Rev Rul 2008 38 2008 31 IRB 249 Issues 1 In the case of an individual is interest paid or accrued on indebtedness allocable to property described in 163 d 5 A ii of the Internal Revenue Code deductible after the application of the 163 d 1 limitation in determining the taxpayer s adjusted gross income or does the interest after the application of the 163 d 1 limitation instead constitute an itemized deduction 2 If an individual has both investment interest expense attributable to indebtedness allocable to property described in 163 d 5 A ii and investment interest expense attributable to indebtedness allocable to property described in 163 d 5 A i and the individual s aggregate investment interest expense is greater than the individual s net investment income how does the individual determine the portion of the allowed investment interest deduction that is deductible in determining the taxpayer s adjusted gross income and the portion that constitutes an itemized deduction Facts Situation 1 PRS is a partnership that is engaged solely in the trade or business of trading securities for its own account and not for customers LP an individual owns an interest in PRS as a limited partner LP does not materially participate as that term is used in 469 in the activity in which PRS is engaged The taxable year for PRS and LP is the calendar year PRS incurs indebtedness in its trade or business of trading securities In Year 1 LP s distributive share of PRS income gain loss deduction and credit includes 200x of interest expense incurred by PRS with respect to its indebtedness LP s net investment income as defined in 163 d 4 for Year 1 is equal to 150x During Year 1 LP s distributive share of PRS interest expense is the only interest paid or accrued by LP either directly or through any flow through entity on indebtedness properly allocable to property held for investment as defined in 163 d 5 A LP s distributive share of PRS interest expense is not subject to any limitation under 465 or 704 d Situation 2 The facts are the same as in Situation 1 except that during Year 1 LP also pays 100x of interest expense on indebtedness properly allocable to stocks and bonds held by LP for investment within the meaning of 163 d 5 A i None of the 100x of interest expense is described in 265 a Law And Analysis Section 62 a provides that the term adjusted gross income means in the case of an individual taxpayer gross income minus the deductions specified in 62 a 1 through 21 Section 62 a 1 provides that deductions allowed by chapter 1 of subtitle A other than by part VII of subchapter B which are attributable to a trade or business carried on by the taxpayer if such trade or business does not consist of the performance of services by the taxpayer as an employee are taken into account in determining the adjusted gross income of the taxpayer Section 63 d defines the term itemized deductions as including all deductions allowable under chapter 1 of subtitle A other than deductions allowable in arriving at adjusted gross income and the deduction for personal exemptions provided in 151 Section 163 d 1 provides that in the case of a noncorporate taxpayer the amount allowed as a deduction under chapter 1 of subtitle A for investment interest for any taxable year shall not exceed the amount of the taxpayer s net investment income for the taxable year Section 163 d 2 provides that any amount not allowed as a deduction for a given taxable year by reason of 163 d 1 shall be treated as investment interest paid or accrued by the taxpayer in the next succeeding taxable year Section 163 d 3 A provides that the term investment interest means any interest allowable as a deduction under chapter 1 of subtitle A determined without regard to paragraph 1 of 163 d which is paid or accrued on indebtedness properly allocable to property held for investment Section 702 a 8 provides that in determining the partner s income tax each partner shall take into account the partner s distributive share of the partnership s taxable income or loss exclusive of the items requiring separate computation under 702 a 1 through 7 Section 702 a 1 through 6 lists specific items of income gain loss deduction or credit that must be separately stated by a partnership Section 702 a 7 provides that other items of income gain loss deduction or credit also must be separately stated if required by regulations prescribed by the Secretary Section 702 b provides that the character of any item of income gain loss deduction or credit included in a partner s distributive share under paragraphs 1 through 7 of 702 a shall be determined as if such item were realized directly from the source from which realized by the partnership or incurred in the same manner as incurred by the partnership Section 1 702 1 a 8 ii of the Income Tax Regulations provides that each partner must take into account separately the partner s distributive share of any partnership item that if separately taken into account by the partner would result in an income tax liability for that partner or for any other person different from that which would result if that partner did not take the item into account separately Section 706 a provides that in computing the taxable income of a partner for a taxable year the inclusions required by 702 and 707 c with respect to a partnership shall be based on the income gain loss deduction or credit of the partnership for any taxable year of the partnership ending within or with the taxable year of the partner Revenue Ruling 2008 12 2008 10 IRB 520 holds that by virtue of the definition of the term property held for investment in 163 d 5 A ii a noncorporate limited partner s distributive share of interest expense on indebtedness allocable to a partnership s trade or business of trading securities for its own account constitutes investment interest described in 163 d 3 and is therefore subject to the limitation on the deduction of investment interest in 163 d 1 provided that the limited partner does not materially participate as that term is used in 469 in the trading activity The ruling further holds that a partnership that engages in the trade or business of trading securities for its own account must separately state the amount of interest paid or accrued on indebtedness properly allocable to its trading activity because the degree of participation by each noncorporate partner of the partnership could limit the deductibility of such interest by the partner on his