayers in applying the rule to complex partnership transactions.

Unspecified methodology for "appropriate adjustments": While mandating "appropriate adjustments" to prevent a permanent exclusion, the Notice provides no specific methodology for calculating or tracking these adjustments to the CAMT basis of a partnership interest. This lack of guidance creates a new compliance burden, requiring taxpayers to develop and substantiate their own methodologies for tracking these items.

Narrow scope of relief: The relief provided in this section is narrowly targeted. By its terms, it appears to apply only to FSI attributable to events related to a CAMT partner's investment in the partnership. The relief does not address unrealized gains more generally, outside of the partnership context.

VI. Revised rules for reliance on the proposed regulations

Section 8 of the Notice permits taxpayers to rely on the unmodified version of Prop. Reg. Section 1.56A-5 (excluding Prop Reg. Sections 1.56A-5(l)(2)(ii) and (iii), which contain special applicability dates for select coordination provisions), for tax years beginning before the forthcoming proposed regulations are issued. Reliance on the proposed regulations depends on the taxpayer and each member of its test group (as determined under Prop. Reg. Section 1.59-2) consistently applying Prop. Reg. Section 1.56A-5 (excluding Prop Reg. Sections 1.56A-5(l)(2)(ii) and (iii)) in its entirety for those tax years. Unlike in the proposed regulations, the Notice does not require the taxpayer and each member of its test group to apply Prop. Reg. Section 1.56A-20 in its entirety for those tax years. Conversely, a taxpayer may elect to apply Prop. Reg. Section 1.56A-20 in its unmodified form to tax years beginning before the forthcoming proposed regulations are issued without also applying unmodified Prop. Reg. Section 1.56A-5 in its entirety, subject to the test-group-consistency requirement described previously.

Note that, while taxpayers can now decouple unmodified Prop. Reg. Section 1.56A-5 and unmodified Prop. Reg. Section 1.56A -20, relying on either requires the taxpayer, and each member of its test group for that taxable year, to consistently follow that section in its entirety and also follow all of the specified regulations in their entirety in that tax year and each subsequent tax year until the first tax year the final regulations are applicable.

VII. Applicability dates

According to the Notice, Treasury and the IRS expect the forthcoming proposed regulations to contain similar reliance rules for tax years beginning before the applicability date of final regulations. Those rules will address IRC Section 56A(c)(2)(D) and (c)(15)(B) as applied to partnership investments.

Specifically, Section 9 of the Notice allows taxpayer to choose to apply Sections 3 through 7 to tax years beginning before the forthcoming proposed regulations are issued, including for purposes of filing amended returns or administrative adjustment requests. The Notice, however, does not clarify how its reliance provisions for amended filings interact with the centralized partnership audit regime under the Bipartisan Budget Act of 2015, creating procedural uncertainty for partnerships seeking to amend returns based on the Notice.

According to the Notice, relying on its provisions for a tax year will not cause the taxpayer to become subject to or violate the reliance rules or consistency requirement in the proposed regulations. For instance, a taxpayer that elected to early-rely on Prop. Reg. Sections 1.56A-5 and -20 under the proposed regulations for its 2023 tax year should be permitted to apply the Notice to its 2024 tax year.

While indicating that Treasury and the IRS expect the forthcoming proposed regulations to include provisions consistent with Sections 3 through 7, the Notice does not address whether taxpayers making any of its elections (e.g., a top-down election or a modified -20 method election) will be bound by those elections for tax years beginning after the forthcoming proposed regulations are issued.

VIII. Take-aways and unresolved issues

While Notice 2025-28 provides welcome flexibility to taxpayers and addresses some of the most important partnership tax issues in the proposed regulations, the complexity of its rules and those of the proposed regulations, the interaction of different sets of rules and elections with each other, the numerous unaddressed issues, the interim nature of the guidance, and the breadth of the new elective regimes leave significant questions unresolved for taxpayers. We expect taxpayers will need to carefully consider the options provided by the Notice, and may need to model their CAMT consequences on an investment-by-investment basis to evaluate relative outcomes. We have summarized some of the take-aways from the Notice, below.

Although the top-down election may offer computational simplicity and a lower AFSI outcome in some cases due to the 20% haircut on FSI implicit in its calculation, it appears to generally accelerate recognition of FSI from contributions and distributions. As such, it may be costly for certain taxpayers.

The taxable-income election could align annual AFSI more closely to regular-tax distributive shares, but annual FMV and ownership testing may introduce uncertainty and risk regarding eligibility, especially since it appears that increases in value in a partnership interest may terminate the election and make it so that the partner is permanently ineligible to make the taxable-income election again (even if the value of the interests subsequently decreases and the other conditions of eligibility are satisfied).

While the modified -20 method and full Subchapter K method may, in appropriate cases, reduce timing mismatches by restoring Subchapter K-type deferral, both require robust CAMT basis tracking and, for the full Subchapter K method, satisfying a broad partner-consent requirement.

Partnerships may rely on a "reasonable method" to allocate modified FSI, including two safe harbors keyed off of IRC Section 704(b); but outside of those safe harbors, it is unclear what methods are "reasonable".

The information reporting modifications offer welcome changes to ease compliance burdens for partners, though many partnerships may continue to be subject to significant reporting requirements.

Regardless of which method is used for determining a partner's distributive share of a partnership's modified FSI, partners should expect to maintain a CAMT basis and regular tax basis for their partnership interests. Additionally, the effects of some partnership tax mechanics (e.g., IRC Section 743 and 734 adjustments, IRC Section 752 liability allocations, IRC Section 704(d) loss limitations) on CAMT basis remain unclear.