Distributions In General

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1 Distributions In General Current Distributions 15-4 Liquidating Distributions Money Property

2 15-5 Proportionate v. Disproportionate Distributions Example

3 Example Partnership Assets Ptr. A Ptr. B Cash $100, ,000 Accts. Rec. $0 100,000 Inventory $40, ,000 Land $60,000 $100,000 Totals $200,000 $400,000 5 Sell all Assets and Distribute Cash Ordinary Income* Capital Gain** Jack $80,000 $20,000 Jill $80,000 $20,000 * $160,000 2 = $80,000 ** $40,000 2 = $20,000 6

4 Liquidating Distribution Jack Jill Beg. O. B. 100, ,000 Income and Gain 100, ,000 Money Distrib. -200, ,000 Remaining O.B. $0 $0 Sec. 731(a) Gain $0 $0 7 Example 15-2 Jack and Jill Liquidate JJ

5 Example 15-2 Jack and Jill Liquidate JJ Partnership Assets 15-6 Tax Basis FMV Cash To Jack $100, ,000 Accts. Rec. To Jack $0 100,000 Inventory To Jill $40, ,000 Land To Jill $60,000 $100,000 Totals $200,000 $400,000 9 Proportionate Liquidating Distribution Jack Beg. O. B. 100,000 Money -100,000 Accts. Rec. 0 Inventory Land Ending O.B. 0 Jill 10

6 Proportionate Liquidating Distribution Jack Jill Beg. O. B. 100, ,000 Money -100,000 Accts. Rec. 0 Inventory -40,000 Land -60,000 Ending O.B Subsequent Sales of Distributed Assets Ordinary Income Capital Gain Jack $100,000 0 Jill $60,000 $40,000 12

15-7 FMV of marketable securities, reduced by distributee s share of built-in gain,

7 Proportionate Current Distributions 15-7 Proportionate Current Distributions Gain if money distributed exceeds outside basis FMV of marketable securities, reduced by distributee s share of built-in gain, are money No loss recognition The distributee partner s basis in property received is generally the php s inside basis in that property.

8 15-8 Example 15-3 Distribution of Money

9 Example 15-3 Distribution of Money 15-7 Ptr. A Ptr. B Pre-Distribution 2,000 2,000 Outside Basis Money Distributed -1,500-1,500 End. Outside Basis Disguised Sales Contribution and Distribution within 2 Years Rebuttable Presumption of Sale

737) (2) Distribute contributed property to other P within 7

10 Mixing Bowl Transactions: 15-8 (1) Distribute other property to contributing P within 7 years. (IRC sec. 737) (2) Distribute contributed property to other P within 7 years. (IRC sec. 704(c)(1)(B)) IRC sec. 737 K-1 Reporting Box 19, Distributions, Code B

11 IRC sec. 704(c)(1)(B) K-1 Reporting Box 20, Other Information, Code W Proportionate Distributions of Money (and marketable securities) 15-8

12 Example Partner Mary s predistribution outside basis is $500 and she receives a cash distribution of $750. Result: Capital Gain of $ Partners IRC sec. 731 gains are generally sales thus category three NII, but subject to IRC sec. 1411(c)(4) relief. Prop. Regs. are silent, but preamble refers to passive loss regulations and asks for comments. 24

13 Example 15-5 Distribution of Marketable Security 15-9 Assume that the disguised sale rules do not apply. 25 Partner K-1 Instructions for Box Distributions

14 Debt Share Changes A net increase in a partner s debt share is a deemed contribution of money. A net decrease in debt share is a deemed distribution of money. Example

15 Example Mary (50% Ptr.) receives $7,500 FMV Property Z (inside basis $4,000). Mary assumes the debt on Prop. Z of $5,000 Net debt increase to Mary of $2,500 Net debt decrease to Larry of $2,500. Impact on Mary Mary Larry Beg. Outside Basis 2,000 2,000 Debt Change +2,500 30

16 Impact on Mary Mary Larry Beg. Outside Basis 2,000 2,000 Debt Change +2,500 Property Dist. -$4,000 Remaining O.B. $500 Sec. 731(a) Gain $0 31 Impact on Larry (a stealth distribution) Mary Larry Beg. Outside Basis 2,000 2,000 Debt Change +2,500-2,500 Property Dist. -$4,000 Remaining O.B. $500 $0 Sec. 731(a) Gain $0? 32

17 Impact on Larry (a stealth distribution) Mary Larry Beg. Outside Basis 2,000 2,000 Debt Change +2,500-2,500 Property Dist. -$4,000 Remaining O.B. $500 $0 Sec. 731(a) Gain $ Partnership Level Gain or Loss? None (Absent IRC sec. 751) 15-11

18 15-11 Basis of Distributed Property General Rule Distributed Property The basis of property distributed by the partnership to a partner is the partnership s inside basis immediately before the distribution;

19 Exception If I.B. > O.B. the distributee s partner s basis in the distributed property is limited to outside basis reduced by any money received in the same transaction. Allocation/ Ordering Rules

20 Allocation/Ordering Rules Reduce outside basis by: 1) Money, including relief of liabilities, and the fair market value of marketable securities. 2) Sec. 751 assets hot assets, and 3) Other assets (cold assets). See IRC sec. 732(c) Example 15-7 Distribution of $90,000 Money and Land with I.B. of $60,000 Ptr. B Beg. Outside Basis 100,000 Money Distributed -90,

21 Example 15-7 Distribution of $90,000 Money and Land with I.B. of $60,000 Ptr. B Beg. Outside Basis 100,000 Money Distributed -90,000 Land -10,000 Ending Outside Basis $0 B s basis in the land is $10, Example 15-8 Distribution of $101,000 Money and Land with I.B. of $60,000 Ptr. B Beg. Outside Basis 100,000 Money Distributed -101,000 Gain $1,

22 Example 15-8 B s basis in the land is Zero 43 Decrease in Distributee Basis with Multiple Assets in the same class

23 15-12 First, the decrease is allocated among properties with unrealized depreciation in proportion to their respective amounts of unrealized depreciation Next in proportion to their respective adjusted bases. See Examples 15-9 and Character and Holding Period of Distributed Property See Examples and 15-12

24 15-16 Section 754 Election 15-16

25 Two Sec. 734 Upward Adjustment Triggers 1) If distributee recognizes Sec. 731(a) gain ) If partnership inside basis of distributed property exceeds the distributee s basis in the property. Sec. 734 Example Distribution of Money Ptr. A Ptr. B Beg. Outside Basis 2,000 2,000 Money Distributed -2,500-2,500 Sec. 731(a) Gain With a Sec. 754 Election, the partnership s capital gain property basis is increased by $1,000 ($500 + $500). 50

26 Example Distribution of $90,000 Money and Land with I.B. of $60,000 Ptr. B Beg. Outside Basis 100,000 Money Distributed -90, Example Distribution of $90,000 Money and Land with I.B. of $60,000 Ptr. B Beg. Outside Basis 100,000 Money Distributed -90,000 Land -10,000 Ending Outside Basis $0 B s basis in the land is $10,000 52

27 Example The inside basis of partnership capital gain property is increased by $50,000. ($60,000 - $10,000) 53 If the partnership has no capital gain property, then the Sec. 734 adjustment is carried over until capital gain property is acquired. 54

28 Example Variation If the distributed property were inventory (same basis and value), then the inside basis of partnership ordinary income assets is increased by $50,000 ($60,000 - $10,000). 55 Increases in Basis of Depreciable Property Increased portion is treated as newly-purchased recovery property placed in service when the distribution occurs. 56

29 Reporting IRC sec. 734 Adjustments to the IRS. 57 Attach a statement to the partnership return for the year of the distribution setting forth the computation of the adjustment and the partnership properties to which the adjustment has been allocated 58

30 IRC sec. 732(d) Election by Distributee Partner 59 Available when a transferee partner receives a distribution of property (other than money) from the partnership within 2 years after the partnership interest is acquired--by purchase or inheritance. 60

31 Example When Partner T purchased T s 25% partnership interest, if a Sec. 754 election were in effect, T would have been entitled to an upward Sec. 743(b) adjustment of $500 for Property Z (common I.B. $14,000; FMV $16,000). 61 Example Property Z is distributed to T within 2 years of T s purchase. $14,000 common partnership + $500 Sec. 732(d) Adj. $14,500 T s Inside Basis in Z. 62

32 15-21 The partnership must provide the transferee with such information as is necessary for the transferee properly to compute the transferee's basis adjustments under Sec. 732(d). Reg. Sec (d)(4) Proportionate Liquidating Distributions

33 Generally similar to current distributions. Unlike current distributions, losses can be recognized in certain proportionate liquidating distributions. 66

34 Losses may be recognized when the partner receives assets consisting of one or more of the following (and no other assets): 1) money, 2) unrealized receivables, or 3) Inventory 67 The recognized loss= The distributee s outside basis in excess of the basis of the distributed property. 68

35 Example Liquidating Distribution of Money Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $90,000 Sec. 731(a)(2) Cap. Loss? 69 Example Liquidating Distribution of Money Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $90,000 Sec. 731(a)(2) Cap. Loss $10,000 70

36 Example Liquidating Distribution Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $20,000 Inventory (I.B. $70,000) $70,000 Sec. 731(a)(2) Cap. Loss? 71 Example Liquidating Distribution Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $20,000 Inventory (I.B. $70,000) $70,000 Sec. 731(a)(2) Cap. Loss $10,000 Loss not on K-1 72

37 Unlike current distributions, with a liquidating distribution that includes other cold assets (capital assets or Sec property), excess outside basis is assigned to the distributed cold assets. 73 If a Example Current Distribution Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $20,000 Inventory (I.B. $70,000) $70,000 Land (I.B. $400; FMV $1K) $400 Remaining O.B. $9,600 74

38 Example Liquidating Distribution Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $20,000 Inventory (I.B. $70,000) $70,000 Land (I.B. $400; FMV $1k)? Remaining O.B.? 75 Example Liquidating Distribution Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $20,000 Inventory (I.B. $70,000) $70,000 Land (I.B. $400; FMV $1k) $10,000 Remaining O.B. $0 76

39 Example Linda Uses the Vehicle for Personal Use Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $20,000 Inventory (I.B. $70,000) $70,000 Auto (I.B. $400; FMV $1k) $10,000 Remaining O.B. $0 77 Example Detailed Review Example of Proportionate Liquidation 78

40 AB Partnership has two partners, A and B, who share capital and profits equally. A and B decide to liquidate. Is the distribution proportionate? A is distributed: All of the land worth $400,000, ½ of the U/R, and ½ of the inventory B is distributed: All of the cash of $400,000 ½ of the U/R, and ½ of the inventory

41 15-29 Basis Increases To Distributed Multiple Cold Assets (unique to liquidations) First, the increase is allocated among cold assets with unrealized appreciation in proportion to their respective amounts of unrealized appreciation Next in proportion to their respective fair market values (FMV). See Example 15-21

42 15-30 Ordinary Loss on Abandonment of a Partnership Interest If No Distribution Section 754 Election with Liquidating Distribution

43 Same Two Sec. 734 Upward Adjustments as Current Distributions Same Two Sec. 734 Upward Adjustment Triggers 1) If distributee recognizes Sec. 731(a) gain ) If partnership inside basis of distributed property exceeds the distributee s basis in the property. Sec. 734

44 Two Sec. 734 Downward Adjustment Triggers 1) If distributee recognizes Sec. 731(a) loss ) If the distributee partner s basis in the property (cold assets) exceeds the partnership s inside basis of distributed property. S 734 Example Liquidating Distribution with Loss Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $20,000 Inventory (I.B. $70,000) $70,000 Sec. 731(a)(2) Cap. Loss $10,000 With a Sec. 754 Election, the partnership s capital gain prop. basis is reduced by $10,

45 Example Liquidating Distribution with Cap. Gain Prop. Basis Increase Ptr. Linda Beg. Outside Basis $100,000 Money Distributed $20,000 Inventory (I.B. $70,000) $70,000 Land (I.B. $400; FMV $1k) $10,000 Remaining O.B. $0 89 Example With a Sec. 754 election, the partnership s capital gain property basis is reduced by $9,

46 Decreases in Basis of Depreciable Property Decreased portion must be accounted for over the remaining recovery period of the property. 91 IRC sec. 734 Adjustments ARE generally also made to partnership assets for book purposes See reg. sec (b)(2)(iv)(m) 92

47 Mandatory Sec (b) Adjustments if a Substantial Basis Reduction (2004 Act) Substantial Basis Reduction A downward adjustment of more than $250,000 that would be made to the basis of partnership assets if a Sec. 754 election were in effect. 94

48 15-33 Partnership Reporting Obligation (Notice ) 95 Notice comply with the reporting requirements of Reg. Sec (d) as if an election under Sec. 754 were in effect 96

49 Example Mandatory Downward Adjustment 97 Example

50 Tax Basis FMV Outside Assets: January 2011 In Millions Basis Cash $0 Blackacre $3.0 Whiteacre $7.0 Total Assets $10.0 Liabilities: $0 Capital: A $2.5 $2.5 B $2.5 $2.5 C $5.0 $5.0 Debt + Equity $ Tax Basis FMV Outside Assets: January 2011 In Millions Basis Cash $0 $0 Blackacre $3.0 $1.0 Whiteacre $7.0 $1.0 Total Assets $10.0 $2.0 Liabilities: $0 $0 Capital: A $2.5 $.5 $2.5 B $2.5 $.5 $2.5 C $5.0 $1.0 $5.0 Debt + Equity $10.0 $

51 Example Blackacre (I.B. = $3 mil.) is distributed to C in liquidation of C s Interest. C s basis in Blackacre is $5 million (C s O.B.) Mandatory Sec. 734 Adj. = <$2 million> ($5 - $3) to Whiteacre. 101 Example Variation If Blackacre is land held for sale (inventory), then C would claim a Sec. 731(a) capital loss of $2 million. Mandatory $2 million downward Sec. 734 adjustment to Partnership capital gain property. 102

52 Example Mandatory Downward Adjustment 103 Example

53 Tax Basis FMV Outside Assets: January 2011 In Millions Basis Cash $2.0 Blackacre $4.0 Whiteacre $4.0 Total Assets $10.0 Liabilities: $0 Capital: A $2.5 $2.5 B $2.5 $2.5 C $5.0 $5.0 Debt + Equity $ Tax Basis FMV Outside Assets: January 2011 In Millions Basis Cash $2.0 $2.0 Blackacre $4.0 $1.0 Whiteacre $4.0 $1.0 Total Assets $10.0 $4.0 Liabilities: $0 $0 Capital: A $2.5 $1.0 $2.5 B $2.5 $1.0 $2.5 C $5.0 $2.0 $5.0 Debt + Equity $10.0 $

54 Example $2 million cash is distributed to C in liquidation of C s Interest. C recognizes a $3 million capital loss. Mandatory Sec. 734 Adj. = <$3 million> allocated 50/50 to Blackacre and Whiteacre 107 Sec. 732(d) Election With Proportionate Liquidating Distributions See Example 15-26

55 Prop. Regs. on Section 734 Substantial Basis Reductions REG (Feb. 3, 2014) 109 The $250,000 threshold is determined by reference to all properties distributed to the partner-distributee as part of the same distribution; ignore properties distributed to others. 110

56 Tiered Partnership Guidance If there is a substantial basis reduction with respect to a distribution by an upper-tier partnership that holds an interest in a lower-tier partnership, each lower-tier partnership is treated, solely with respect to the distribution, as if it had made an election under section Prop. Reg. Example (Page 15-36): A, B, and C are equal partners in UTP, a partnership. Each partner's interest in UTP has an adjusted basis and fair market value of $3 million. UTP owns two capital assets with the following adjusted bases and fair market values: 112

57 Adjusted basis Fair market value Property 1 $2.2 million $3 million. Property 2 $2.8 million $3 million. UTP also owns a 50 percent interest in LTP, a partnership. UTP's interest in LTP has an adjusted basis of $4 million and a fair market value of $3 million. 113 LTP owns one asset, Property 3, a capital asset, which has an adjusted basis of $8 million and a fair market value of $6 million. Neither UTP nor LTP has an election under section 754 in effect. 114

58 Liquidating distribution to A of Property 1. UTP distributes Property 1 to A in complete liquidation of A's interest in UTP. Under section 732(b), the adjusted basis of Property 1 to A is $3 million [an $800,000 increase from the UTP s basis of $2.2 mil.]. 115 Therefore, there is a substantial basis reduction because $800,000 exceeds $250,000. Therefore, UTP must decrease the basis of its property by $800,

59 UTP must decrease the adjusted basis of its 50 percent interest in LTP by $800,000 [UTP s only built-in loss asset]. Likewise, LTP must decrease its basis in UTP's share of Property 3 by $800,000 in accordance with (c). 117 Tiered Partnership Guidance On IRC sec. 734(b) Adjustments in General 118

Chapter 13 Purchase or Inheritance Buyer/Beneficiary Side Outside Basis Purchase: Amount Paid to Seller + Share of Php. Debt

Chapter 13 Purchase or Inheritance Buyer/Beneficiary Side 1 Outside Basis Purchase: Amount Paid to Seller + Share of Php. Debt 2 13-3 Example 13-1 S sells to B 3 In Year 1, A, C, and S form the ACS Limited