Chapter_14_solutions_to_assigned_Solutions

Chapter_14_solutions_to_assigned_Solutions - 23. AnnaBell...

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Unformatted text preview: 23. AnnaBell and Eva own and manage Purity Forms Development. Annabells and Evas bases in Purity at the beginning of the year are $18,000 and $24,000, respectively. During the current year, Purity suffers a $90,000 net operating loss. Puritys only debt is a $45,000 nonrecourse debt on its office building (incurred during the current year). Determine the deductibility of the net operating loss under each of the following assumptions: a. Purity is a partnership. Annabell owns a 1/3 interest, and Eva owns a 2/3 interest in the partnership. AnnaBell's share of the partnership loss is $30,000 ($90,000 x 1/3) and Eva's share of the loss is $60,000 ($90,000 x 2/3). The capital recovery concept limits the amount of any deduction to the amount invested. This limits the deduction for partnership losses to the partner's basis. Because partners are liable for debts of the partnership, individual partners have a risk of loss from any debts that the partnership incurs. Due to this liability feature, a partner's share of the partnership's debt is deemed to be the equivalent of a cash contribution to the partnership and basis is increased by each partner's proportionate share of the partnership debt. AnnaBell's basis increases by $15,000 ($45,000 x 1/3) to $33,000 for the partnership debt. Eva's basis increases by $30,000 ($45,000 x 2/3) to $54,000 for the partnership debt. AnnaBell has sufficient basis to deduct her $30,000 loss, leaving her with a basis of $3,000. Eva can only deduct $54,000 of the loss, with $6,000 suspended until her basis increases: AnnaBell Eva Beginning basis $ 18,000 $ 24,000 Share of partnership debt 15,000 30,000 Basis for deducting losses $ 33,000 $ 54,000 Loss deduction (30,000 ) (54,000 ) Ending basis $ 3,000 $ - 0- The at risk rules limit any loss deduction to the amount the partner has at-risk in the activity. A partner's at-risk amount parallels her or his basis. Only nonrecourse debt attributable to real property is considered to be at-risk. The partnership debt is at risk and the partner's at-risk amounts are equal to their bases. Because the partners participate in the management of the partnership, they are material participants in the activity and the passive activity loss rules do no apply. Therefore, they can deduct the $30,000 and $54,000 in losses calculated under the basis and at-risk limitations. b. Purity is a corporation. Annabell owns 1/3 of the stock, and Eva owns 2/3 of the Purity stock. A corporation is a separate taxable entity. A corporation pays tax on its taxable income. Purity can carry back the net operating loss for 2 years and forward for 20 years and use the loss to offset taxable income in those years. Shareholders are taxed on dividends received from the corporation. AnnaBell and Eva received no dividends and have no income, nor can they deduct any of the corporation's loss. c. Purity is an S corporation. Annabell owns 1/3 of the stock, and Eva owns 2/3 of the Purity stock....
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Chapter_14_solutions_to_assigned_Solutions - 23. AnnaBell...

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