Contribution of encumbered property when a

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Contribution of Encumbered Property When a partnership assumes the debt of a contributing partner, the partner relieved of debt is treated as having received a distribution of money from the partnership in the amount of the debt relief. Code Sec. 752(b). That assumption of debt by the partnership is shared by ALL partners, in accordance with their ownership %’s. The term “ALL partners” includes the partner relieved of the debt. In essence, the partner is relieved of 100% of the debt, then assumes his pro rata share of that same debt assumed by the P/S. The amount of partnership debt assumed by a partner is treated as a cash contribution by the partner to the partnership. Chapter 19, Exhibit 16a
35 of 59 The partner’s “net” debt relief (total debt relief minus pro rata additional debt burden) is non-taxable to the relieved partner to the extent of his basis in the partnership. Any net debt relief in excess of basis is capital gain (i.e., same effect as if the amount of excess net debt relief were a cash distribution.) The capital gain is short-term or long- term depending on the holding period of the partnership interest. Contribution of Encumbered Property Chapter 19, Exhibit 16b
36 of 59 Bob’s land is subject to a $10,000 mortgage that the partnership assumes. The FMV of the P/S is $100,000 [$110,000 FMV assets – $10,000 debt assumed.] 100% $110,000 Totals 10% 11,000 10,000 Equipment Cal 60% 20,000 70,000 Land Bob 30% $0 $30,000 Services Ann P’s % int.. in P/S AB to P FMV Contribution Partner FACTS: Ann, Bob and Cal decide to pool their efforts and form a partnership. They make the following contributions to the partnership: Contribution of Encumbered Property—Example Chapter 19, Exhibit 17a
37 of 59 QUESTIONS: (a) Does this transfer of assets qualify for Code Sec. 721 treatment? (b) What is each partner’s gain or loss on contributions to the partnership? (c) What is the resulting basis of each partner in the P/S (“outside basis”)? (d) What is the P/S’s basis in the assets received (“inside basis”)? Chapter 19, Exhibit 17b Contribution of Encumbered Property—Example
38 of 59 SOLUTION Ann’s transfer of services falls outside the scope of Code Sec. 721. However, Bob and Cal’s transfers still qualify for Code Sec. 721 treatment, since they represent property contributions. Note that Bob and Cal get non-recognition treatment under Code Sec. 721, even though they do not have 80% control immediately after the exchange. As previously pointed out, the 80% control rule applies only to corporations. Chapter 19, Exhibit 17c Contribution of Encumbered Property—Example
39 of 59 Solution to Questions (A), (B), and (C): Partner (P): Realized G/L (FMV - AB) (A) Recog. Gain/Loss (B) Outside Basis of P (C) Inside Basis to P/S Ann (Service) 30,000 (30m - 0) 30,000 (since services income) 33,000 (30,000 + 3,000 share of debt) 30,000 (or $30,000 deduction) Bob (Land) 50,000 (70m - 20m) 0 (since no excess debt relief) 16,000 (20,000 – 10,000 + 6,000) 20,000 Cal (Equip.) (1,000) (10m - 11m) 0 (since Code Sec. 721 nonrecog applies.) 12,000 (11,000 + 1,000 share of debt) 11,000 Basis of the land to the P/S: $20,000. (Bob’s AB of $20m + $0 gain recognized by Bob) Chapter 19, Exhibit 17d Contribution of Encumbered Property—Example
40 of 59 Liabilities Assumed by Partnership Partner’s share of liabilities increases their outside basis in the partnership

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