Lind Chapter 6 Solutions

Lind Chapter 6 Solutions - (c). 1(a). 1(b). Page 282: Page...

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Unformatted text preview: (c). 1(a). 1(b). Page 282: Page 291: SALES AND EXCHANGES 0F INTERESTS CB 277-291 term capital loss on the sale of her partnership interest. See Reg. § 1.1(h)—1(f) Example 2. Now the collectibles have a net loss ($3,000 basis exceeds $1,000 fair market value). Since there is a loss in the collectibles, none of B's gain from the sale of the interest is attributable to unrealized appreciation in the partnership's collectibles. The regulations do not permit B to recognize the net loss in the collectibles. Therefore, B recognizes $7,000 of § 751(a) ordinary income and $1,000 of § 741 residual capital loss. See Reg. § 1.1(h)-1(f) Example 3. PROBLEM This problem involves the relationship of § 453 to §§ 741 and 751. It raises issues discussed in Rev. Rul. 89-108 at page 279 of the text. Examining the balance sheet, A has an amount realized of $150,000 and an adjusted basis of $38,000, for an overall realized gain of $1 12,000. The inventory is 3 § 751(d) inventory item. The recapture gain is an unrealized receivable under § 751(c), flush language. A's share of recapture has a basis of zero and a value of $20,000. Reg. § 1.751—1(c)(5). Under Rev. Rul. 89-108, A cannot report the gain attributable to the inventory under § 453, and under § 453(i) the $20,000 of recapture gain must be recognized in the year of sale. A thus recognizes $20,000 of § 1245 gain as well as $2,000 of ordinary income from the inventory in the year of sale (see § 453(b)(2)(B)). A's $90,000 of § 741 gain ($112,000 total gain less $22,000 of § 751(a) gain) would qualify for § 453 treatment, and thus A would also recognize $30,000 of LTCG in each of the three years. Reg. § 1.453-12 would require that any unrecaptured § 1250 gain in the Hotel be recognized before 15% residual LTCG. PROBLEMS On collection of the receivables, the partnership would recognize $30,000 of ordinary income, which would be taxed $10,000 to each of the three partners, including Nupartner. Although Nupartner would increase his outside basis under § 705(a)(1)(A) by $10,000 to $50,000, the text explains that this does not put Nupartner in the same position as 3 § 754 election and a § 743(b) adjustment. The absence of such an election may alter the timing, character, and in death situations, even the amount of income. If the partnership had made a § 754 election (see Reg. § 1.754—1(b)), Nupartner would have an upward adjustment of $20,000 under § 743(b). The amount of the § 743(b) basis adjustment is the difference between Nupartner's basis in the partnership interest ($40,000) and Nupartner's share of the adjusted basis to the partnership of its property. A transferee partner's share of the adjusted basis to the partnership of its property is equal to the sum of the transferee's interest in the partnership's "previously taxed capital" ("PT C ") plus the transferee‘s share of partnership liabilities. The transferee‘ 5 interest in PTC is determined under the hypothetical sale approach of the regulations. It is equal to the cash the transferee would receive on a 89 "‘. “ll: CB 291 1(c). 1(d). 1(c). 1(f). 1(g). CHAPTER SIX liquidation following the hypothetical transaction, increased by the amount of tax loss and decreased by the amount of tax gain that would be allocated to the transferee from the transaction. Reg. § 1.743—1(d)(1) & (2). Nupartner's interest in the partnership's PTC is $20,000 ($40,000, the amount of cash Nupartner would receive if the partnership immediately liquidated after a hypothetical disposition of the assets, decreased by $20,000, the amount of tax gain allocated to Nupartner from the hypothetical transaction). Since there are no partnership liabilities, Nupartner's share of the adjusted basis of the partnership is equal to his interest in the partnership's PTC. Nupartner's § 743(b) adjustment therefore is $20,000. Under § 755, the $20,000 adjustment would be allocated $ 10,000 to the accounts receivable and $10,000 to the land. The allocation is based on the allocations of gain that Nupartner would receive if, immediately after the transfer, all of the partnership's assets were disposed of in a fully taxable transaction for fair market value. Thus, Nupartner would have his own special inside basis of $10,000, and he would have no income on collection of the receivables. The partnership makes the § 754 election under procedures spelled out in Reg. § 1.754-1(b). The election with respect to a distribution or transfer is made in a written statement filed with a timely partnership return for the taxable year during which the distribution or transfer occurs. The regulation provides that: The statement required by this subparagraph shall (i) set forth the name and address of the partnership making the election, (ii) be signed by any one of the partners, and (iii) contain a declaration that the partnership elects under section 754 to apply the provisions of section 734(b) and section 743(b). Nupartner would likely prefer to have conditioned his purchase upon the partnership making a § 754 election. Of course, the remaining partners, not just the selling partner, would have to go along with such an agreement. The § 754 election will have no immediate tax impact on the remaining partners, although as we will see in Chapter 7B, the election also triggers possible § 734(b) adjustments on distributions of property. Those adjustments can affect the remaining partners. Yes, the § 743(b) adjustment creates a personal inside basis for Nupartner. That basis is used by Nupartner for determining subsequent depletion and cost recovery deductions as well as in computing his gain on collection of partnership income, on sale of partnership property, and in determining his transferred basis in distributed property. Reg. § 1.743-10). Nupartner would have zero total gain or loss ($40,000 amount realized less $40,000 adjusted basis) In a hypothetical sale of all partnership property, Nupartner would be allocated $10,000 of income from § 751 property. Thus, Nupartner would recognize $10,000 of § 751 ordinary income and $10,000 and $10,000 of LTCL under § 741. 90 1(h). 1(i). 1(i). 1(k). SALES AND EXCHANGES 0F INTERESTS CB 291-292 If there is a § 754 election, Nupartner would have the same special inside basis as in (b), above, of $10,000 in the receivables and $30,000 in the land. On the sale, Nupartner would again have zero total gain or loss. Nupartner's share of the income in the § 751 receivables would be $10,000 minus the $10,000 positive basis adjustment under § 743(b), with the results that there is no § 751 gain. There also would be no § 741 gain or loss. Compare the difference in results in parts (g) and (h), above, as a result of the § 754 election. Buyer's special inside basis would be the same as Nupartner's special inside basis. Since a § 754 election is still in effect, Buyer would have the same $20,000 § 743(b) upward adjustment which would be allocated in the same manner as in Problem 1(b), above. This subpart provides an opportunity to revisit briefly the capital account maintenance rules which were discussed in connection with partnership formations and allocations. Students should be reminded that capital accounts are the key to economic effect under Section 704(b) and departures from the detailed rules in the regulations at any point in the partnership's life may jeopardize special allocations in the partnership agreement. Reg. § 1.704— 1(b)(2)(iV)(a)- Nupartner's opening capital account will be $20,000, whether or not the partnership has a § 754 election in effect. Under Reg. § 1.704-1(b)(2)(iv)(l), a transferee partner inherits the transferor's capital account upon the transfer of all or a part of an interest in the partnership. (This assumes, as the problem does, that the transfer does not cause a termination of the partnership under § 708(b)(1)(B); see Reg. § l.704-1(b)(5) Example (13)(v)). If the partnership has a § 754 election in effect, it is irrelevant for capital account purposes whether the buying partner benefits from an upward inside basis adjustment under § 743(b). That adjustment is for tax purposes only and does not affect the partners‘ economic arrangement. Moreover, subsequent capital account adjustments for distributions, depreciation, and gain or loss with respect to the property will disregard the effect of basis adjustments under § 743(b). Reg. §§ 1.704-1(b)(2)(iv)(m) (1), (2); 1.743-10)(2). For example, on collection of the receivables, Nupartner could increase his capital account by $10,000, his one-third share of the partnership's book gain, even though Nupartner has no tax gain because of the § 754 election and the § 743(b) basis adjustment. See Reg. § 1.704-1(b)(5) Example (13)(ii), (iii). It also might be noted here that the purchase of a partnership interest is not an occasion on which a revaluation of partnership assets and a corresponding restatement of capital accounts would be permitted under Reg. § 1.704-1(b)(2)(iv)(f). This situation can be distinguished from that where a new partner receives a partnership interest in exchange for a capital contribution or services. See Reg. § 1.704-1(b)(2)(iv)(f)(5)(t) & (iii). A § 754 election requires the partnership to keep accounts of its inside basis and in addition to keep a separate inside basis account for each new incoming partner as a result of a sale, exchange, or acquisition at death. Needless to say, if there are numerous changes in ownership that trigger § 743(b), the 91 CB 292 2(3). CHAPTER SIX complexity can create a nightmare for the partnership's accountant. This is one reason for a decision not to make an § 754 election and is a situation where the Service will allow a revocation of such an election. Reg. § l.754-1(c). No categorical answer may be given as to whether one should make a § 754 election. It is important to remember that it can cut both ways, resulting in both upward and downward adjustments, and that the election triggers adjustments under § 734(b) as well as § 743(b). The election can affect the timing, character, and in limited situations the amount of income, and once made, it is not easy to revoke. See Reg. § l.754-1(c). Under §743(b), D's total inside basis adjustment would be the difference between D's § 742 outside basis of $70,000 ($60,000 cash paid plus $10,000 share of liabilities under § 752(a)) and D's share of the adjusted basis to the partnership of its pro erty. D‘s interest in the partnership's previously taxed capital is $20,000 ( 60,000, the amount of cash D would receive if the partnership liquidated after a hypothetical sale of its assets, plus $5,000 of tax loss (in the land) and minus $45,000 of tax gain (in the receivables, inventory, and building) from the hypothetical sale). D's share of the adjusted basis to the partnership of its property is $30,000 ($20,000 share of previously taxed capital, plus $10,000 share of the partnership's liabilities). Note that after all the calculations, D's share of the adjusted basis to the partnership of its property is simply D's one-third share of the partnership's $90,000 inside basis. The complications of special allocations and Section 704(c) require the more detailed calculations. See part (c) of this problem. D's § 743(b) inside basis adjustment is $40,000 ($70,000 outside basis less $30,000 share of the adjusted basis to the partnership of its property). The second step is to allocate the adjustment under § 755. If the partnership sold all of its assets in a fully taxable transaction at fair market value immediately after the transfer of the partnership interest to D, the total amount of ordinary income that would be allocated to D is equal to $20,000 ($10,000 gain from accounts receivable and $10,000 gain from inventory). D would also be allocated $20,000 of gain from the partnership's capital assets and § 1231(b) property ($5,000 loss from the land and $25,000 gain from the building). The amount of the adjustment that is allocated to the ordinary income property is $20,000 and the amount of the adjustment allocated to the capital assets and § 1231(b) property is $20,000. The final step would be to allocate the adjustments within each class. $20,000 was allocated to the ordinary income assets. D would be allocated $10,000 of gain from the sale of the accounts receivable in a hypothetical sale. Therefore, the amount of the positive adjustment to the accounts receivable is $10,000. D would be allocated $10,000 of gain from the sale of the inventory in a hypothetical sale. Therefore, the amount of the positive adjustment to the inventory is $10,000. $20,000 was allocated to the capital and § 1231 assets. D would be allocated $5,000 of loss from the sale of the land. Therefore, the amount of the negative adjustment to the land is $5,000. D would be allocated $25,000 of gain from the sale of the building. Therefore, the amount of the positive adjustment to the building is $25,000. Note that the regulations 92 ...
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Lind Chapter 6 Solutions - (c). 1(a). 1(b). Page 282: Page...

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