97%(30)29 out of 30 people found this document helpful
This preview shows page 16 - 19 out of 98 pages.
Accordingly, C has a gross deemed distribution of $30 and a deemed contribution of $23.3 [= $20 from Tier 2 + $3.3 from Tier 3], resulting in a net deemed distribution of 6.7. oFormation: ServicesA.Introduction1.Definition of “property” in §721 does not include services (Diamond, St. John, Campell). 2.§721 does not provide nonrecognition for contributions of services. 3.Need to determine whether the service partner is receiving a capital interest or a profits interest. B.Capital Interest1.Definition
a.Defined as an interest in both the partnership’s assets (i.e., the “capital”) and its future profits. b.A partner who has a capital interest will be entitled to a share of the partnership’s net assets in the event the partner withdraws or the partnership is liquidated. 2.A service partner who receives a capital interest realizes ordinary income in an amount equal to the value of the interest received less the amount, if any, paid for the interest. 3.The timing for recognizing that income is determined under §83. a.If the income is received without restrictions, the income is realized upon its receipt. b.If the interest is transferred subject to substantial restrictions, §83(a) provides that its fair market value is included in gross income when the restrictions lapse. c.The amount to be included in income is the excess of the fair market value of the interest at the time the partner’s rights have vested over the amount, if any, paid for the interest. d.A transferee of restricted property is also permitted under §83(b) to include the fair market value of the property in income at the time of its receipt. However, if a §83(b) election is made, the transferee may not take any deduction (except for the amount actually paid) if the property is subsequently forfeited. 4.Tax consequences to the partnership a.If a capital interest is transferred in exchange for services, the partnership may take a §162 business deduction for the amount of ordinary income that is includable in the service partner’s income in the taxable year that the income is recognized unless the nature of the service requires the partnership to amortize (e.g., organizational expenses) or capitalize (e.g., services related to the acquisition or formation of an asset) the expenditure. b.Under the majority view, a partnership that transfers a capital interest for services is treated as transferring an undivided interest in each of its assets to the service partnerin a taxable transaction and must recognize any gain inherent in the transferred portion of each asset. The service partner is then treated as retransferring the assets
back to the partnership in a tax-free §721 transaction. Notethe service partner’s adjusted (outside) basis in the transferred assets will be their fair market value.