Partnership Property Contributions The Good The Bad and the Ugly.pdf

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Reproduced with permission from Tax Management Real Estate Journal, Vol. 32, 2, p. 31, 02/03/2016. Copyright 2016 by The Bureau of National Affairs, Inc. (800-372-1033) Partnership Property Contributions: The Good, The Bad and the Ugly By Philip Hirschfeld, Esq. * While contributions of real estate or other property to limited partnerships and limited liability companies (LLCs) frequently occur, the tax implications of such contributions are often not fully considered by all partners. The goals of the partner who contributed the property are not to pay tax on the contribution and be treated on the same basis that would occur if the con- tribution were made only with cash; those goals may sometimes be at odds with the Internal Revenue Ser- vice (IRS) as well as the other partners who need to fully consider the tax treatment. The choice of rel- evant tax elections, as well as actions later taken by the partnership (such as in making preferential cash distributions to the property contributor), can have a meaningful effect on all partners. Just as in the epoch movie, The Good, The Bad and The Ugly , there are three players involved in any property contribution: the property contributor, the other partners, and the partnership although the IRS is also an interested party. The choice of who may be good, bad, or ugly is shaped by each party’s perspec- tive; what all parties can agree on is that the tax law resolution of all these competing claims can get ugly (or at least complicated). This article helps to frame these issues so that each partner can hopefully ride off into the sunset with a bounty they can keep, or at least achieve a balanced and supportable resolution of their potentially competing tax concerns. This article focuses on three broad areas: the good being the rules that can make the property contribu- tion a nonrecognition event to the contributing part- ner; the bad being the disguised sale rules that can foil an attempt to use the partnership rules to make a tax- able sale tax-free; and the ugly being the complex rules to account for the disparity between the tax ba- sis of the contributed property and its fair market value (‘‘FMV’’) on date of contribution, which nearly always exists. THE GOOD: NONRECOGNITION FOR THE PROPERTY CONTRIBUTION Taxable Sales As background, if a partner sells appreciated prop- erty to a partnership in a taxable sale for a purchase price equal to the FMV of the property, the partner- ship will take a tax basis in the property equal to the purchase price. 1 That tax basis helps determine future depreciation deductions 2 claimed by the partnership, which serve to reduce the partnership’s taxable in- come or generate tax losses. The adjusted tax basis is also used to determine gain or loss 3 on sale of the property, with the partnership’s goal of insuring as high a tax basis as possible to lessen tax on sale. If property is purchased by the partnership, the partner- ship’s assets will, however, be depleted by cash paid
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