Partnership Taxation

Question 1

General Partners

Answer 1

can participate in management

joint and several liability

All partnerships MUST have one general partner

Question 2

Limited Partner

Answer 2

liable ONLY up to their investment

CANNOT participate in management w/o losing limited liability status

Question 3

LLC Members

Answer 3

Have limited liability

Question 4

Filing

Answer 4

FORM 1065

Question 5

Advantages

Answer 5

Flexibility provided for business owners to help meet various needs

LLC - ALL members have limited liability

Partners can usually get in and out without recognizing a gain

Single taxation

Question 6

Formation Rules

Answer 6

Will not recognize a gain or loss from the contribution of property in exchange for a partnership interest

DOES not apply for interests received for SERVICES, for which WAGE INCOME is recognized = FMV of interest

Question 7

Basis

Answer 7

The partner takes a substituted basis in interest (basis he/she had in prop transferred) and the partnership takes a carryover basis in the asset’s it receives

When partnership begins, adjusted basis in interest is adjusted to reflect results of operations

Question 8

Holding Period

Answer 8

Partner’s holding period in interest

• tacks on for capital and sec 1231 assets
• does NOT tack on for any other asset

Partnerships holding period will always carry over

Question 9

Basis Adjustments

Answer 9

Initial basis is INCREASED by:

• Partner’s share of taxable and nontaxable income
• Increases in share of debt
• Additional contribution partner makes to partnership

DECREASES:

• deductions/NON-deductible items NONcapitalizablle expenditures
• Decreases in debt
• Distributions

NEGATIVE basis results in gain recognition

Question 10

Liabilities - Recourse Debt

Answer 10

Partners increase/decrease basis as their share of partnership debt changes

NonRecourse - debt for which the lender has NO recourse except to take property back –cannot go after any other assets

• Profit sharing ratio used to increase basis
• BOTH general and limited partners

For RECOURSE - each partner’s share of debt is measured by his “economic risk of loss” assuming a “constructive liquidation scenario” (increase by ownership interest in property)
***LIMITED PARTNERS get NO increase in basis for recourse debt

Question 11

Year-Ends

Answer 11

USE the SAME year-end as the majority interest partners (> 50% capital & profit interest)

IF no single year from this…. then uses the same as principal partners (5% or more profits interest)

Default - least aggregate deferral method

Question 12

Loss Limitations (flow-through)

Answer 12

THREE HURDLES must be cleared for LOSS to be DEDUCTED

1. Basis
2. At-Risk Amount (basis - nonrecourse debt)
3. Passive Income (If passive loss)

Question 13

Separately Stated Items

Answer 13

• Charitable Contributions
• Net income from rental real estate/other rentals
• Interest Income
• Guaranteed Payments
• Dividends/royalties
• Cap gains/losses
• 1231 gains/losses
• 179 expenses
• Tax credits
• AMT adj/pref
• Tax-Exempt Income

Question 14

Non-Separately Stated “bucket” - P. 1 1065

Answer 14

“The Bucket” ordinary business income or loss

Each proportionate share is reported on Schedule K-1 (both bucket and separately stated)

Question 15

Organization and Start-Up Costs

Answer 15

5,000 of these may be deducted - is reduced when total expenses exceed 50,000

Amortize amount not expensed

Question 16

Guaranteed Payments

Answer 16

Are paid to a partner in his/her role as a partner (e.g. salaries)

• DETERMINED without regard to partnership income
• ORDINARY INCOME to the partner and are - —- Deductible by the partnership “bucket item”
• Taxed as if they were paid on the last day of the taxable year

Question 17

Built-In Gains/Losses

Answer 17

If a partnership disposes of an asset that was contributed by a partner and at the time of the contribution the asset had a BIG or BIL, the recognized gain/loss is allocated back to the contributing partner to the extent of the BIG or BIL

Prevents taxpauers from using partnerships to transfer appreciation/depreciation to other partners - NO time limit

Question 18

Related Party Losses

Answer 18

DISALLOWED between a partnership and person owning more than 50% of capital or profits

also between two partnerships if same person owns more than 50% of capital or profits

Constructive ownership rules apply

Question 19

Non-Liquidating Distribution

Answer 19

In general, NO GAIN OR LOSS is recognized by the partnership or the partner for a PROPORTIONATE nonliquidating partnership

**IF CASH DISTRIBUTED exceeds partners basis in partnership interest A GAIN is RECOGNIZED — usually cap gain

**NEVER a LOSS

In general, property takes a carryover basis to distriutee partner and the partner REDUCES his/her BASIS in interest by the basis of the property distributed

Question 20

Distributions

Answer 20

Deemed to be distributed IN the following ORDER:

1. Cash
2. Unrealized receivables and invetory (no cash, captial, sec 1231)
3. Capital Assets and Section 1231 Assets

Question 21

Liquidating Distribution

Answer 21

Rules are the same as non-l BUT

1. LOSS IS RECOGNIZED if:
   - The partner receives ONLY cash, unrealized receivables and inventory
   - The inside basis of these assets is LESS THAN the partners basis in the partnership
2. The partner’s basis MUST be REDUCED TO ZERO ***Because liquidating

Question 22

Partner Retirements

Answer 22

In general payments received are treated as liquidating distribution

IF partner is a GENERAL P in a service oriented partnership then:

• Unrealized receivables and Unstated goodwill are taxed as Ordinary Income
• Remaining payments are treated as being in exchange for partnership property

Question 23

Sales

Answer 23

A partnership is a CAPITAL ASSET - this gain/loss is in general capital in nature

However to the extent the partnership has HOT ASSETS, gain will be recharacterized as Ordinary Income

Question 24

Hot Assets

Answer 24

1. Unrealized Receviables (recevables of a cash basis taxpayer; includes depreciation recapture)
2. Inventory (no cash, 1231, capital)

Question 25

Additional Sale Rules

Answer 25

IF partnership owns COLLECTIBLES or SEC 1250 assets, these items MAY also impact the gain from the sale

• Collectibles - Taxed at 28% to the extent it is due to collectibles
• ANY UN-recaptured SEC 1250 gain will be TAXED at 25%

Once you get recognized gain there are three rules (back out in this order)

1. OI - Hot Assets
2. 28% - Collectibles
3. 25% - gain due to SL dep recatured SEC 1250

Question 26

Terminations

Answer 26

No part of the business continues to be carried on by any partner in the partnership form; REQUIRES a closing of the partnership tax year

TECHNICAL termination - There is a sale/exchange of AT LEAST 50% interest in BOTH CAPITAL & PROFITS within 12-MONTHS

***When business operations are continued by other members of the partnership after termination —- A DEEMED distribution of assets to the remaining partners and the purchaser and THEY HYPOTHETICALLY recontribute the assets to the partnership

Question 27

Partnership Divisions

Answer 27

When a partnership divides into 2 or more – ORIGINAL partnership is continued in each of the new partnerships which contain partners that controlled 50% OR MORE of the interest in the original partnership