1. C21 - 1 Comprehensive Volume Chapter 21 Partnerships Copyright ©2010 Cengage Learning Comprehensive Volume

2. C21 - 2 Comprehensive Volume Partnership Definition An association of two or more persons to carry on a trade or business –Contribute money, property, labor –Expect to share in profit and losses For tax purposes, includes: –Syndicate –Group –Pool –Joint venture, etc An association of two or more persons to carry on a trade or business –Contribute money, property, labor –Expect to share in profit and losses For tax purposes, includes: –Syndicate –Group –Pool –Joint venture, etc

3. C21 - 3 Comprehensive Volume Entities Taxed as Partnerships (slide 1 of 4) General partnership –Consists of at least 2 partners –Partners are jointly and severally liable Creditors can collect from both partnership and partners’ personal assets General partner’s assets are at risk for malpractice of other partners even though not personally involved General partnership –Consists of at least 2 partners –Partners are jointly and severally liable Creditors can collect from both partnership and partners’ personal assets General partner’s assets are at risk for malpractice of other partners even though not personally involved

4. C21 - 4 Comprehensive Volume Entities Taxed as Partnerships (slide 2 of 4) Limited liability partnership (LLP) –An LLP partner is not personally liable for malpractice committed by other partners –Popular organizational form for large accounting firms Limited liability partnership (LLP) –An LLP partner is not personally liable for malpractice committed by other partners –Popular organizational form for large accounting firms

5. C21 - 5 Comprehensive Volume Entities Taxed as Partnerships (slide 3 of 4) Limited partnership –Has at least one general partner One or more limited partners –Only general partner(s) are personally liable to creditors Limited partners’ loss is limited to equity investment Limited partnership –Has at least one general partner One or more limited partners –Only general partner(s) are personally liable to creditors Limited partners’ loss is limited to equity investment

6. C21 - 6 Comprehensive Volume Entities Taxed as Partnerships (slide 4 of 4) Limited liability company (LLC) –Combines the corporate benefit of limited liability with benefits of partnership taxation Unlike corporations, income is subject to tax only once Special allocations of income, losses, and cash flow are available –Owners are “members,” not partners, but if properly structured will receive partnership tax treatment Limited liability company (LLC) –Combines the corporate benefit of limited liability with benefits of partnership taxation Unlike corporations, income is subject to tax only once Special allocations of income, losses, and cash flow are available –Owners are “members,” not partners, but if properly structured will receive partnership tax treatment

7. C21 - 7 Comprehensive Volume “Check-The-Box” Regs (slide 1 of 2) Allows most unincorporated entities to select their federal tax status –If 2 or more owners, can choose to be treated as: Partnership, or Corporation –Permits some flexibility Not all entities have a choice e.g., New publicly traded partnerships must be taxed as corporations Allows most unincorporated entities to select their federal tax status –If 2 or more owners, can choose to be treated as: Partnership, or Corporation –Permits some flexibility Not all entities have a choice e.g., New publicly traded partnerships must be taxed as corporations

8. C21 - 8 Comprehensive Volume “Check-The-Box” Regs (slide 2 of 2) Some entities can be excluded from partnership treatment if organized for: –Investment (not active trade or business) –Joint production, extraction, or use of property –Underwriting, selling, or distributing a specific security Owners simply report their share of operations on their own tax return Some entities can be excluded from partnership treatment if organized for: –Investment (not active trade or business) –Joint production, extraction, or use of property –Underwriting, selling, or distributing a specific security Owners simply report their share of operations on their own tax return

9. C21 - 9 Comprehensive Volume Partnership Taxation (slide 1 of 3) Partnership is not a taxable entity –Flow through entity Income taxed to owners, not entity Partners report their share of partnership income or loss on their own tax return Partnership is not a taxable entity –Flow through entity Income taxed to owners, not entity Partners report their share of partnership income or loss on their own tax return

10. C21 - 10 Comprehensive Volume Partnership Taxation (slide 2 of 3) Generally, the calculation of partnership income is a 2-step approach Step 1: Net ordinary income and expenses related to the trade or business of the partnership Step 2: Segregate and report separately some partnership items –If an item of income, expense, gain or loss might affect any 2 partners’ tax liabilities differently, it is separately stated –e.g., Charitable contributions Generally, the calculation of partnership income is a 2-step approach Step 1: Net ordinary income and expenses related to the trade or business of the partnership Step 2: Segregate and report separately some partnership items –If an item of income, expense, gain or loss might affect any 2 partners’ tax liabilities differently, it is separately stated –e.g., Charitable contributions

11. C21 - 11 Comprehensive Volume Partnership Taxation (slide 3 of 3) Electing large partnerships can net some items that would otherwise be separately stated –Must have at least 100 partners and elect simplified reporting procedures –Such partnerships separately report less than a dozen categories of items to their partners e.g., Combine interest, nonqualifying dividends, and royalty income into one amount, and report the net amount to partners Electing large partnerships can net some items that would otherwise be separately stated –Must have at least 100 partners and elect simplified reporting procedures –Such partnerships separately report less than a dozen categories of items to their partners e.g., Combine interest, nonqualifying dividends, and royalty income into one amount, and report the net amount to partners

12. C21 - 12 Comprehensive Volume Partnership Reporting Partnership files Form 1065 –Includes Schedule K which accumulates the information to be reported to partners Provides ordinary income and separately stated items in total –Each partner (and the IRS) receives a Schedule K-1 Reports each partner’s share of income, expense, gain, and loss Partnership files Form 1065 –Includes Schedule K which accumulates the information to be reported to partners Provides ordinary income and separately stated items in total –Each partner (and the IRS) receives a Schedule K-1 Reports each partner’s share of income, expense, gain, and loss

13. C21 - 13 Comprehensive Volume Partner’s Ownership Interest Each owner normally has a: –Capital interest Measured by capital sharing ratio –Partner’s percentage ownership of capital –Profits (loss) interest Partner’s % allocation of partnership ordinary income (loss) and separately stated items Certain items may be “specially allocated” –Specified in the partnership agreement Each owner normally has a: –Capital interest Measured by capital sharing ratio –Partner’s percentage ownership of capital –Profits (loss) interest Partner’s % allocation of partnership ordinary income (loss) and separately stated items Certain items may be “specially allocated” –Specified in the partnership agreement

14. C21 - 14 Comprehensive Volume Basis Issues (slide 1 of 3) Each partner has a basis in their partnership interest –Partner’s basis is adjusted for income and losses that flow through This ensures that partnership income is only taxed once Each partner has a basis in their partnership interest –Partner’s basis is adjusted for income and losses that flow through This ensures that partnership income is only taxed once

15. C21 - 15 Comprehensive Volume Basis Issues (slide 2 of 3) Partner’s basis is important for determining: –Deductibility of partnership losses –Tax treatment of partnership distributions –Calculating gain or loss on the partner’s disposition of the partnership interest Partner’s basis is important for determining: –Deductibility of partnership losses –Tax treatment of partnership distributions –Calculating gain or loss on the partner’s disposition of the partnership interest

16. C21 - 16 Comprehensive Volume Basis Issues (slide 3 of 3) –Partner’s capital account balance is usually not a good measure of a partner’s adjusted basis in a partnership interest for several reasons e.g., Basis includes partner’s share of partnership liabilities; Capital account does not –Partner’s capital account balance is usually not a good measure of a partner’s adjusted basis in a partnership interest for several reasons e.g., Basis includes partner’s share of partnership liabilities; Capital account does not

17. C21 - 17 Comprehensive Volume Conceptual Basis for Partnership Taxation (slide 1 of 2) Involves 2 legal concepts: –Aggregate (or conduit) concept—Treats partnership as a channel with income, expense, gains, etc. flowing through to partners Concept is reflected by the imposition of tax on the partners, not the partnership Involves 2 legal concepts: –Aggregate (or conduit) concept—Treats partnership as a channel with income, expense, gains, etc. flowing through to partners Concept is reflected by the imposition of tax on the partners, not the partnership

18. C21 - 18 Comprehensive Volume Conceptual Basis for Partnership Taxation (slide 2 of 2) Involves 2 legal concepts (cont’d): –Entity concept—Treats partners and partnerships as separate and is reflected by: Partnership requirement to file its own information return Treating partners as separate from the partnership in certain transactions between the two Involves 2 legal concepts (cont’d): –Entity concept—Treats partners and partnerships as separate and is reflected by: Partnership requirement to file its own information return Treating partners as separate from the partnership in certain transactions between the two

19. C21 - 19 Comprehensive Volume Partnership Formation Transaction

20. C21 - 20 Comprehensive Volume Tax Consequences of Partnership Formation (slide 1 of 2) Usually, no gain or loss is recognized by a partner or partnership on the contribution of money or property in exchange for a partnership interest Gain (loss) is deferred until taxable disposition of: –Property by partnership, or –Partnership interest by partner Usually, no gain or loss is recognized by a partner or partnership on the contribution of money or property in exchange for a partnership interest Gain (loss) is deferred until taxable disposition of: –Property by partnership, or –Partnership interest by partner

21. C21 - 21 Comprehensive Volume Tax Consequences of Partnership Formation (slide 2 of 2) Partner’s basis in partnership interest = basis of contributed property –If partner contributes capital assets and §1231 assets, holding period of partnership interest includes holding period of assets contributed –For other assets including cash, holding period begins on date partnership interest is acquired –If multiple assets are contributed, partnership interest is apportioned and separate holding period applies to each portion Partner’s basis in partnership interest = basis of contributed property –If partner contributes capital assets and §1231 assets, holding period of partnership interest includes holding period of assets contributed –For other assets including cash, holding period begins on date partnership interest is acquired –If multiple assets are contributed, partnership interest is apportioned and separate holding period applies to each portion

22. C21 - 22 Comprehensive Volume WST Partnership Formation Example (slide 1 of 2) William contributes cash –Amount$20,000 Sarah contributes land –Basis$ 6,000 –FMV$20,000 Todd contributes equipment –Basis$22,000 –FMV$20,000 William contributes cash –Amount$20,000 Sarah contributes land –Basis$ 6,000 –FMV$20,000 Todd contributes equipment –Basis$22,000 –FMV$20,000

23. C21 - 23 Comprehensive Volume WST Partnership Formation Example (slide 2 of 2) Gain or lossBasis inPartnership’s Partner RecognizedInterestProperty Basis William $-0-$20,000 $20,000 Sarah $-0-$ 6,000 $ 6,000 Todd $-0-$22,000 $22,000 Neither the partnership nor any of the partners recognizes gain or loss on the transaction Gain or lossBasis inPartnership’s Partner RecognizedInterestProperty Basis William $-0-$20,000 $20,000 Sarah $-0-$ 6,000 $ 6,000 Todd $-0-$22,000 $22,000 Neither the partnership nor any of the partners recognizes gain or loss on the transaction

24. C21 - 24 Comprehensive Volume Exceptions to Tax-Free Treatment on Partnership Formation (slide 1 of 4) Transfers of appreciated stock to investment partnership –Gain will be recognized by contributing partner –Prevents multiple investors from diversifying their portfolios tax-free Transfers of appreciated stock to investment partnership –Gain will be recognized by contributing partner –Prevents multiple investors from diversifying their portfolios tax-free

25. C21 - 25 Comprehensive Volume Exceptions to Tax-Free Treatment on Partnership Formation (slide 2 of 4) If transaction is essentially a taxable exchange of properties, gain will be recognized –e.g., Individual A contributes land and Individual B contributes equipment to a new partnership; shortly thereafter, the partnership distributes the land to B and the equipment to A; Partnership liquidates –IRS will disregard transfer to partnership and treat as taxable exchange between A & B If transaction is essentially a taxable exchange of properties, gain will be recognized –e.g., Individual A contributes land and Individual B contributes equipment to a new partnership; shortly thereafter, the partnership distributes the land to B and the equipment to A; Partnership liquidates –IRS will disregard transfer to partnership and treat as taxable exchange between A & B

26. C21 - 26 Comprehensive Volume Exceptions to Tax-Free Treatment on Partnership Formation (slide 3 of 4) Disguised Sale –e.g., Partner contributes property to a partnership; Shortly thereafter, partner receives a distribution from the partnership Payment may be viewed as a purchase of the property by the partnership Disguised Sale –e.g., Partner contributes property to a partnership; Shortly thereafter, partner receives a distribution from the partnership Payment may be viewed as a purchase of the property by the partnership

27. C21 - 27 Comprehensive Volume Exceptions to Tax-Free Treatment on Partnership Formation (slide 4 of 4) Receipt of partnership interest in exchange for services rendered to partnership –Services are not treated as “property” –Partner recognizes ordinary compensation income = FMV of partnership interest received Partnership may deduct the amount included in the service partner’s income if the services are of a deductible nature –If the services are not deductible by the partnership, they must be capitalized to an asset account Receipt of partnership interest in exchange for services rendered to partnership –Services are not treated as “property” –Partner recognizes ordinary compensation income = FMV of partnership interest received Partnership may deduct the amount included in the service partner’s income if the services are of a deductible nature –If the services are not deductible by the partnership, they must be capitalized to an asset account

28. C21 - 28 Comprehensive Volume Tax Issues Relative to Contributed Property (slide 1 of 3) Contributions of depreciable property and intangible assets –Partnership “steps into shoes” of contributing partner Continues the same cost recovery and amortization calculations Cannot expense contributed depreciable property under §179 Contributions of depreciable property and intangible assets –Partnership “steps into shoes” of contributing partner Continues the same cost recovery and amortization calculations Cannot expense contributed depreciable property under §179

29. C21 - 29 Comprehensive Volume Tax Issues Relative to Contributed Property (slide 2 of 3) Gain or loss is ordinary when partnership disposes of: –Contributed unrealized receivables –Contributed property that was inventory in contributor’s hands, if disposed of within 5 years of contribution Inventory includes all tangible property except capital assets and real or depreciable business assets Gain or loss is ordinary when partnership disposes of: –Contributed unrealized receivables –Contributed property that was inventory in contributor’s hands, if disposed of within 5 years of contribution Inventory includes all tangible property except capital assets and real or depreciable business assets

30. C21 - 30 Comprehensive Volume Tax Issues Relative to Contributed Property (slide 3 of 3) If contributed property is disposed of at a loss and the property had a ‘‘built-in’’ capital loss on the contribution date –Loss is treated as a capital loss if disposed of within 5 years of the contribution –Capital loss is limited to amount of ‘‘built-in’’ loss on date of contribution If contributed property is disposed of at a loss and the property had a ‘‘built-in’’ capital loss on the contribution date –Loss is treated as a capital loss if disposed of within 5 years of the contribution –Capital loss is limited to amount of ‘‘built-in’’ loss on date of contribution

31. C21 - 31 Comprehensive Volume Inside and Outside Bases Inside basis –Refers to adjusted basis of each partnership asset –Each partner “owns” a share of the partnership’s inside basis for all its assets Outside basis –Represents each partner’s basis in the partnership interest –All partners should maintain a record of their respective outside bases Inside basis –Refers to adjusted basis of each partnership asset –Each partner “owns” a share of the partnership’s inside basis for all its assets Outside basis –Represents each partner’s basis in the partnership interest –All partners should maintain a record of their respective outside bases

32. C21 - 32 Comprehensive Volume Elections Made by Partnership (slide 1 of 2) Inventory method Accounting method –Cash, accrual or hybrid Depreciation method Tax year Organizational cost amortization Start-up expense amortization Inventory method Accounting method –Cash, accrual or hybrid Depreciation method Tax year Organizational cost amortization Start-up expense amortization

33. C21 - 33 Comprehensive Volume Elections Made by Partnership (slide 2 of 2) Optional basis adjustment (§754) §179 deduction Nonrecognition treatment for involuntary conversions Election out of partnership rules Optional basis adjustment (§754) §179 deduction Nonrecognition treatment for involuntary conversions Election out of partnership rules

34. C21 - 34 Comprehensive Volume Organizational Costs (slide 1 of 2) For organization costs incurred after October 22, 2004, the partnership may elect to deduct up to $5,000 of the costs in year business begins –Deductible amount must be reduced by organization costs that exceed $50,000 –Remaining amounts are amortizable over 180 months beginning with month the partnership begins business For organization costs incurred before that date, the taxpayer could elect to amortize the amount over 60 months For organization costs incurred after October 22, 2004, the partnership may elect to deduct up to $5,000 of the costs in year business begins –Deductible amount must be reduced by organization costs that exceed $50,000 –Remaining amounts are amortizable over 180 months beginning with month the partnership begins business For organization costs incurred before that date, the taxpayer could elect to amortize the amount over 60 months

35. C21 - 35 Comprehensive Volume Organizational Costs (slide 2 of 2) Organizational costs include costs: –Incident to creation of the partnership, chargeable to a capital account, and of a character that, if incident to the creation of a partnership with an ascertainable life, would be amortized over that life Includes accounting fees and legal fees connected with the partnership’s formation Costs incurred for the following items are not organization costs: –Acquiring and transferring assets to the partnership –Admitting and removing partners, other than at formation –Negotiating operating contracts –Syndication costs Organizational costs include costs: –Incident to creation of the partnership, chargeable to a capital account, and of a character that, if incident to the creation of a partnership with an ascertainable life, would be amortized over that life Includes accounting fees and legal fees connected with the partnership’s formation Costs incurred for the following items are not organization costs: –Acquiring and transferring assets to the partnership –Admitting and removing partners, other than at formation –Negotiating operating contracts –Syndication costs

36. C21 - 36 Comprehensive Volume Start-up Costs (slide 1 of 2) Start-up costs—include operating costs incurred after entity is formed but before it begins business including: –Marketing surveys prior to conducting business –Pre-operating advertising expenses –Costs of establishing an accounting system –Costs incurred to train employees before business begins, and –Salaries paid to executives and employees before the start of business Start-up costs—include operating costs incurred after entity is formed but before it begins business including: –Marketing surveys prior to conducting business –Pre-operating advertising expenses –Costs of establishing an accounting system –Costs incurred to train employees before business begins, and –Salaries paid to executives and employees before the start of business

37. C21 - 37 Comprehensive Volume Start-up Costs (slide 2 of 2) Partnership may elect to deduct up to $5,000 of start-up costs in the year it begins business –Deductible amount must be reduced by start-up costs in excess of $50,000 –Costs that are not deductible under this provision are amortizable over 180 months beginning with the month in which the partnership begins business For start-up costs incurred before October 23, 2004, the taxpayer could elect to amortize those costs over 60 months Partnership may elect to deduct up to $5,000 of start-up costs in the year it begins business –Deductible amount must be reduced by start-up costs in excess of $50,000 –Costs that are not deductible under this provision are amortizable over 180 months beginning with the month in which the partnership begins business For start-up costs incurred before October 23, 2004, the taxpayer could elect to amortize those costs over 60 months

38. C21 - 38 Comprehensive Volume Method of Accounting (slide 1 of 2) New partnership may adopt cash, accrual or hybrid method –Cash method cannot be adopted if partnership: Has one or more C corporation partners Is a tax shelter New partnership may adopt cash, accrual or hybrid method –Cash method cannot be adopted if partnership: Has one or more C corporation partners Is a tax shelter

39. C21 - 39 Comprehensive Volume Method of Accounting (slide 2 of 2) New partnership may adopt cash, accrual or hybrid method (cont’d) –C Corp partner does not preclude use of cash method if: Partnership has average annual gross receipts of $5 million or less for preceding 3 year period C corp partner(s) is a qualified personal service corp, or Partnership is engaged in farming business New partnership may adopt cash, accrual or hybrid method (cont’d) –C Corp partner does not preclude use of cash method if: Partnership has average annual gross receipts of $5 million or less for preceding 3 year period C corp partner(s) is a qualified personal service corp, or Partnership is engaged in farming business

40. C21 - 40 Comprehensive Volume Required Taxable Year Partnership must adopt tax year under earliest of following tests met: –Majority partner’s tax year (partners with same tax year owning >50%) –Principal partners’ tax year (all partners owning 5% or more) –Least aggregate deferral rule Partnership must adopt tax year under earliest of following tests met: –Majority partner’s tax year (partners with same tax year owning >50%) –Principal partners’ tax year (all partners owning 5% or more) –Least aggregate deferral rule

41. C21 - 41 Comprehensive Volume Least Aggregate Deferral Example (slide 1 of 2) George owns 50% and has June 30 year end Henry owns 50% and has October 31 year end Neither partner owns a “majority” (>50%) Both are “principal partners” (5% or more), but do not have same year end –Must use least aggregate deferral test to determine required taxable year George owns 50% and has June 30 year end Henry owns 50% and has October 31 year end Neither partner owns a “majority” (>50%) Both are “principal partners” (5% or more), but do not have same year end –Must use least aggregate deferral test to determine required taxable year

42. C21 - 42 Comprehensive Volume Least Aggregate Deferral Example (slide 2 of 2) 1.Test June 30 as possible year end: Partner.Year End %Mo. DeferralWeight GeorgeJune 50% 0 0.0 HenryOctober50% 4 2.0 Total weighted deferral 2.0 2. Test October 31 as possible year end: George June 50% 8 4.0 Henry October50% 0 0.0 Total weighted deferral 4.0 June has the least aggregate deferral so it is the tax year for partnership. 1.Test June 30 as possible year end: Partner.Year End %Mo. DeferralWeight GeorgeJune 50% 0 0.0 HenryOctober50% 4 2.0 Total weighted deferral 2.0 2. Test October 31 as possible year end: George June 50% 8 4.0 Henry October50% 0 0.0 Total weighted deferral 4.0 June has the least aggregate deferral so it is the tax year for partnership.

43. C21 - 43 Comprehensive Volume Alternative Tax Years Other alternatives may be available if: –Establish to IRS’s satisfaction that a business purpose exists for another tax year e.g., Natural business year at end of peak season –Choose tax year with no more than 3 month deferral Partnership must maintain with the IRS a prepaid, non-interest-bearing deposit of estimated deferred taxes – Elect a 52- to 53-week taxable year Other alternatives may be available if: –Establish to IRS’s satisfaction that a business purpose exists for another tax year e.g., Natural business year at end of peak season –Choose tax year with no more than 3 month deferral Partnership must maintain with the IRS a prepaid, non-interest-bearing deposit of estimated deferred taxes – Elect a 52- to 53-week taxable year

44. C21 - 44 Comprehensive Volume Measuring Income of Partnership Calculation of partnership income is a 2-step approach Step 1: Net ordinary income and expenses related to the trade or business of the partnership Step 2: Segregate and report separately some partnership items Calculation of partnership income is a 2-step approach Step 1: Net ordinary income and expenses related to the trade or business of the partnership Step 2: Segregate and report separately some partnership items

45. C21 - 45 Comprehensive Volume Separately Stated Items (slide 1 of 2) If an item of income, expense, gain or loss might affect any 2 partners’ tax liabilities differently, it is separately stated

46. C21 - 46 Comprehensive Volume Separately Stated Items (slide 2 of 2) Separately stated items fall under the “aggregate” concept –Each partner owns a specific share of each item of partnership income, gain, loss or deduction Character is determined at partnership level Taxation is determined at partner level Separately stated items fall under the “aggregate” concept –Each partner owns a specific share of each item of partnership income, gain, loss or deduction Character is determined at partnership level Taxation is determined at partner level

47. C21 - 47 Comprehensive Volume Examples of Separately Stated Items (slide 1 of 2) Short and long-term capital gains and losses § 1231 gains and losses Domestic production activities deduction Charitable contributions Interest income and other portfolio income Expenses related to portfolio income Short and long-term capital gains and losses § 1231 gains and losses Domestic production activities deduction Charitable contributions Interest income and other portfolio income Expenses related to portfolio income

48. C21 - 48 Comprehensive Volume Examples of Separately Stated Items (slide 2 of 2) Personalty expensed under §179 Special allocations of income or expense AMT preference and adjustment items Passive activity items Self-employment income Foreign taxes paid Personalty expensed under §179 Special allocations of income or expense AMT preference and adjustment items Passive activity items Self-employment income Foreign taxes paid

49. C21 - 49 Comprehensive Volume Partnership Taxable Income Example (slide 1 of 3) Sales revenue $100,000 Salaries 35,000 Rent 15,000 Utilities 6,000 Interest income 1,500 Charitable contribution 2,000 AMT adjustment for depreciation 3,600 Payment of partner’s medical expenses 4,000 Sales revenue $100,000 Salaries 35,000 Rent 15,000 Utilities 6,000 Interest income 1,500 Charitable contribution 2,000 AMT adjustment for depreciation 3,600 Payment of partner’s medical expenses 4,000

50. C21 - 50 Comprehensive Volume Partnership Taxable Income Example (slide 2 of 3) Partnership ordinary taxable income: –Sales revenue $100,000 –Salaries 35,000 –Rent 15,000 –Utilities 6,000 –Partnership Ordinary Income $ 44,000 Partnership ordinary taxable income: –Sales revenue $100,000 –Salaries 35,000 –Rent 15,000 –Utilities 6,000 –Partnership Ordinary Income $ 44,000

51. C21 - 51 Comprehensive Volume Partnership Taxable Income Example (slide 3 of 3) Separately stated items: –Interest income $1,500 –Charitable contribution 2,000 –AMT adjustment for depreciation 3,600 Distribution to partner: –Payment of partner’s medical exp. $4,000 Separately stated items: –Interest income $1,500 –Charitable contribution 2,000 –AMT adjustment for depreciation 3,600 Distribution to partner: –Payment of partner’s medical exp. $4,000

52. C21 - 52 Comprehensive Volume Partnership Allocations (slide 1 of 3) Partnership agreement can provide that a partner share capital, profits, and losses in different ratios –e.g., Partnership agreement may provide that a partner has a 30% capital sharing ratio, yet be allocated 40% of the profits and 20% of the losses –Such special allocations are permissible if certain rules are followed e.g., Economic effect test Partnership agreement can provide that a partner share capital, profits, and losses in different ratios –e.g., Partnership agreement may provide that a partner has a 30% capital sharing ratio, yet be allocated 40% of the profits and 20% of the losses –Such special allocations are permissible if certain rules are followed e.g., Economic effect test

53. C21 - 53 Comprehensive Volume Partnership Allocations (slide 2 of 3) The economic effect test requires that: –An allocation must be reflected in a partner’s capital account –When partner’s interest is liquidated, partner must receive assets with FMV = the positive balance in the capital account –A partner with a negative capital account must restore that account upon liquidation The economic effect test requires that: –An allocation must be reflected in a partner’s capital account –When partner’s interest is liquidated, partner must receive assets with FMV = the positive balance in the capital account –A partner with a negative capital account must restore that account upon liquidation

54. C21 - 54 Comprehensive Volume Partnership Allocations (slide 3 of 3) Precontribution gain or loss –Must be allocated to partners taking into account the difference between basis and FMV of property on date of contribution For nondepreciable property this means any built-in gain or loss must be allocated to the contributing partner when disposed of by partnership in taxable transaction For depreciable property, allocations related to the built-in loss can be made only to the contributing partner –For allocations to other partners, the partnership’s basis in the loss property is treated as being the fair market value of the property at the contribution date Precontribution gain or loss –Must be allocated to partners taking into account the difference between basis and FMV of property on date of contribution For nondepreciable property this means any built-in gain or loss must be allocated to the contributing partner when disposed of by partnership in taxable transaction For depreciable property, allocations related to the built-in loss can be made only to the contributing partner –For allocations to other partners, the partnership’s basis in the loss property is treated as being the fair market value of the property at the contribution date

55. C21 - 55 Comprehensive Volume Basis of Partnership Interest (slide 1 of 3) For new partnerships, partner’s basis usually equals: –Adjusted basis of property contributed, plus –FMV of any services performed by partner in exchange for partnership interest For new partnerships, partner’s basis usually equals: –Adjusted basis of property contributed, plus –FMV of any services performed by partner in exchange for partnership interest

56. C21 - 56 Comprehensive Volume Basis of Partnership Interest (slide 2 of 3) For existing partnerships, basis depends on how interest was acquired –If purchased from another partner, basis = amount paid for the interest –If acquired by gift, basis = donor’s basis plus, in certain cases, a portion of the gift tax paid on the transfer –If acquired through inheritance, basis = FMV on date of death (or alternate valuation date) For existing partnerships, basis depends on how interest was acquired –If purchased from another partner, basis = amount paid for the interest –If acquired by gift, basis = donor’s basis plus, in certain cases, a portion of the gift tax paid on the transfer –If acquired through inheritance, basis = FMV on date of death (or alternate valuation date)

57. C21 - 57 Comprehensive Volume Basis of Partnership Interest (slide 3 of 3) A partner’s basis in partnership interest is adjusted to reflect partnership activity –This prevents double taxation of partnership income A partner’s basis in partnership interest is adjusted to reflect partnership activity –This prevents double taxation of partnership income

58. C21 - 58 Comprehensive Volume Basis Example (slide 1 of 2) Pam is a 30% partner in the PDQ partnership Pam’s beginning basis is $20,000 PDQ reports current income of $50,000 Pam sells her interest for $35,000 at the end of the year Pam is a 30% partner in the PDQ partnership Pam’s beginning basis is $20,000 PDQ reports current income of $50,000 Pam sells her interest for $35,000 at the end of the year

59. C21 - 59 Comprehensive Volume Basis Example (slide 2 of 2) With BasisWithout Basis Adjustment Adjustment Selling Price(A)$ 35,000 $35,000 Less: Basis in interest Beginning basis 20,000 20,000 Share of current income 15,000 - 0-. Ending basis (B) 35,000 20,000 Taxable gain (A)-(B)$ -0- $15,000 –If no basis adjustment, Pam's $15,000 share of partnership income is taxed twice: as ordinary income and as gain on sale of interest With BasisWithout Basis Adjustment Adjustment Selling Price(A)$ 35,000 $35,000 Less: Basis in interest Beginning basis 20,000 20,000 Share of current income 15,000 - 0-. Ending basis (B) 35,000 20,000 Taxable gain (A)-(B)$ -0- $15,000 –If no basis adjustment, Pam's $15,000 share of partnership income is taxed twice: as ordinary income and as gain on sale of interest

60. C21 - 60 Comprehensive Volume Adjustments to Basis Initial Basis + Partner’s subsequent contributions to partnership + Partner’s share of partnership: Debt increase Income items Exempt income items Depletion adjustment – Distributions and withdrawals from partnership – Partner’s share of partnership: Debt decreases Nondeductible expenses Deductions and losses Initial Basis + Partner’s subsequent contributions to partnership + Partner’s share of partnership: Debt increase Income items Exempt income items Depletion adjustment – Distributions and withdrawals from partnership – Partner’s share of partnership: Debt decreases Nondeductible expenses Deductions and losses

61. C21 - 61 Comprehensive Volume Basis Limitation A partner’s basis in the partnership interest can never be negative

62. C21 - 62 Comprehensive Volume Partnership Liabilities Affect partner’s adjusted basis –Increase in partner’s share of liabilities Treated as a cash contribution to the partnership Increases partner’s adjusted basis –Decrease in partner’s share of liabilities Treated as a cash distribution to the partner Decreases partner’s adjusted basis Affect partner’s adjusted basis –Increase in partner’s share of liabilities Treated as a cash contribution to the partnership Increases partner’s adjusted basis –Decrease in partner’s share of liabilities Treated as a cash distribution to the partner Decreases partner’s adjusted basis

63. C21 - 63 Comprehensive Volume Allocation of Partnership Liabilities Two types of partnership debt –Recourse debt—At least one partner is personally liable Allocate to partners using a “Constructive Liquidation Scenario” –Nonrecourse debt—No partner is personally liable Allocate to partners using a three-tiered allocation Two types of partnership debt –Recourse debt—At least one partner is personally liable Allocate to partners using a “Constructive Liquidation Scenario” –Nonrecourse debt—No partner is personally liable Allocate to partners using a three-tiered allocation

64. C21 - 64 Comprehensive Volume Constructive Liquidation Scenario 1. Partnership assets deemed to be worthless 2. Assets deemed sold at $0; losses determined 3. Losses allocated to partners under partnership agreement 4. Partners with negative capital accounts deemed to contribute cash 5. Deemed contributed cash would repay partnership debt 6. Partnership deemed to liquidate - Partner’s share of recourse debt = Cash contribution used to repay debt (Step 5) 1. Partnership assets deemed to be worthless 2. Assets deemed sold at $0; losses determined 3. Losses allocated to partners under partnership agreement 4. Partners with negative capital accounts deemed to contribute cash 5. Deemed contributed cash would repay partnership debt 6. Partnership deemed to liquidate - Partner’s share of recourse debt = Cash contribution used to repay debt (Step 5)

65. C21 - 65 Comprehensive Volume Nonrecourse Debt Allocation Three step allocation: 1. “Minimum Gain” allocated under regulations Minimum gain is basically gain which would arise on foreclosure of property 2. Liability = precontribution gain allocated to contributing partner 3. Remaining debt commonly allocated by profit sharing ratios (other allocation methods could be used) Three step allocation: 1. “Minimum Gain” allocated under regulations Minimum gain is basically gain which would arise on foreclosure of property 2. Liability = precontribution gain allocated to contributing partner 3. Remaining debt commonly allocated by profit sharing ratios (other allocation methods could be used)

66. C21 - 66 Comprehensive Volume Loss Limitations (slide 1 of 2) Partnership losses flow through to partners for use on their tax returns –Amount and nature of losses that may be used by partners may be limited –Three different loss limitations apply Only losses that make it through all three limits are deductible by a partner Partnership losses flow through to partners for use on their tax returns –Amount and nature of losses that may be used by partners may be limited –Three different loss limitations apply Only losses that make it through all three limits are deductible by a partner

67. C21 - 67 Comprehensive Volume Loss Limitations (slide 2 of 2) Section Description 704(d) Basis in partnership interest 465 At-risk limitation 469 Passive loss limitation Limitations are applied successively to amounts which are deductible at all prior levels Section Description 704(d) Basis in partnership interest 465 At-risk limitation 469 Passive loss limitation Limitations are applied successively to amounts which are deductible at all prior levels

68. C21 - 68 Comprehensive Volume Loss Limitation Example (slide 1 of 2) Meg's basis in interest $50,000 At-risk amount $35,000 Passive income, other sources $25,000 Share of partnership losses(passive) $60,000 Meg's basis in interest $50,000 At-risk amount $35,000 Passive income, other sources $25,000 Share of partnership losses(passive) $60,000

69. C21 - 69 Comprehensive Volume Loss Limitation Example (slide 2 of 2) ProvisionsDeductible lossSuspended loss 704(d) $ 50,000 $ 10,000 465 35,000 15,000 469 25,000* 10,000 *Amount deducted on tax return: $25,000 -passes all three loss limitations ProvisionsDeductible lossSuspended loss 704(d) $ 50,000 $ 10,000 465 35,000 15,000 469 25,000* 10,000 *Amount deducted on tax return: $25,000 -passes all three loss limitations

70. C21 - 70 Comprehensive Volume Guaranteed Payments Payment to partner for use of capital or for services provided to partnership –May not be determined by reference to partnership income –Usually expressed as a fixed dollar amount or as a % of capital Payment to partner for use of capital or for services provided to partnership –May not be determined by reference to partnership income –Usually expressed as a fixed dollar amount or as a % of capital

71. C21 - 71 Comprehensive Volume Treatment of Guaranteed Payments (slide 1 of 2) May be deducted or capitalized by partnership depending on the nature of the payment –Deductible by partnership if meets “ordinary and necessary business expense” test –May create partnership loss May be deducted or capitalized by partnership depending on the nature of the payment –Deductible by partnership if meets “ordinary and necessary business expense” test –May create partnership loss

72. C21 - 72 Comprehensive Volume Treatment of Guaranteed Payments (slide 2 of 2) Includable in income of partner at time partnership deducts –Treated as if received on last day of partnership tax year –Character is ordinary income to recipient partner Includable in income of partner at time partnership deducts –Treated as if received on last day of partnership tax year –Character is ordinary income to recipient partner

73. C21 - 73 Comprehensive Volume Other Transactions Between Partner and Partnership (slide 1 of 2) May be treated as if partner were an outsider, for example: –Loan transactions –Rental payments –Sales of property May be treated as if partner were an outsider, for example: –Loan transactions –Rental payments –Sales of property

74. C21 - 74 Comprehensive Volume Other Transactions Between Partner and Partnership (slide 2 of 2) Timing of deduction for payment by an accrual basis partnership to a cash basis partner depends on whether payment is: –Guaranteed payment Included in partner’s income on last day of partnership year when accrued (even if not paid until the next year) –Payment to partner treated as an outsider Deduction cannot be claimed until partner includes the amount in income Timing of deduction for payment by an accrual basis partnership to a cash basis partner depends on whether payment is: –Guaranteed payment Included in partner’s income on last day of partnership year when accrued (even if not paid until the next year) –Payment to partner treated as an outsider Deduction cannot be claimed until partner includes the amount in income

75. C21 - 75 Comprehensive Volume Sales of Property No loss is recognized on the sale of property between a partnership and a partner who owns > 50% of partnership capital or profits –If property is subsequently sold at a gain, the disallowed loss reduces gain recognized No loss is recognized on the sale of property between a partnership and a partner who owns > 50% of partnership capital or profits –If property is subsequently sold at a gain, the disallowed loss reduces gain recognized

76. C21 - 76 Comprehensive Volume Partners as Employees A partner usually does not qualify as an employee for tax purpose resulting in the following tax consequences: –A partner receiving guaranteed payments from the partnership is not subject to tax withholding –The partnership cannot deduct payments for a partner’s fringe benefits –A general partner’s distributive share of ordinary partnership income and guaranteed payments for services are generally subject to the Federal self- employment tax A partner usually does not qualify as an employee for tax purpose resulting in the following tax consequences: –A partner receiving guaranteed payments from the partnership is not subject to tax withholding –The partnership cannot deduct payments for a partner’s fringe benefits –A general partner’s distributive share of ordinary partnership income and guaranteed payments for services are generally subject to the Federal self- employment tax

77. C21 - 77 Comprehensive Volume Distributions from a Partnership (slide 1 of 4) All distributions of cash and property fall into two categories: –Liquidating distributions –Nonliquidating distributions Depends on whether the partner remains a partner in the partnership after the distribution All distributions of cash and property fall into two categories: –Liquidating distributions –Nonliquidating distributions Depends on whether the partner remains a partner in the partnership after the distribution

78. C21 - 78 Comprehensive Volume Distributions from a Partnership (slide 2 of 4) A liquidating distribution occurs when either: –Partnership itself liquidates and distributes all its property to the partners, or –Ongoing partnership redeems interest of one of its partners e.g., Partner retires A liquidating distribution occurs when either: –Partnership itself liquidates and distributes all its property to the partners, or –Ongoing partnership redeems interest of one of its partners e.g., Partner retires

79. C21 - 79 Comprehensive Volume Distributions from a Partnership (slide 3 of 4) A nonliquidating distribution is any distribution from a continuing partnership to a continuing partner –Two types of nonliquidating distributions Draw –Distribution of partner’s share of current or accumulated profits Partially liquidating distribution –Reduces partner’s interest in partnership capital but does not liquidate partner’s interest A nonliquidating distribution is any distribution from a continuing partnership to a continuing partner –Two types of nonliquidating distributions Draw –Distribution of partner’s share of current or accumulated profits Partially liquidating distribution –Reduces partner’s interest in partnership capital but does not liquidate partner’s interest

80. C21 - 80 Comprehensive Volume Distributions from a Partnership (slide 4 of 4) Distributions from a partnership may be either: –Proportionate—Partner receives his or her share of certain ordinary income-producing assets –Disproportionate—Partner’s share of certain ordinary income-producing assets increases or decreases Distributions from a partnership may be either: –Proportionate—Partner receives his or her share of certain ordinary income-producing assets –Disproportionate—Partner’s share of certain ordinary income-producing assets increases or decreases

81. C21 - 81 Comprehensive Volume Proportionate Nonliquidating Distributions (slide 1 of 3) In general, neither partner nor partnership recognizes gain or loss on proportionate nonliquidating distributions –Partner usually takes a carryover basis in assets distributed –Basis in partnership interest is reduced by amount of cash and basis of property distributed In general, neither partner nor partnership recognizes gain or loss on proportionate nonliquidating distributions –Partner usually takes a carryover basis in assets distributed –Basis in partnership interest is reduced by amount of cash and basis of property distributed

82. C21 - 82 Comprehensive Volume Proportionate Nonliquidating Distributions (slide 2 of 3) –Partner recognizes gain to extent cash received exceeds partner’s adjusted basis (outside basis) in partnership interest –Partner cannot recognize loss on a proportionate nonliquidating distribution –Partner recognizes gain to extent cash received exceeds partner’s adjusted basis (outside basis) in partnership interest –Partner cannot recognize loss on a proportionate nonliquidating distribution

83. C21 - 83 Comprehensive Volume Proportionate Nonliquidating Distributions (slide 3 of 3) Property distributions –In general, no gain recognized on a property distribution If inside basis of property distributed exceeds partner’s outside basis in partnership interest, distributed asset takes substituted basis Assets are deemed distributed and basis applied in a certain order Property distributions –In general, no gain recognized on a property distribution If inside basis of property distributed exceeds partner’s outside basis in partnership interest, distributed asset takes substituted basis Assets are deemed distributed and basis applied in a certain order

84. C21 - 84 Comprehensive Volume Ordering Rules 1. Cash 2. Unrealized receivables and inventory 3. All other assets Basis is allocated to assets within a category based on adjusted basis to partnership 1. Cash 2. Unrealized receivables and inventory 3. All other assets Basis is allocated to assets within a category based on adjusted basis to partnership

85. C21 - 85 Comprehensive Volume Proportionate Nonliquidating Distribution Examples (slide 1 of 6) Bill’s basis in partnership interest: $30,000 Proportionate nonliquidating distributions (independent fact situations): Assets Distributed A B C. Cash$15,000$15,000$ 5,000 Land—basis N/A$ 6,000 N/A (Fair mkt value) N/A$10,000 N/A Accts rec—basis N/A N/A -0- (Fair mkt value) N/A N/A $16,000 Bill’s basis in partnership interest: $30,000 Proportionate nonliquidating distributions (independent fact situations): Assets Distributed A B C. Cash$15,000$15,000$ 5,000 Land—basis N/A$ 6,000 N/A (Fair mkt value) N/A$10,000 N/A Accts rec—basis N/A N/A -0- (Fair mkt value) N/A N/A $16,000

86. C21 - 86 Comprehensive Volume Proportionate Nonliquidating Distribution Examples (slide 2 of 6) A B C. Basis in interest$30,000$30,000 $30,000 Cash distributed( 15,000) (15,000) (5,000) Basis after cash 15,000 15,000 25,000 Acct. rec. distrib. N/A N/A (-0-) Basis after A.R. 15,000 15,000 25,000 Land Distrib. N/A( 6,000) N/A Basis after all dist.$15,000$ 9,000$25,000 A B C. Basis in interest$30,000$30,000 $30,000 Cash distributed( 15,000) (15,000) (5,000) Basis after cash 15,000 15,000 25,000 Acct. rec. distrib. N/A N/A (-0-) Basis after A.R. 15,000 15,000 25,000 Land Distrib. N/A( 6,000) N/A Basis after all dist.$15,000$ 9,000$25,000

87. C21 - 87 Comprehensive Volume Proportionate Nonliquidating Distribution Examples (slide 3 of 6) A B C. Basis in p’ship int.$15,000$9,000$25,000 Basis in cash 15,00015,000 5,000 Basis in land N/A 6,000 N/A Basis in A/R N/A N/A -0- Total basis$30,000$30,000 $30,000 Sale of non-cash assets at FMV: Selling price N/A$10,000$16,000 Basis N/A (6,000) (-0-) Gain N/A $4,000$16,000 A B C. Basis in p’ship int.$15,000$9,000$25,000 Basis in cash 15,00015,000 5,000 Basis in land N/A 6,000 N/A Basis in A/R N/A N/A -0- Total basis$30,000$30,000 $30,000 Sale of non-cash assets at FMV: Selling price N/A$10,000$16,000 Basis N/A (6,000) (-0-) Gain N/A $4,000$16,000

88. C21 - 88 Comprehensive Volume Proportionate Nonliquidating Distribution Examples (slide 4 of 6) Bill’s basis in partnership interest:$30,000 Proportionate nonliquidating distributions (independent fact situations): Assets Distributed D E F. Cash$40,000 N/A$20,000 Relief of liabilities N/A40,000 N/A Land-basis N/A N/A$30,000 (Fair mkt value) N/A N/A $50,000 Bill’s basis in partnership interest:$30,000 Proportionate nonliquidating distributions (independent fact situations): Assets Distributed D E F. Cash$40,000 N/A$20,000 Relief of liabilities N/A40,000 N/A Land-basis N/A N/A$30,000 (Fair mkt value) N/A N/A $50,000

89. C21 - 89 Comprehensive Volume Proportionate Nonliquidating Distribution Examples (slide 5 of 6) D E F. Basis in interest$30,000$30,000$30,000 Cash distributed (40,000) N/A (20,000) Relief of liabilities N/A (40,000) N/A Gain recognized 10,000 10,000 N/A. Basis after cash (and deemed cash) dist. -0- -0- 10,000 Land distrib. N/A N/A (10,000) Basis after all distrib. -0- -0- -0- D E F. Basis in interest$30,000$30,000$30,000 Cash distributed (40,000) N/A (20,000) Relief of liabilities N/A (40,000) N/A Gain recognized 10,000 10,000 N/A. Basis after cash (and deemed cash) dist. -0- -0- 10,000 Land distrib. N/A N/A (10,000) Basis after all distrib. -0- -0- -0-

90. C21 - 90 Comprehensive Volume Proportionate Nonliquidating Distribution Examples (slide 6 of 6) D E F. Basis in p'ship int. -0- -0- -0- Basis in cash 40,000 N/A 20,000 Liabilities relieved N/A 40,000 N/A Basis in land N/A N/A 10,000 Gain recognized(10,000)(10,000) N/A. Original basis 30,000 30,000 30,000 Sale of non-cash assets at FMV: Selling price N/A N/A$50,000 Basis N/A N/A(10,000) Gain N/A N/A$40,000 D E F. Basis in p'ship int. -0- -0- -0- Basis in cash 40,000 N/A 20,000 Liabilities relieved N/A 40,000 N/A Basis in land N/A N/A 10,000 Gain recognized(10,000)(10,000) N/A. Original basis 30,000 30,000 30,000 Sale of non-cash assets at FMV: Selling price N/A N/A$50,000 Basis N/A N/A(10,000) Gain N/A N/A$40,000

91. C21 - 91 Comprehensive Volume Effect of Liquidating Distribution In general: –No gain or loss is recognized by partnership –Partner reduces basis in partnership interest by basis in property received at each level using Ordering Rules –Partner’s entire basis in interest will be absorbed by distributed assets In general: –No gain or loss is recognized by partnership –Partner reduces basis in partnership interest by basis in property received at each level using Ordering Rules –Partner’s entire basis in interest will be absorbed by distributed assets

92. C21 - 92 Comprehensive Volume Exceptions to Liquidating Distribution Rules (slide 1 of 2) Gain is recognized if: –Cash distributed exceeds partner’s basis –Precontribution gain exceptions –Disproportionate distribution Gain is recognized if: –Cash distributed exceeds partner’s basis –Precontribution gain exceptions –Disproportionate distribution

93. C21 - 93 Comprehensive Volume Exceptions to Liquidating Distribution Rules (slide 2 of 2) Loss is recognized only if: –Assets received include ONLY cash, unrealized receivables and inventory, and –Outside basis exceeds partnership’s inside basis in distributed property Loss is recognized only if: –Assets received include ONLY cash, unrealized receivables and inventory, and –Outside basis exceeds partnership’s inside basis in distributed property

94. C21 - 94 Comprehensive Volume Proportionate Liquidating Distribution Examples (slide 1 of 4) Bill’s basis in partnership interest: $30,000 Proportionate liquidating distributions (partnership also liquidates) (independent fact situations): G H I. Cash$50,000$10,000$10,000 Unrealized rec. N/A -0- -0- (Fair mkt value) N/A$16,000$16,000 Filing cabinet (1231) N/A N/A 300 (Fair mkt value) N/A N/A 300 Bill’s basis in partnership interest: $30,000 Proportionate liquidating distributions (partnership also liquidates) (independent fact situations): G H I. Cash$50,000$10,000$10,000 Unrealized rec. N/A -0- -0- (Fair mkt value) N/A$16,000$16,000 Filing cabinet (1231) N/A N/A 300 (Fair mkt value) N/A N/A 300

95. C21 - 95 Comprehensive Volume Proportionate Liquidating Distribution Examples (slide 2 of 4) G H I. Basis in interest$30,000$30,000$30,000 Cash distribution(50,000)(10,000)(10,000) Gain recognized 20,000 N/A N/A Basis after cash -0- 20,000 20,000 A/R distrib. N/A -0- -0- Loss recognized N/A(20,000) N/A Basis after A/R -0- -0- 20,000 Filing cabinet N/A N/A(20,000) Ending basis$ -0-$ -0-$ -0- G H I. Basis in interest$30,000$30,000$30,000 Cash distribution(50,000)(10,000)(10,000) Gain recognized 20,000 N/A N/A Basis after cash -0- 20,000 20,000 A/R distrib. N/A -0- -0- Loss recognized N/A(20,000) N/A Basis after A/R -0- -0- 20,000 Filing cabinet N/A N/A(20,000) Ending basis$ -0-$ -0-$ -0-

96. C21 - 96 Comprehensive Volume Proportionate Liquidating Distribution Examples (slide 3 of 4) G H I. Basis in p’ship int.$ -0-$ -0-$ -0- Basis in cash 50,000 10,000 10,000 Basis in A/R N/A -0- -0- Basis in filing cabinet N/A N/A 20,000 Capital (Gain)/loss (20,000) 20,000 N/A. Original basis$30,000$30,000$30,000 G H I. Basis in p’ship int.$ -0-$ -0-$ -0- Basis in cash 50,000 10,000 10,000 Basis in A/R N/A -0- -0- Basis in filing cabinet N/A N/A 20,000 Capital (Gain)/loss (20,000) 20,000 N/A. Original basis$30,000$30,000$30,000

97. C21 - 97 Comprehensive Volume Proportionate Liquidating Distribution Examples (slide 4 of 4) Sale of non-cash assets at FMV: Example H: A/R Fil.Cab. Total. Selling price$16,000 N/A$16,000 Basis -0- N/A -0-. Gain/(loss)$16,000 N/A$16,000 (Ordinary) Example I: Selling price$16,000$ 300$16,300 Basis -0- 20,000 20,000 Gain/(loss)$16,000 ($19,700)($3,700) (Ordinary)(May be ord) Sale of non-cash assets at FMV: Example H: A/R Fil.Cab. Total. Selling price$16,000 N/A$16,000 Basis -0- N/A -0-. Gain/(loss)$16,000 N/A$16,000 (Ordinary) Example I: Selling price$16,000$ 300$16,300 Basis -0- 20,000 20,000 Gain/(loss)$16,000 ($19,700)($3,700) (Ordinary)(May be ord)

98. C21 - 98 Comprehensive Volume Sale of Partnership Interest (slide 1 of 4) Generally, results in gain or loss recognition by selling partner –Gain(loss) = amount realized less partner’s basis in partnership interest –Partnership liabilities assumed by purchasing partner are treated as part of consideration paid for the partnership interest Generally, results in gain or loss recognition by selling partner –Gain(loss) = amount realized less partner’s basis in partnership interest –Partnership liabilities assumed by purchasing partner are treated as part of consideration paid for the partnership interest

99. C21 - 99 Comprehensive Volume Sale of Partnership Interest (slide 2 of 4) Partnership tax year closes for selling partner on sale date –Partner’s share of income through sale date is calculated Can prorate annual income or use interim closing of the books –Taxed to selling partner and increases basis in partnership interest Partnership tax year closes for selling partner on sale date –Partner’s share of income through sale date is calculated Can prorate annual income or use interim closing of the books –Taxed to selling partner and increases basis in partnership interest

100. C21 - 100 Comprehensive Volume Sale of Partnership Interest (slide 3 of 4) Effect of hot assets –Hot assets include: Unrealized receivables (same as for disproportionate distributions) Inventory –Includes all partnership property except money, capital assets, and § 1231 assets Effect of hot assets –Hot assets include: Unrealized receivables (same as for disproportionate distributions) Inventory –Includes all partnership property except money, capital assets, and § 1231 assets

101. C21 - 101 Comprehensive Volume Sale of Partnership Interest (slide 4 of 4) Effect of hot assets (cont’d) –Must allocate sales price of partnership interest between “hot” (ordinary income) assets and “nonhot” (capital gain) components –Selling partner’s gain is classified as a capital gain or loss portion and an ordinary income or loss amount related to the hot assets Effect of hot assets (cont’d) –Must allocate sales price of partnership interest between “hot” (ordinary income) assets and “nonhot” (capital gain) components –Selling partner’s gain is classified as a capital gain or loss portion and an ordinary income or loss amount related to the hot assets

102. C21 - 102 Comprehensive Volume If you have any comments or suggestions concerning this PowerPoint Presentation for South-Western Federal Taxation, please contact: Dr. Donald R. Trippeer, CPA trippedr@oneonta.edu SUNY Oneonta If you have any comments or suggestions concerning this PowerPoint Presentation for South-Western Federal Taxation, please contact: Dr. Donald R. Trippeer, CPA trippedr@oneonta.edu SUNY Oneonta