ACC 570 Exam 3

Stone owns 100% of an S corporation and materially participates in its operations. The stock basis at the beginning of the year is $5,000. During the year, the corporation makes a distribution of $3,500 and passes through a loss from operations of $2,000 for the year. What loss can Stone deduct on Stone's personal tax return?

$1,500 A shareholder's pro rata share of passed-through losses in excess of basis in the S corporation is not deductible. After the distribution, Stone's adjusted basis is Stock basis at the beginning of the year $5,000 Less: Distribution (3,500) Adjusted basis $1,500 Therefore, Stone can deduct $1,500 of the passed-through loss on his tax return. The excess $500 ($2,000 - $1,500) is suspended and carried forward indefinitely. It is deductible when the shareholder's amount at risk has increased. ch22

Commerce Corp. elects S corporation status as of the beginning of 2020. At the time of Commerce's election, it held a machine with a basis of $20,000 and a fair market value of $30,000. In March of 2020, Commerce sells the machine for $35,000. What would be the amount subject to the built-in gains tax?

$10,000 This answer is correct.An S corporation that, upon conversion from C to S status, had net appreciation inherent in its assets is subject to a tax of 21% on net gain recognized (up to the amount of built-in gain on conversion) during the recognition period. The recognition period is the 5-year period beginning on the date the S election became effective. Commerce would be subject to built-in gains tax on $10,000 ($30,000 FMV at conversion - $20,000) of the recognized gain from the transaction in March. ch22

Jenny Corporation (an S corporation) is owned entirely by Craig. At the beginning of 2020, Craig's adjusted basis in his Jenny Corporation stock was $20,000. Jenny reported ordinary income of $5,000 and a capital loss of $10,000. Craig received a cash distribution of $35,000 in November 2020. What is Craig's gain from the distribution?

$10,000 This answer is correct.The basis is increased by the ordinary income to $25,000. The $35,000 distribution is taken next and, since it exceeds the basis, there is a $10,000 gain. The capital loss is nondeductible because there is no basis left after the deduction from the distribution for Craig and it is carried over. ch22

Ryan's adjusted basis in his Lux Partnership interest was $18,000 at the time Ryan received the following nonliquidating distributions of partnership property: Cash $10,000 Land Adjusted basis 14,000 Fair market value 20,000 What is Ryan's tax basis in the land received from the partnership?

$8,000 This answer is correct.The basis of property distributed to a partner is generally the property's adjusted basis to the partnership immediately before the distribution. However, it cannot exceed the adjusted basis of the partner's interest in the partnership less any money received in the same distribution. Basis of partnership interest $18,000 Less: Cash received (10,000) Basis in distributed property $ 8,000 ch21

On June 1, 2020, Kelly received a 10% interest in Rock Co., a partnership, for services contributed to the partnership. Rock's net assets at that date had a basis of $70,000 and a fair market value of $100,000. In Kelly's 2020 income tax return, what amount must Kelly include as income from transfer of partnership interest?

$10,000 ordinary income. An individual recognizes compensation as ordinary income when a partnership interest is received in exchange for services (current or past) rendered. The receipt of a capital interest in a partnership for services is included in the year of receipt. Income recognized is the $10,000 (10% × $100,000) FMV of the partnership interest received unless the interest is nontransferable or subject to a substantial risk of forfeiture. ch21

Maui Corporation (an S corporation) reported a $72,000 ordinary loss during 2020. At the beginning of 2020, Elvis and Frank equally owned all of Maui's stock. On July 1, 2020, Frank gave one-fourth of his stock to his son, George. What amount of the 2020 loss is allocated to George?

$4,525 This answer is correct.An S corporation shareholder includes his or her pro rata share of loss from the S corporation [Sec. 1366(a)]. Sec. 1377(a) defines pro rata share as the taxpayer's share of loss determined on a per-day and then a per-share basis. Therefore, the amount of loss allocated to George is $4,525 ($72,000 × 12.5% × 184 ÷ 366). ch22

Guaranteed payments made by a partnership to partners for services rendered to the partnership that are deductible business expenses under the Internal Revenue Code are I. Deductible expenses on the U.S. Partnership Return of Income, Form 1065, in order to arrive at partnership income (loss). II. Included on Schedule K-1 to be taxed as ordinary income to the partners.

Both I and II. Guaranteed payments are considered as ordinary and necessary business expenses, like salary expenses, so they are deductible by the partnership and reported on line 10 of Form 1065. The recipient partner also includes the full guaranteed payment, reported on line 4 of Schedule K-1, as ordinary income. ch21

Which of the following would not increase the basis of a shareholder's stock in an S corporation?

Capital gains tax paid by the shareholder. If the shareholder paid capital gains in disposing of the stock, this tax does not increase the basis of the shareholder's remaining stock. ch22

This year, Chuck and Nick formed the equally owned CN LLC. Chuck contributed $300,000 of cash and Nick contributed real estate valued at $450,000 (basis of $100,000). The property was subject to a nonrecourse liability of $150,000 that was assumed by CN. a. What are Chuck's and Nick's bases in their CN interests immediately after CN was formed? Chuck: $ Nick: $

Chuck: 350.000 Nick: 50,000 ch21

An S corporation may deduct

Compensation of officers. The taxable income of an S corporation is computed in the same manner as that of an individual, except as otherwise provided. Compensation of officers is treated as an ordinary and necessary business expense and results in a reduction of nonseparate income. ch22

Which of the following corporations may be subject to the built-in capital gains tax in the current year?

G-corp., established in 1985 as a C corporation, elected to be an S corporation on April 15, 2020. An S corporation that, upon conversion from C to S status after 1986, had net appreciation inherent in its assets is subject to tax of 21% on net gain recognized (up to the amount of built-in gain on conversion) during the recognition period. For conversions made after the 2010 tax year, the recognition period is the 5-year period beginning on the date the S election became effective. The tax liability is passed through, as a loss, pro rata to its shareholders. ch22

Bristol Corp. was formed as a C corporation on January 1, 1985, and elected S corporation status on January 1, 1991. At the time of the election, Bristol had accumulated C corporation earnings and profits that have not been distributed. Bristol has had the same 25 shareholders throughout its existence. In 2020, Bristol's S election will terminate if it

Has passive investment income exceeding 90% of gross receipts in each of the 3 consecutive years ending December 31, 2020. An S corporation's status will terminate if (1) it has C corporation earnings and profits at the close of 3 consecutive years, and (2) during those 3 years, over 25% of the gross receipts of the S corporation was due to passive investment income. First, the existence of the undistributed earnings and profits satisfies the first test. Second, with 90% passive investment income within the gross receipts, the termination is effective. ch22

Which of the following will prevent a corporation from qualifying as an S corporation?

Having a partnership as a shareholder. An S corporation may not have more than 100 shareholders; shareholders who are not individuals, estates, or certain kinds of trusts; a nonresident alien as a shareholder; or more than one class of stock [Sec. 1361(b)]. Having a partnership as a shareholder will prevent a corporation from making an S corporation election. ch22

Peterson has a one-third interest in the Spano Partnership. During 2020, Peterson received a $16,000 guaranteed payment, which was deductible by the partnership, for services rendered to Spano. Spano reported a 2020 operating loss of $70,000 before the guaranteed payment. What, if any, are the net effects of the guaranteed payment? I. The guaranteed payment increases Peterson's tax basis in Spano by $16,000. II. The guaranteed payment increases Peterson's ordinary income by $16,000.

II only. This answer is correct.For purposes of determining the partner's gross income, the guaranteed payment (GP) is treated as made to a nonpartner. The partner separately states the GP from any distributive share. The payment is ordinary income to the partner. ch21

Distributions from an S corporation to its shareholders are deemed to affect shareholders in the following order: I. Accumulated earnings and profits (E&P) II. Return of capital III. Accumulated adjustment account (AAA)

III, I, II. A distribution by an S corporation is treated as first coming from AAA. This portion of the distribution reduces shareholders' bases in their S corporation stock, but it is tax-free to the shareholders. Once AAA is exhausted, a distribution is next treated as coming from E&P. This portion of the distribution is a taxable dividend to the shareholders, yielding no effect on their basis. If the remaining distribution exceeds E&P, any excess is deemed a return of capital to the shareholders, reducing their bases. To the extent of the shareholders' bases, this portion of the distribution is tax-free. Remaining distributions that exceed shareholders' bases are taxable gains to the shareholders, with character determined by the character of the S corporation holdings in the shareholders' hands. An S corporation can make an election to use accumulated E&P before AAA. ch22

A shareholder's basis in the stock of an S corporation is increased by the shareholder's pro rata share of income from Tax-Exempt Interest Taxable Interest

Yes Yes Interest income received by an S corporation, whether taxable or nontaxable, increases the basis of an S corporation shareholder's stock. ch22

Ted and Jane form a cash-basis general partnership with cash contributions of $20,000 each. They share all partnership profits and losses equally. They borrow $60,000 and purchase depreciable business equipment. Jane, however, is required to pay the creditor if the partnership defaults. Which of the following is true?

Ted has a basis of $20,000 and Jane has a basis of $80,000 in the partnership. A partner receives a basis in a partnership equal to the basis of the property contributed to the partnership. An increase in a partner's share of liabilities is treated as a contribution of money by such partner, which increases the partner's basis. Jane's basis increases by $60,000, the amount of the liabilities, because she is the guarantor of the loan and her share of liabilities has increased. ch21

Which of the following events could cause an S corporation to cease to qualify as an S corporation?

The S corporation transfers its stock to a corporation or partnership. An S corporation is a small business corporation whose shareholders have made an election under Sec. 1362(a). S corporation status may be terminated by the action of a majority of the shareholders. It may also be terminated if the corporation ceases to meet the requirements of a small business corporation. One of those requirements is that the corporation have as shareholders only individuals, estates, and certain trusts. Therefore, transferring its stock to a corporation or partnership will cause an S corporation to cease to qualify as an S corporation. ch22

Consider each of the following independent situations, and answer the following questions. For each fact pattern, indicate: Whether the partner recognizes gain or loss. Whether the partnership recognizes gain or loss. The partner's adjusted basis for the property distributed, if applicable. The partner's outside basis in the partnership after the distribution. In each case, assume the partnership owns no hot assets. If an amount is zero, enter "0". (a) Kim receives $20,000 cash in partial liquidation of her interest in the partnership. Kim's outside basis for her partnership interest immediately before the distribution is $3,000. Does Kim recognize a gain or loss as a result of this distribution? Kim recognizes (a gain) of ________ Does the partnership recognize a gain or loss as a result of this distribution?The partnership recognizes (no gain or loss) of _________ Kim's outside basis for her partnership interest after the distribution is _________ (b) Kourtni receives $40,000 of cash and land with an inside basis to the partnership of $30,000 (fair market value of $50,000) in partial liquidation of her interest. Kourtni's outside basis for her partnership interest immediately before the distribution is $80,000. Does Kourtni recognize a gain or loss as a result of this distribution? Kourtni recognizes (no gain or loss) of ____________. Does the partnership recognize a gain or loss as a result of this distribution?The partnership recognizes (no gain or loss) of ________ Kourtni's basis in the land is _________ Her outside basis for her partnership interest is reduced to ________ (c) Kourtni receives $40,000 of cash and land with an inside basis to the partnership of $30,000 (fair market value of $50,000) in partial liquidation of her interest. Kourtni's outside basis for her partnership interest immediately before the distribution is $60,000. Does Kourtni recognize a gain or loss as a result of this distribution?Kourtni recognizes (no gain or loss) of __________. Does the partnership recognize a gain or loss as a result of this distribution?The partnership recognizes (no gain or loss) of ________ Kourtni's basis in the land received is _________ Her outside basis for her partnership interest after the distribution is ___________ (d) Klois receives $50,000 of cash and inventory (basis of $30,000, fair market value of $50,000) in partial liquidation of her partnership interest. Her basis was $90,000 before the distribution. Does Klois recognize a gain or loss as a result of this distribution?Klois recognizes (no gain or loss) of _________ Does the partnership recognize a gain or loss as a result of this distribution?The partnership recognizes (no gain or loss) of _________ Klois's basis in the inventory is ________ Her outside basis for her partnership interest after the distribution is __________

a gain; $17,000; no gain or loss; $0; $0; no gain or loss; $0; no gain or loss; $0; $30,000; $10,000; no gain or loss; $0; no gain or loss; $0; $20,000; $0; no gain or loss; $0; no gain or loss; $0; $30,000; $10,000. Click to view Concept Summary 21.4, Proportionate Current Distributions (General Rules). In general, neither the partner nor the partnership recognizes gain or loss when a proportionate current distribution occurs. The partner usually takes a carryover basis for the assets distributed. The distributee partner's outside basis is reduced (but not below zero) by the amount of cash and the adjusted basis of property distributed to the partner by the partnership. However, a partner recognizes gain from a current distribution to the extent that the cash received exceeds the outside basis of the partner's interest in the partnership. The reduction of a partner's share of partnership debt is treated as a distribution of cash from the partnership to the partner. A reduction of a partner's share of partnership debt, then, first reduces the partner's basis in the partnership. Any reduction of a share of debt in excess of a partner's basis in the partnership is taxable to the partner as a gain. The distributee partner cannot recognize a loss on a proportionate current distribution. This loss is deferred because tax law typically does not permit losses to be recognized until the loss is certain to occur and the amount is known. After the current distribution, the partner still owns the partnership interest, which has an indeterminate future value. In general, a distributee partner does not recognize gain from a property distribution, whether the distribution is current or liquidating. If the partnership's basis in the property is greater than the partner's basis in the partnership interest, the distributed asset takes the lower substituted basis. This ensures that the partner does not receive asset basis that is not "paid for." When multiple properties are distributed, the assets are deemed distributed in the following order. Cash is distributed first. Unrealized receivables and inventory are distributed second. All other assets are distributed last. Each category of assets (cash and then land) is assigned a basis equal to the lesser of the partnership's basis in the asset or the partner's remaining outside basis in the partnership interest. (a) Kim recognizes a $17,000 gain on the distribution ($20,000 cash received - $3,000 basis). The partnership does not recognize any gain or loss on the transaction. Kim's outside basis for her partnership interest is reduced to $0 ($3,000 - $20,000, but not below zero ). The partnership recognizes no gain or loss on the transaction. (b) The $40,000 cash is deemed distributed first and reduces Kourtni's outside basis to $40,000. Because the cash distribution does not exceed Kourtni's basis, she does not recognize any gain or loss. The land takes a $30,000 carryover basis to Kourtni, and her outside basis for her partnership interest is reduced to $10,000. The partnership recognizes no gain or loss on the transaction. (c) The $40,000 cash is deemed distributed first and reduces Kourtni's outside basis to $20,000. Kourtni recognizes no gain or loss on the cash distribution. The land takes a substituted basis of $20,000, and her outside basis for the partnership interest is reduced to $0 ($60,000 - $40,000 - $20,000). The partnership recognizes no gain or loss on the transaction. (d) The cash is deemed distributed first and reduces Klois's basis to $40,000 ($90,000 - $50,000). The inventory is distributed next. The inventory takes a carryover basis of $30,000. Klois assigns a basis of $80,000 to the assets received, and her remaining basis in the partnership interest is $10,000 ($90,000 - $50,000- $30,000). Because this is a current distribution, Klois cannot claim a loss. The partnership recognizes no gain or loss on the distribution. ch21

Bow, Inc., an S corporation, has three equal shareholders. For the year ended December 31, 2020, Bow had taxable income of $300,000. Bow made cash distributions totaling $120,000 during 2020. For 2020, what amount from Bow should be included in each shareholder's gross income?

$100,000 This answer is correct.Each shareholder includes in his or her personal gross income his or her share of ordinary income and separately stated items of the S corporation on a per-day and per-share basis. Each shareholder's share is 1/3 of $300,000. Shareholder inclusion will be $100,000 each. Excess distributions are treated as tax-free return of capital. ch22

Dunn and Shaw are partners who share profits and losses equally. In the computation of the partnership's 2020 book income of $100,000, guaranteed payments to partners totaling $60,000 and charitable contributions totaling $1,000 were treated as expenses. What amount should be reported as ordinary income on the partnership's 2020 return?

$101,000 This answer is correct.A partnership's ordinary income is the balance of the taxable income of a partnership that is not required to be separately stated. Deductible guaranteed payments are not separately stated. Charitable contributions are separately stated. Book income $100,000 Plus charitable contributions 1,000 Partnership ordinary income $101,000 ch21

Gil's outside basis in his interest in the GO Partnership is $100,000. In a proportionate current distribution, the partnership distributes to him cash of $30,000, inventory (fair market value of $40,000, basis to the partnership of $20,000), and land (fair market value of $90,000, basis to the partnership of $40,000). How much gain does GO Partnership recognize as a result of the distribution? How much gain does Gil recognize as a result of the distribution? Gil's basis in the land is _________ Gil's outside basis after the distribution is ________

0 0 40,000 10,000 ch21

Which of the following conditions will prevent a corporation from qualifying as an S corporation?

The corporation has both common and preferred stock. An S corporation may have only one class of stock. ch22

Lane, Inc., an S corporation, pays single coverage health insurance premiums of $4,800 per year and family coverage premiums of $7,200 per year. Mill is a 10% shareholder-employee in Lane. On Mill's behalf, Lane pays Mill's family coverage under the health insurance plan. What amount of insurance premiums is includible in Mill's gross income?

$7,200 Certain fringe benefits received by shareholders owning more than 2% of the stock of an S corporation are included in the shareholder's W-2. Health insurance premiums are not a tax-free benefit to shareholders holding more than 2%. ch22

Strom acquired a 25% interest in Ace Partnership by contributing land having an adjusted basis of $16,000 and a fair market value of $50,000. The land was subject to a $24,000 recourse mortgage, which was assumed by Ace. No other liabilities existed at the time of the contribution. What was Strom's basis in Ace?

$0 A partner's basis in a partnership equals the adjusted basis of the property contributed plus the partner's share of all partnership liabilities minus any liability of the partner assumed by the partnership. A liability assumed by the partnership is treated as a distribution to the partner. The basis of this partnership interest is the basis of the contributed land ($16,000) reduced by the liability assumed by the partnership ($24,000) and increased by the partner's share of recourse partnership liabilities ($6,000 = $24,000 × 0.25) and recognized gain on contributed property ($2,000). Thus, the basis will be $0 CH21

In 2020, Meghann Carlson, a single taxpayer, has QBI of $110,000 and modified taxable income of $78,000 (this is also her taxable income before the QBI deduction). Given this information, what is Meghann's QBI deduction? Meghann's QBI deduction is ___________

$15,600. At its most basic level, § 199A permits an individual to deduct 20 percent of the qualified business income generated through a sole proprietorship, a partnership, or an S corporation. Qualified business income (QBI) is defined as the ordinary income less ordinary deductions a taxpayer earns from a "qualified trade or business" conducted in the United States by the taxpayer (e.g., from a sole proprietorship). It also includes the distributive share of these amounts from each partnership or S corporation interest held by the taxpayer. In determining QBI, all deductions attributable to a trade or business are taken into account. As a result, a taxpayer must reduce QBI by the self-employment tax deduction [§ 164(f)], the self-employed health insurance deduction [§ 162(l)], and any deduction for contributions to qualified retirement plans [§ 404]. Qualified business income does not include certain types of investment income, such as: - Capital gains or capital losses; - Dividends; - Interest income (unless "properly allocable" to a trade or business, such as lending); or - Certain other investment items. In general, the deduction for qualified business income is the lesser of: 1) 20% of qualified business income, or 2) 20% of modified taxable income. Effectively, the QBI deduction—a from AGI deduction—is the last deduction taken in determining taxable income. Further, the deduction is available whether a taxpayer uses the standard deduction or itemizes deductions. There are three limitations on the QBI deduction: an overall limitation (based on modified taxable income), another that applies to high-income taxpayers, and a third that applies to certain types of services businesses. The second and third limitations only apply when taxable income before the QBI deduction exceeds $326,600 (married taxpayers filing a joint return) or $163,300 (all other taxpayers). Since Meghann's taxable income before the QBI deduction is less than the threshold amount for single taxpayers ($163,300), her QBI deduction is $15,600, the lesser of: The lesser of: 1) 20% of qualified business income ($110,000 × 20%), $22,000 or, 2) 20% of modified taxable income ($78,000 × 20%) $15,600 ch21

XYZ Corporation (an S corporation) had the following items of income and deductions for 2020. Charles and Diane are equal shareholders in the corporation. They each had an adjusted stock basis of $30,000 on January 1, 2020. Gross receipts from sales $100,000 Cost of goods sold 50,000 Depreciation 10,000 Charitable contributions 10,000 Interest income 5,000 Tax-exempt interest 3,000 Other operating costs 63,000 Diane received a distribution of $15,000 on June 1, 2020. Her basis on January 1, 2021, is

$2,500 A shareholder's stock basis is affected by the operations of the corporation. All of the items will affect Diane's stock basis, which will be $2,500 in January 2021. Only half of the items are allocated to Diane, except for the distribution. Adjusted stock basis, 1/1/20 $ 30,000 Gross receipts 50,000 Cost of goods sold (25,000) Depreciation (5,000) Charitable contributions (5,000) Interest income 2,500 Tax-exempt interest 1,500 Operating costs (31,500) Distribution (15,000) Adjusted stock basis, 1/1/21 $ 2,500 ch22

Invest, Inc., is an S corporation that is liable for the special tax on its excess net passive income (ENPI) for the current tax year. Invest, Inc., has $100,000 of ENPI for the current tax year. What is the amount of the tax?

$21,000 This answer is correct.The tax on the excess net passive income (ENPI) of an S corporation is the ENPI times the highest corporate tax rate (21%). Thus, the tax is $21,000 ($100,000 × 21%). ch22

James Elton received a 25% capital interest in Bredbo Associates, a partnership, in return for services rendered, plus a contribution of assets with a basis to Elton of $25,000 and a fair market value of $40,000. The fair market value of Elton's 25% interest was $50,000. How much is Elton's basis for his interest in Bredbo?

$35,000 A partner's basis in a partnership is his or her adjusted basis in the property contributed, plus income recognized by the partner for receiving the interest in exchange for services. The value of a partnership interest received as compensation for services is income to the partner (FMV of the interest received). The fair market value of Elton's services is $10,000 ($50,000 FMV of the interest - $40,000 FMV of assets contributed). Adjusted basis of assets contributed $25,000 Income recognized for services rendered 10,000 Elton's partnership basis $35,000 ch21

Freeman, a single individual, reported the following income in the current year: Guaranteed payment from services rendered to a partnership $50,000 Ordinary income from an S corporation 20,000 What amount of Freeman's income is subject to self-employment tax?

$50,000 This answer is correct.Amounts received as guaranteed payments from services rendered to a partnership are subject to self-employment tax [Reg. Sec. 1.707-1(c)]. The amount is deemed to be similar to a salary to the partner. Ordinary income from an S corporation is simply considered a distribution that passes through to the shareholders and is therefore not subject to the self-employment tax. Therefore, Freeman's income subject to self-employment tax is $50,000. ch21

Bill and Ken own Tax, Inc., (an S corporation) equally. In 2020, the corporation reported a $130,000 ordinary loss. Tax's liabilities at the end of 2020 included $100,000 of accounts payable, $150,000 of mortgage payable, and a $20,000 note owed to Bill. Each owner had a $40,000 adjusted basis for his stock on January 1, 2020. Compute the loss reportable by Bill.

$60,000 This answer is correct.Generally, if a shareholder purchases stock, the shareholder's original basis in the stock is its cost. If a shareholder receives stock in exchange for property, the basis is the same as the property's basis. If a shareholder lends money to the S corporation, the basis is usually the amount of the loan. If a shareholder guarantees a third-party loan to an S corporation, the loan does not increase the shareholder's basis. If, however, the shareholder makes payments on the loan, the payments increase the shareholder's basis. The amount of losses and deductions an S corporation shareholder can claim is limited to the adjusted basis of the shareholder's stock. Since Bill lent $20,000 to Tax, Inc., he must increase his basis by the amount of the loan. Therefore, Bill's stock and debt basis is $60,000, and the amount of losses and deductions an S corporation shareholder can claim is limited to the adjusted basis of the shareholder's stock and debt. ch22

Which of the following statements about the termination or revocation of an election to be taxed as an S corporation is true?

Having passive investment income of more than 25% of gross receipts in its initial year will not result in the termination of a corporation's status as an S corporation. An S corporation election may be revoked by shareholders holding more than one-half of the shares of stock. It may also be terminated if the corporation ceases to be a small business corporation as defined by Sec. 1361(b)(1) or if the corporation's passive investment income exceeds 25% of gross receipts for 3 consecutive taxable years (and the corporation has Subchapter C earnings and profits at the end of each year). Having passive investment income of more than 25% of gross receipts in its initial year will not result in the termination of a corporation's status as an S corporation because of the requirements that the passive investment income exceed 25% of gross receipts for 3 consecutive years and that the corporation have Subchapter C earnings and profits. ch22

All of the following factors serve to determine whether an S corporation may be subject to the tax on excess net passive income except

More than 50% of loans payable are not at-risk. Under Sec. 1375, the excess net passive income tax applies when the S corporation was previously a C corporation, has accumulated earnings and profits (also known as Subchapter C earnings and profits), and has gross receipts of which more than 25% is passive investment income. ch22

he books and records of F, a calendar-year S corporation since 1987, reflect the following information for 2020: Accumulated adjustments account - 1/1/20 $ 30,000 Accumulated earnings and profits - 1/1/20 75,000 Ordinary income for 2020 102,000 F has only one shareholder, T, whose basis in F's stock was $50,000 on January 1, 2020. During 2020, F distributed $150,000 to T. What is the amount of this distribution that should be treated as a capital gain by T?

$0 Distributions by S corporations with accumulated earnings and profits are governed by Sec. 1368(c). The portion of the distribution that does not exceed the accumulated adjustments account balance reduces the shareholder's basis. The remaining distribution is treated as a dividend to the extent of accumulated earnings and profits. Any remaining distribution is treated as a recovery of the shareholder's remaining basis in the S corporation stock, and a capital gain to the extent it exceeds such basis. At the end of 2020, F's accumulated adjustments account will be $132,000 ($30,000 + $102,000) because of F's 2020 income. T's basis in the stock will be $152,000 ($50,000 beginning basis and $102,000 ordinary income from 2020). The first $132,000 of the distribution is from the accumulated adjustments account and will reduce T's stock basis to $20,000. The remaining $18,000 of distribution will come from the $75,000 in the accumulated earnings and profits account. It will be treated as a dividend and will not reduce the stock basis. Since T still has a $20,000 basis for his stock, no capital gain results. ch22

The adjusted basis of Jody's partnership interest was $50,000 immediately before Jody received a current distribution of $20,000 cash and property with an adjusted basis to the partnership of $40,000 and a fair market value of $35,000. What amount of taxable gain must Jody report as a result of this distribution?

$0 Gain is recognized by a partner on a distribution only to the extent that money distributed exceeds the partner's adjusted basis in the partnership interest immediately before the distribution. Gain would be capital. Since Jody's $50,000 adjusted basis in his partnership interest exceeds the $20,000 cash distributed, Jody recognizes no gain. ch21

Mike received a $10,000 guaranteed payment as a partner in XYZ Partnership on June 30, 2020. XYZ Partnership is on a fiscal year ending March 31. How much of the payment, if any, should Mike include on his individual income tax return for the tax year ended December 31, 2020?

$0 This answer is correct.Guaranteed payments are payments to a partner for services or for the use of capital that are determined without regard to the income of the partnership. Guaranteed payments are included as income in the recipient's tax year, which includes the end of the partnership tax year in which they were deducted. Therefore, the $10,000 guaranteed payment paid on June 30, 2020, is deductible on the March 31, 2021, partnership tax return and must be included on Mike's 2021 tax return. ch21

In the current year, Dave Burr acquired a 20% interest in a partnership by contributing a parcel of land. At the time of Burr's contribution, the land had a fair market value of $35,000, had an adjusted basis to Burr of $8,000, and was subject to a mortgage of $12,000. Payment of the mortgage was assumed by the partnership. Burr's basis for his interest in the partnership is

$0 This answer is correct.The basis of an interest in a partnership acquired by the contribution of property is the adjusted basis of such property to the contributing partner. A decrease in a partner's individual liabilities by reason of the assumption by the partnership of such liabilities is treated as a distribution of money to the partner, which in turn reduces the basis of the partner's interest (but not below zero). When Burr became a 20% partner, he was relieved of 80% of his $12,000 mortgage, or $9,600. Burr's basis in his partnership interest is the $8,000 basis in the property contributed less the $9,600 liability relief (limited to zero). Burr will recognize a gain of $1,600. ch21

While preparing a partnership tax return, the accountant discovered that ABC Partnership distributed property to Anne, a partner, in a nonliquidating transfer. No money was distributed to Anne during the year, the property was in the partnership for over 5 years, and no debt was attached to the property. Anne had a basis in her partnership interest of $10,000. The partnership had an adjusted basis of $20,000 in the property distributed to Anne. Which of the following are the tax consequences to Anne?

$0 gain, basis in the partnership is reduced to $0, and basis in the property received is $10,000. The distributee partner generally recognizes gain only to the extent that money received exceeds his or her adjusted basis in his or her interest. Since Anne did not receive any money in the distribution, she does not recognize any gain. The partner's basis in the distributed property is the partnership's adjusted basis in the property immediately before distribution, but it is limited to the distributee's adjusted basis in his or her partnership interest minus any money received in the distribution. Since Anne's adjusted basis in the partnership is $10,000, her basis in the property received is $10,000. Finally, the partner's basis in his or her ownership interest in the partnership is reduced by the adjusted basis of property received. Therefore, Anne's adjusted basis in the partnership is reduced to $0. ch21

Baker is a partner in BDT with a partnership basis of $60,000. BDT made a liquidating distribution of land with an adjusted basis of $75,000 and a fair market value of $40,000 to Baker. What amount of gain or loss should Baker report?

$0. This answer is correct.A partner recognizes gain only to the extent a money distribution exceeds the AB in the partnership interest immediately before the distribution. In the case of capital property distributions, there is no gain or loss; instead, the partner's basis in the property is adjusted for any variance between the partner's partnership basis and the partnership's AB in the property distributed. Therefore, Baker has a $0 gain (loss). ch21

The CSU partnership distributed to each partner cash of $4,000, inventory with a basis of $4,000 and a fair market value (FMV) of $6,000, and land with an adjusted basis of $5,000 and a FMV of $3,000 in a liquidating distribution. Partner Chang had an outside basis in Chang's partnership interest of $12,000. In the second year after receiving the liquidating distribution, Chang sold the inventory for $5,000 and the land for $3,000. What income must Chang report upon the sale of these assets?

$1,000 ordinary gain and $1,000 capital loss. .Chang begins with $12,000 of AB. Cash is distributed first and Chang's AB is reduced to $8,000. Next, the $4,000 of inventory reduces Chang's overall AB to $4,000. Since there is only $4,000 AB remaining, Chang is only able to take a $4,000 basis in the land. He cannot go negative in basis for a non-cash distribution. The sale of the inventory was completed within 5 years of the distribution; therefore, the $1,000 gain ($5,000 sale price - $4,000 AB) is an ordinary gain (not capital gain). The sale of the land results in a $1,000 capital loss ($3,000 sale price - $4,000 AB). ch21

On December 31, 2019, Mr. Hyde purchased 50% of S corporation Z's only class of stock outstanding for $150,000. On November 30, 2020, he purchased the other 50% of Z's stock for $150,000. For 2020, Z incurred an ordinary loss of $237,250. How much of the loss can Mr. Hyde deduct on his personal income tax return for 2020?

$128,700 This answer is correct.An S corporation shareholder includes his or her pro rata share of loss from the S corporation [Sec. 1366(a)]. Sec. 1377(a) defines pro rata share as the taxpayer's share of loss determined on a per-day and then a per-share basis. The loss for the whole year was $237,250, which is $650 per day ($237,250 ÷ 365 days). Therefore, Mr. Hyde's share is $128,700 [$118,625 + (31 days × $650 × 50%)] because he owned 50% of the stock for the full year and the other 50% for 31 days. ch22

In return for a 20% partnership interest, Skinner contributed $5,000 cash and land with a $12,000 basis and a $20,000 fair market value to the partnership. The land was subject to a $10,000 mortgage that the partnership assumed. In addition, the partnership had $20,000 in recourse liabilities that would be shared by partners according to their partnership interests. What amount represents Skinner's basis in the partnership interest?

$13,000 A partner's basis in a partnership equals the cash contributed plus the adjusted basis of the property contributed plus the partner's share of all partnership liabilities minus any liability of the partner assumed by the partnership. A liability assumed by the partnership is treated as a distribution to the partner. The basis of this partnership interest is cash ($5,000) plus the basis of the contributed land ($12,000) reduced by the liability assumed by the partnership ($10,000) and increased by the partner's share of partnership liabilities [($10,000 mortgage + $20,000 recourse liabilities) × 20% = $6,000]. Thus, the basis will be $13,000. ch21

White has a one-third interest in the profits and losses of Rapid Partnership. Rapid's ordinary income for the 2020 calendar year is $30,000, after a $3,000 deduction for a guaranteed payment made to White for services rendered. None of the $30,000 ordinary income was distributed to the partners. What is the total amount that White must include from Rapid as taxable income in his 2020 tax return?

$13,000 This answer is correct.Initially, White will include $3,000 as ordinary income. Further, since partnership items flow through to the partner, White receives one-third of the gross income, or $11,000 ($30,000 + $3,000 = $33,000 ÷ 3) and one-third of the deductions, or $1,000 ($3,000 ÷ 3). Therefore, the amount White must include as taxable income from Rapid is $13,000 ($3,000 + $11,000 - $1,000). ch21

Gulde's tax basis in Chyme Partnership was $26,000 at the time Gulde received a liquidating distribution of $12,000 cash and land with an adjusted basis to Chyme of $10,000 and a fair market value of $30,000. Chyme did not have unrealized receivables, appreciated inventory, or properties that had been contributed by its partners. What was the amount of Gulde's basis in the land?

$14,000 The distributee's basis in (noncash) property received in a liquidating distribution is any excess of his or her AB in the partnership interest immediately before distribution over any amount of money received. Therefore, Gulde's basis in the land is $14,000 ($26,000 basis - $12,000 cash received in distribution). ch21

Bill and Ted form a partnership with cash contributions of $40,000 each. Bill is a limited partner. Under the partnership agreement, Bill and Ted share all partnership profits and losses equally. The partnership borrows $100,000 from a local bank to purchase depreciable equipment to be used in the partnership's business. Ted is required under the partnership agreement to pay the creditor if the partnership defaults. Based upon these facts, what are Bill's and Ted's bases in the partnership? Ted Bill

$140,000 $40,000 This answer is correct.An increase in a partner's share of liabilities is treated as a contribution of money by such partner, which increases the partner's basis. Partners share recourse liabilities based on their ratio for sharing economic losses [Reg. 1.752-2(a)]. In the absence of guarantees and special arrangements, the limited partner's economic loss is usually limited to the amount of additional contributions the partner must make. Ted's basis in the partnership includes the full $100,000 liability because he would be liable for the $100,000 under the partnership agreement. ch21

Jen and Berry were the only shareholders of Water Ice, Inc., an S corporation. On January 1, 2020, Jen owned 40 shares and Berry owned 60 shares. Jen sold her shares to Joe for $10,000 on March 31, 2020. The corporation reported a $50,000 loss at the end of 2020. How much of the loss is allocated to Joe?

$15,027 This answer is correct.An S corporation shareholder includes his or her pro rata share of loss from the S corporation [Sec. 1366(a)]. Sec. 1377(a) defines pro rata share as the taxpayer's share of loss determined on a per-day and then a per-share basis. Since Joe bought Jen's shares on March 31, 2020, his per-day basis is 275. The loss must be allocated based on the number of days Joe was a shareholder ($50,000 × 40% × 275 ÷ 366 = $15,027). In addition to the required amount allocated, a shareholder's loss is limited to his or her adjusted basis in the stock of the corporation plus his or her adjusted basis in any indebtedness of the corporation owed to the shareholder. Since the corporation owes Joe no debts, his loss is limited to his basis in the stock. ch22

On January 1, 2020, Terry purchased 50% of Halt, an S corporation, for $150,000. At the end of 2020, Halt incurred an ordinary loss of $320,000. How much of the loss can Terry deduct on his personal income tax return for 2020?

$150,000 This answer is correct.The amount of losses and deductions an S corporation shareholder can claim is limited to the adjusted basis of the shareholder's stock. Thus, for 2020, Terry can deduct only $150,000 of the loss. The remaining $10,000 of loss allocated to Terry may be carried over to 2021. ch22

Charlotte is a partner in, and sales manager for, CD Partners, a domestic business that is not a "specified services" business. During the tax year, she receives guaranteed payments of $250,000 from CD Partners for her services to the partnership as its sales manager. In addition, her distributive share of CD Partners' ordinary income (its only item of income or loss) was $175,000. What is Charlotte's qualified business income?

$175,000. At its most basic level, § 199A permits an individual to deduct 20 percent of the qualified business income generated through a sole proprietorship, a partnership, or an S corporation. Qualified business income (QBI) is defined as the ordinary income less ordinary deductions a taxpayer earns from a "qualified trade or business" conducted in the United States by the taxpayer (e.g., from a sole proprietorship). It also includes the distributive share of these amounts from each partnership or S corporation interest held by the taxpayer. In determining QBI, all deductions attributable to a trade or business are taken into account. As a result, a taxpayer must reduce QBI by the self-employment tax deduction [§ 164(f)], the self-employed health insurance deduction [§ 162(l)], and any deduction for contributions to qualified retirement plans [§ 404]. Qualified business income does not include certain types of investment income, such as: -Capital gains or capital losses; -Dividends; -Interest income (unless "properly allocable" to a trade or business, such as lending); or -Certain other investment items. Nor does qualified business income include: -The "reasonable compensation" paid to the taxpayer with respect to any qualified trade or business; or -Guaranteed payments made to a partner for services rendered. Accordingly, Charlotte's qualified business income from CD Partners is $175,000. Her guaranteed payments do not qualify as QBI. ch21

In return for a 20% partnership interest, Kathy contributed land having a $60,000 fair market value and a $30,000 basis to the partnership. The partnership assumes Kathy's $15,000 liability arising from her purchase of the land. The partnership's liabilities arising from its purchases of assets is $4,000 immediately prior to the contribution. What is Kathy's basis in her partnership interest?

$18,800 This answer is correct.The basis of a partnership interest acquired by the contribution of property is the adjusted basis of the property to the contributing partner. The assumption by a partnership of a partner's individual liabilities is treated as a distribution of money to the partner, which reduces the basis of the partner's interest. Moreover, the basis of a partner's interest in a partnership is increased by his or her percentage of ownership of the partnership's liabilities. Kathy's basis in her partnership interest will be the $30,000 basis of the land to the partnership, decreased by the $12,000 (80% × $15,000) liability assumed by the partnership, and increased by her $800 ($4,000 × 20%) share of partnership liabilities. Therefore, Kathy's basis is $18,800 ($30,000 - $12,000 + $800). ch21

Partners Ann, Bob, and Carol of ABC, a calendar-year partnership, share partnership profits and losses in a ratio of 5:3:2, respectively. All three materially participate in the partnership business. Each partner's adjusted basis in the partnership as of December 31, 2020, was as follows: Ann $19,000 Bob 22,000 Carol 9,000 The partnership incurred an operating loss of $50,000 in 2020. What are Ann's, Bob's, and Carol's shares of the loss deductible on their 2020 individual income tax returns? Ann Bob Carol

$19,000 $15,000 $9,000 In determining his or her income tax, a partner must separately consider his or her distributive share of the partnership's income, gain, loss, deduction, or credit. A partner's distributive share of partnership loss is allowed only to the extent of the adjusted basis of such partner's interest in the partnership. Thus, Ann may recognize loss only up to her basis of $19,000, Bob can recognize his entire share ($15,000) of the loss, and Carol can recognize the loss up to her basis of $9,000. ch21

Bern Corp., an S corporation, had an ordinary loss of $36,600 for the year ended December 31, 2020. On January 1, 2020, Meyer owned 50% of Bern's stock. Meyer held the stock for 40 days in 2020 before selling the entire 50% interest to an unrelated third party. Meyer's basis for the stock was $10,000. Meyer was a full-time employee of Bern until the stock was sold. Meyer's share of Bern's 2020 loss was

$2,000 .The amount of each S corporation item, which each shareholder takes into account, is computed on a per-day and per-share basis. The portion of the loss passed through to Meyer is $36,600 × 50% ×(40/366)= $2,000 ch22

At December 31, 2019, Burns and Cooper were equal partners in a partnership with net assets having a tax basis and fair market value of $100,000. On January 1, 2020, Todd contributed securities with a fair market value of $50,000 (purchased in 2018 at a cost of $35,000) to become an equal partner in the new firm of Burns, Cooper, and Todd. The securities were sold on December 15, 2020, for $65,000. How much of the partnership's capital gain from the sale of these securities should be allocated to Todd?

$20,000 A special allocation for the difference between fair market value at the time of contribution and basis of contributed property is required. The gain attributable to the precontribution appreciation in the securities must be allocated entirely to Todd, and the gain attributable to postcontribution appreciation should be shared equally by Burns, Cooper, and Todd. Todd's share is Precontribution gain($50,000 FMV - $35,000 basis) $15,000 Plus 1/3 of postcontribution gain($65,000 proceeds - $50,000 1/1/19 FMV) 5,000 Todd's share of the capital gain $20,000 ch21

Gray is a 50% partner in Fabco Partnership. Gray's tax basis in Fabco on January 1, 2020, was $5,000. Fabco made no distributions to the partners during 2020 and recorded the following: Ordinary income $20,000 Tax-exempt income 8,000 Portfolio income 4,000 What is Gray's tax basis in Fabco on December 31, 2020?

$21,000 This answer is correct.The partner's initial basis in the partnership interest is adjusted upward or downward for the partner's distributive share of partnership taxable income (loss) and for separately stated taxable and nontaxable items. Thus, Gray must increase the $5,000 basis by 50% of each of the $20,000 of ordinary income, the $8,000 of tax-exempt income, and the $4,000 of portfolio income. ch21

Rich Corporation, an S corporation since its organization, is owned entirely by Mr. Rich. The corporation uses a calendar year as its taxable year. Mr. Rich paid $200,000 for his Rich stock when the corporation was formed on January 1, 2020. For 2020, Rich Corporation reported the following results: Ordinary income $40,000 Tax-exempt bond interest income 6,000 Short-term capital loss (3,000) No distributions were made during 2020. What is the basis of Mr. Rich's stock on December 31, 2020?

$243,000 This answer is correct.The adjusted basis of the shareholder's stock is figured at year end with increases for the shareholder's pro rata share of all income items, including tax-exempt income, that are separately stated and any nonseparately stated income. Also, all separately and nonseparately stated losses and deduction items decrease the basis of the shareholder's stock on a pro rata basis. Mr. Rich's stock basis on December 31, 2020, is $243,000 ($200,000 beginning basis + $40,000 ordinary income + $6,000 tax-exempt bond interest income - $3,000 short-term capital loss). ch22

Dean is a 25% partner in Target Partnership. Dean's tax basis in Target on January 1, Year 1, was $20,000. At the end of Year 1, Dean received a nonliquidating cash distribution of $8,000 from Target. Target's Year 1 accounts recorded the following items: Municipal bond interest income $12,000 Ordinary income 40,000 What was Dean's tax basis in Target on December 31, Year 1?

$25,000 This answer is correct.The beginning basis of a partner's interest in a partnership is increased by the partner's share of income and decreased by any distributions received by the partner. The partner has a $13,000 increase in basis for the 25% share of total partnership income ($52,000 × 0.25) and an $8,000 decrease in basis for the cash distribution. The partner's year-end basis in the partnership is $25,000 ($20,000 + $13,000 - $8,000). ch21

On January 2, 2020, Arch and Bean contribute cash equally to form the JK Partnership. Arch and Bean share profits and losses in a ratio of 75% to 25%, respectively. For 2020, the partnership's ordinary income was $40,000. A distribution of $5,000 was made to Arch during 2020. What is Arch's share of taxable income for 2020?

$30,000 Arch's 75% share of the partnership's $40,000 ordinary income, or $30,000, is Arch's share of taxable income for 2020 even if not distributed. Distributions are received free of tax by the partner, provided (s)he has adequate basis in the partnership, i.e., at least as much basis as the distribution. A partner's basis is increased by his or her share of partnership income and decreased by distributions ch21

Anderson's basis in the SBF Partnership is $80,000. Anderson received a nonliquidating distribution of $50,000 cash, and land with an adjusted basis of $40,000 and a fair market value of $50,000. What is Anderson's basis in the land?

$30,000 This answer is correct.A partner's basis in the distributed property is the partnership's adjusted basis in the property immediately before the distribution. However, this amount is limited to the distributee's adjusted basis in his or her partnership interest minus any money received in the distribution. Although the adjusted basis of the land distributed is $40,000 in the hands of the partnership, Anderson's basis in the land is $30,000 ($80,000 interest in partnership - $50,000 cash distributed). ch21

The adjusted basis of Jody's partnership interest was $50,000 immediately before Jody received a current distribution of $20,000 cash and property with an adjusted basis to the partnership of $40,000 and a fair market value of $35,000. What is Jody's basis in the distributed property?

$30,000 This answer is correct.The basis of property distributed to a partner (not in liquidation of his or her interest) is the property's AB to the partnership immediately before the distribution. It cannot exceed the AB of the partner's interest in the partnership less any money received in the same distribution. Basis of partnership interest $50,000 Less: Cash received (20,000) Basis in distributed property $30,000 ch21

Fern received $30,000 in cash and an automobile with an adjusted basis and market value of $20,000 in a proportionate liquidating distribution from EF Partnership. Fern's basis in the partnership interest was $60,000 before the distribution. What is Fern's basis in the automobile received in the liquidation?

$30,000 This answer is correct.The distributee's basis in (noncash) property received in a distribution in liquidation is any excess of his or her AB in the partnership interest immediately before distribution over any amount of money received. Therefore, Fern's basis in the automobile is $30,000 ($60,000 basis - $30,000 cash received in distribution). ch21

Rap, Inc., was organized in January 2020 and immediately made an S election. Rap, Inc.'s stock is entirely owned by Howard, who contributed $40,000 to start the business. Rap reported the following results for the 2020 year: Ordinary income $36,000 Short-term capital loss 4,000 Charitable contributions 1,000 Tax-exempt income 1,000 Sec. 179 deduction 10,000 On April 12, 2020, Howard received a $30,000 cash distribution from the corporation. What is the adjusted basis of his stock on January 1, 2021?

$32,000 The adjusted basis of the shareholder's stock is figured at year end with increases for the shareholder's pro rata share of all income items, including tax-exempt income, that are separately stated and any nonseparately stated income. Also, all separately and nonseparately stated losses and deduction items decrease the basis of the shareholder's stock on a pro rata basis. Howard's stock basis on January 1, 2021, is $32,000. Original basis $40,000 Ordinary income 36,000 Tax-exempt income 1,000 Short-term capital loss (4,000) Charitable contributions (1,000) Sec. 179 deduction (10,000) Cash distribution (30,000) Adjusted basis $32,000 ch22

Rap, Inc., was organized in January 2020 and immediately made an S election. Rap, Inc.'s stock is entirely owned by Howard, who contributed $40,000 to start the business. Rap reported the following results for the 2020 year: Ordinary income $36,000 Short-term capital loss 4,000 Charitable contributions 1,000 Tax-exempt income 1,000 Sec. 179 deduction 10,000 On April 12, 2020, Howard received a $30,000 cash distribution from the corporation. What is the adjusted basis of his stock on January 1, 2021?

$32,000 The adjusted basis of the shareholder's stock is figured at year end with increases for the shareholder's pro rata share of all income items, including tax-exempt income, that are separately stated and any nonseparately stated income. Also, all separately and nonseparately stated losses and deduction items decrease the basis of the shareholder's stock on a pro rata basis. Howard's stock basis on January 1, 2021, is $32,000. Original basis $40,000 Ordinary income 36,000 Tax-exempt income 1,000 Short-term capital loss (4,000) Charitable contributions (1,000) Sec. 179 deduction (10,000) Cash distribution (30,000) Adjusted basis $32,000 ch22

Gilroy, a calendar-year taxpayer, is a long-time partner in the firm of Adam and Company, which has a fiscal year ending June 30. The partnership agreement provides for Gilroy to receive 25% of the ordinary business income of the partnership. Gilroy also receives a guaranteed payment of $1,000 monthly, which is deductible by the partnership. The partnership reported ordinary business income of $88,000 for the year ended June 30, 2020, and $132,000 for the year ended June 30, 2021. How much should Gilroy report on his 2020 return as total income from the partnership?

$34,000 This answer is correct.In determining his or her income, each partner must take into account his or her distributive share of the partnership's income for the tax year of the partnership that ends within the partner's tax year. This means Gilroy must include his share of the $88,000 June 30, 2020, income on his 2020 return. A partner includes guaranteed payments in income in his or her tax year that includes the end of the partnership tax year in which the guaranteed payments were deducted; i.e., Gilroy includes the guaranteed payments made July 2019 through June 2020 in his 2020 income. Distributive share of ordinary business income($88,000 × 25%) $22,000 Guaranteed payments ($1,000 × 12 months) 12,000 Total 2020 income $34,000 ch21

PDK, LLC, had three members with equal ownership percentages. PDK elected to be treated as a partnership. For the tax year ending December 31, Year 1, PDK had the following income and expense items: Revenues $120,000 Interest income 6,000 Gain on sale of securities 8,000 Salaries 36,000 Guaranteed payments 10,000 Rent expense 21,000 Depreciation expense 18,000 Charitable contributions 3,000 What would PDK report as non-separately stated income for Year 1 tax purposes?

$35,000 Each partnership item of income, gain, deduction, loss, or credit that may vary the tax liability of any partner must be separately stated. Items that must be separately stated include the following: -Section 1231 gains and loss -Net short- and long-term capital gain or loss from the sale or exchange of capital assets -Investment income and related expenses -Charitable contributions Guaranteed payments made to a partner are listed as a separate line item on the partner's K-1 form because they are ordinary income to that partner. However, when calculating non-separately stated income of the partnership, total guaranteed payments are deducted from ordinary income of the partnership. Thus, the total that PDK would report as non-separately stated income would be $35,000 ($120,000 revenues - $36,000 salaries - $10,000 guaranteed payments - $21,000 rent expense - $18,000 depreciation expense). ch21

As a general partner in Greenland Associates, an individual's share of partnership income for the current tax year is $25,000 ordinary business income and a $10,000 guaranteed payment. The individual also received $5,000 in cash distributions from the partnership. What income should the individual report from the interest in Greenland?

$35,000 This answer is correct.All taxable items of income, gain, loss, or deduction that are not separately stated are reported as income; additionally, guaranteed payments are reported as income for the partner. A partner does not recognize gain for current money distributions; therefore, the cash distribution is not included in income. The individual's income is $35,000 ($25,000 ordinary business income + $10,000 guaranteed payment). ch21

Bob's share of an S corporation loss is $50,000, and his basis in his stock on December 31, Year 1, is $25,000. He loaned the S corporation $10,000 during the year, which has not been repaid. What maximum amount of loss (before passive and at-risk limitations) can Bob deduct on his Year 1 tax return?

$35,000 This answer is correct.The loan of $10,000 increases his total basis in the S corporation to $35,000 ($25,000 stock basis + $10,000 debt basis). Therefore, Bob can deduct his portion of the loss to the extent of his $35,000 basis. ch22

Evan, a 25% partner in Vista Partnership, received a $20,000 guaranteed payment in 2020 for deductible services rendered to the partnership. Guaranteed payments were not made to any other partner. Vista's 2020 partnership income consisted ofNet business income beforeguaranteed payments$80,000Net long-term capital gains10,000What amount of income should Evan report from Vista Partnership on her 2020 tax return?

$37,500 A partner will report the ownership portion of the partnership income. Partnership income is the balance of the taxable income of a partnership that is not required to be separately stated. Capital gains and losses are generally segregated from ordinary net income and carried into the income of the individual partners. Any guaranteed payment (GP), while deductible for the partnership, is included in gross income of the receiving partner. Reportable income is calculated as follows: Business income pre-GP $80,000 Less: GP (20,000) Reportable partnership income $60,000 25% interest $15,000 Guaranteed payment 20,000 25% capital gain 2,500 Total $37,500 ch21

Graphite Corp. has been a calendar-year S corporation since its inception on January 2, 2014. On January 1, 2020, Smith and Tyler each owned 50% of the Graphite stock in which their respective bases were $12,000 and $9,000. For the year ended December 31, 2020, Graphite had $80,000 in ordinary business income and $6,000 in tax-exempt income. Graphite made a $53,000 cash distribution to each shareholder on December 31, 2020. What total amount of income from Graphite is includible in Smith's 2020 adjusted gross income?

$40,000 This answer is correct.All of an S corporation's income is taxed to the shareholders each year, whether distributed or not. Each shareholder's basis is increased by his or her share of income, including tax-exempt income. Distributions in general then reduce the shareholder's basis, and any distribution that is not in excess of basis is treated as a tax-free return of capital. Therefore, Smith will recognize $40,000 of ordinary income ($80,000 × 50% interest). The tax-exempt income is not included in a shareholder's income. The distribution does not affect Smith's gross income because it does not exceed his basis ($12,000 basis + $43,000 income). ch22

Pages, Inc. (an S corporation), is owned by Martin and Steve. They share in the income and loss of the corporation on a 50/50 basis. In 2020, the corporation reported $90,000 in ordinary income and $12,000 of tax-exempt income. Each owner's basis in his stock is $25,000. The corporation was previously a C corporation, and $30,000 in E&P remained on the books at the beginning of the year. Martin and Steve each received an $80,000 distribution from the corporation on December 15, 2020. What is the character of the distribution to Martin [assume the accumulated adjustment account (AAA) and other adjustments account (OAA) are zero on January 1, 2020]?

$45,000 AAA; $15,000 dividend; $20,000 return of capital; zero capital gains. The ordinary income will increase Martin's share of the AAA to $45,000 and also increase his stock basis to $70,000. The tax-exempt income will increase Martin's share of OAA to $6,000 and increase his stock basis to $76,000. The first $45,000 distributed to Martin comes from AAA, reducing AAA to $0 and his basis to $31,000. The next $15,000 distributed to Martin comes from E&P and is dividend income; Martin's stock basis is not reduced. The next $6,000 distributed to Martin comes from OAA, is tax free, and reduces his basis to $25,000. The remaining $14,000 comes from stock basis, is tax free, and reduces his basis to $11,000. ch22

Bole Corp., an accrual-basis, calendar-year S corporation, has been an S corporation since its inception and is not subject to the uniform capitalization rules. In 2020, Bole recorded the following: Gross receipts $50,000 Dividend income from investments 5,000 Supplies expense 2,000 Utilities expense 1,500 What amount of net business income should Bole report on its 2020 Form 1120-S, U.S. Income Tax Return for an S Corporation, Schedule K?

$46,500 This answer is correct.Net business income includes all income and deductions that are not separately stated. Separately stated items include (1) Sec. 1231 gains and losses, (2) net short-term capital gains and losses, (3) net long-term capital gains and losses, (4) dividends, (5) charitable contributions, (6) taxes paid to a foreign country or to a U.S. possession, (7) tax-exempt interest and related expense, (8) investment income and related expense, (9) amounts previously deducted, (10) Real estate activities, (11) Sec. 179 deductions, (12) credits, and (13) any other item that could impact two shareholders differently. Therefore, net business income equals $46,500 [$50,000 (net business income) - $3,500 (business expense)]. Since dividends are a separately stated item, they are not included in net business income. ch22

For 2020, VBN, an S corporation, has accumulated earnings and profits (E&P) of $50,000 and a zero balance in its accumulated adjustment account. VBN distributes $230,000 to its sole shareholder, Raymond. His basis in the stock is $140,000. How should Raymond handle the distribution?

$50,000 as a taxable dividend, $140,000 as return of capital, and $40,000 as capital gain. Since the S corporation does not have an accumulated adjustment account balance, any distribution is first treated as a dividend to the extent of accumulated E&P. After the accumulated E&P balance is reduced to zero, any distribution remaining will reduce any remaining basis of the shareholder's stock, and then any remainder will be treated as a capital gain from the sale of property. Therefore, Raymond will handle the distribution by treating $50,000 as a taxable dividend, $140,000 as a return of capital, and $40,000 as capital gain. ch22

As of January 1, 2020, Kane owned all 100 issued shares of Manning Corp., a calendar-year S corporation. On the 41st day of 2020, Kane sold 25 of the Manning shares to Rodgers. For the year ended December 31, 2020 (a 366-day calendar year), Manning had $73,200 in nonseparately stated income and made no distributions to its shareholders. What amount of nonseparately stated income from Manning should be reported on Kane's 2020 tax return?

$56,950 This answer is correct.Each shareholder shall include in gross income the pro rata share of the S corporation's income. The pro rata share is the taxpayer's share of the corporation's income after assigning an equal portion of the income to each day of the taxable year and then dividing that portion pro rata among the shares outstanding on each day. Therefore, each day of the year will be assigned $200 of income ($73,200 ÷ 366). Kane's share will be $56,950 [$8,200 (41 days × $200 × 100% ownership) plus $48,750 (325 days × $200 × 75% ownership)]. ch22

Last year, Jim, one of two equal partners, contributed land with a basis to him of $15,000 and a fair market value of $10,000 to the partnership of which he was a member. His capital account was credited for $10,000. The land was later sold for $8,000. As a result of this sale, Jim must report on his personal income tax return

$6,000 loss. Generally, neither the partnership nor any partner recognizes gain or loss when property is contributed in exchange for a partnership interest. The partnership's basis in the property is $15,000 (the contributing partner's basis at the time of contribution). The sale of the property by the partnership resulted in a $7,000 loss ($8,000 proceeds less $15,000 AB). Precontribution loss must be allocated to the contributing partner. Jim must recognize all of the precontribution loss of $5,000 ($15,000 basis - $10,000 FMV contribution) plus his $1,000 share of postcontribution loss [($10,000 FMV of contribution - $8,000 sales price) × 1/2]. ch21

Sandy is the sole shareholder of Swallow, an S corporation. Sandy's adjusted basis in Swallow stock is $60,000 at the beginning of the year. During the year, Swallow reports the following income items: Ordinary income $30,000 Tax-exempt income 5,000 Capital gains 10,000 In addition, Swallow makes a nontaxable distribution to Sandy of $20,000 during the year. What is Sandy's adjusted basis in the Swallow stock at the end of the year?

$85,000 This answer is correct.The adjusted basis of the shareholder's stock is figured at year end with increases for the shareholder's pro rata share of all income items, including tax-exempt income, that are separately stated and any nonseparately stated income. Also, all separately and nonseparately stated losses, distributions, and deduction items decrease the basis of the shareholder's stock on a pro rata basis. Sandy's stock basis on January 1, Year 1, is $60,000. Original basis $60,000 Ordinary income 30,000 Tax-exempt income 5,000 Capital gains 10,000 Nontaxable distribution (20,000) Adjusted basis $85,000 ch22

Magic Corp., a regular C corporation, elected S corporation status at the beginning of the current calendar year. It had an asset with a basis of $40,000 and a fair market value (FMV) of $85,000 on January 1. The asset was sold during the year for $95,000. What was Magic's tax liability as a result of the sale?

$9,450 This answer is correct.An S corporation that, upon conversion from C to S status, had net appreciation inherent in its assets is subject to a built-in gains tax of 21% on net gain recognized (up to the amount of built-in gain on conversion) during the recognition period. Magic had $45,000 ($85,000 FMV in January 1 - $40,000 basis) of built-in gains at the time that Magic elected to be an S corporation. The tax on the $45,000 is $9,450 ($45,000 × 21%). ch22

When Teri's outside basis in teh TMF Partnership is $80,000, the partnership distributes to her $30,000 of cash, an account receivable (fair market value of $60,000, inside basis to the partnership of $0), and a parcel of land (fair market value of $60,000, inside basis to the partnership of $80,000). Teri remains a partner in the partnership, and the distribution is proportionate to the partners. How much gain does TMF Partnership recognize as a result of the distribution? How much gain does Teri recognize as a result of the distribution? Teri's basis in the Account Receivable is Teri's basis in the Land is

0 0 0 50,000 ch21

Sam's basis in his partnership interest is $46,000. In a proportionate nonliquidating distrubiton, Sam receives $6,000 cash and two parcels of land (A & B), each with a basis of $30,000 to the partnership. The values of the land parcel A is $40,000 and land parcel B is $20,000. How much gain does Sam recognize on the distribution? $ Sam's basis in land parcel A is $. Sam's basis in land parcel B is $

0 24,000 16,000 1st allocation of cash of $6,000 (Tier 1). No Tier 2 assets. Tier 3 assets: Step 1: Step down Land B ($10,000) to it's FMV of $20,000. Step 2: Step down Land A & B another ($10,000) in proportion to their bases, after Step 1 ($30k & $20k). ch21

The S corporation status can be revoked only if the shareholders who collectively own more than what percentage of the outstanding shares in the S corporation's stock consent to its revocation?

50% Section 1362(d)(1) provides that an S corporation's status may be revoked by an election of the shareholders holding more than half of the shares of a corporation. ch22

In the current year, which taxable year may a newly formed partnership not adopt without obtaining prior approval from the IRS?

A January 31 year end if it is a retail enterprise with a natural business year ending January 31 and all of its majority and principal partners are on a calendar year. A partnership's required taxable year is that of the partner(s) owning more than 50% of partnership capital and profits if they have the same tax year on the first day of the partnership's tax year. If the majority partner(s) do not have the same taxable year or have not kept their same tax year for the required period, the taxable year of all principal (5%) partners must be adopted. If all principal partners do not have the same taxable year, the least aggregate deferral year end must be used. A newly formed partnership may elect a fiscal year with no more than a 3-month deferral period (i.e., the number of months between the beginning of the tax year selected and the end of the required tax year). A January 31 year end has an 11-month deferral period. Any other fiscal year may be chosen only with the consent of the IRS and only if a business purpose (e.g., natural business year) is established. ch21

Bob and Sally, unmarried taxpayers, each owned 50% of Lostalot, Inc., an S corporation. The corporation had a $50,000 operating loss for the tax year ending December 31, 2020. As of December 31, 2019, Bob's basis in his stock was $15,000 and Sally's was $5,000. During the 2020 tax year, Sally mortgaged her home for $25,000 and loaned the money to the corporation. Although not personally liable, Bob told her not to worry and that if anything happened, he would help pay the mortgage debt. Calculate the amount of allowable loss deduction each shareholder would be able to recognize on their individual 2020 tax returns.

Bob: $15,000, and Sally: $25,000. Bob and Sally's share of the loss is $25,000 each. However, the deduction for each is limited to their basis in the S corporation. Bob's deduction is limited to his $15,000 basis in the stock. Sally's basis consists of her $5,000 stock basis and her $25,000 debt basis. Sally has enough basis to cover her share of the loss. Bob receives no debt basis from the mortgage debt because he is not personally liable. ch22

At the beginning of 2020, Paul owned a 25% interest in Associates Partnership. During the year, a new partner was admitted, and Paul's interest was reduced to 20%. The partnership liabilities at January 1, 2020, were $150,000 but decreased to $100,000 at December 31, 2020. Paul's and the other partners' capital accounts are in proportion to their respective interests. Disregarding any income, loss, or drawings for 2020, the basis of Paul's partnership interest at December 31, 2020, compared to the basis of his interest at January 1, 2020, was

Decreased by $17,500. A decrease in a partner's share of partnership liabilities is treated as a distribution of money to the partner. At the beginning of the year, Paul's 25% share of the $150,000 of partnership liabilities was $37,500. At the end of the year, Paul's 20% share of the $100,000 of partnership liabilities was $20,000. Thus, Paul's share of partnership liabilities decreased by $17,500 ($37,500 - $20,000), and his basis was reduced by the same amount. ch21

If an S corporation has no accumulated earnings and profits, the amount distributed to a shareholder

Decreases the shareholder's basis in the stock. Distribution from an S corporation with no Subchapter C earnings and profits is treated as a tax-free return of capital to the extent of a shareholder's basis in his or her stock of the corporation, decreasing the stock's basis. Excess is treated as gain or loss on the sale of the stock. ch22

David and Mark both contributed $100,000 on January 1, 2020, to form DM Limited Partnership. David is a general partner, and Mark is a limited partner. The partnership agreement provided that David would bear any risk of loss and profits would be shared equally. Shortly after the formation, DM Limited Partnership purchased land with a $500,000 fair market value and a $300,000 recourse mortgage. DM's liability

Increases David's partnership basis by $300,000. A partner's basis is increased by his or her share of partnership liabilities. Nonrecourse liabilities are shared based on partnership profit interests. Recourse liabilities, on the other hand, are shared based on economic losses. Since David bears all of the partnership's economic risk of loss, his basis in his partnership interest will be increased by $300,000. ch21

On January 4, 2020, Smith and White contributed $4,000 and $6,000 in cash, respectively, and formed the Macro General Partnership. The partnership agreement allocated profits and losses 40% to Smith and 60% to White. In 2020, Macro purchased property from an unrelated seller for $10,000 cash and a $40,000 mortgage note that was the general liability of the partnership. Macro's liability

Increases Smith's partnership basis by $16,000. A partner's share of a partnership liability is treated as if the partner contributed an equivalent amount of money to the partnership. The deemed contribution increases the partner's basis in the partnership interest. Smith's partnership basis will increase by $16,000 ($40,000 × 40%). The cash payment (exchange) for the property has a net zero effect on partner basis. ch21

An S corporation may owe tax if, at the end of the tax year, the corporation had accumulated earnings and profits and taxable income, and if

Its passive investment income exceeds 25% of its gross receipts. If an S corporation has pre-S corporation earnings and profits (from the period it was a corporation) at the end of a tax year and its passive investment income is more than 25% of its gross receipts, the S corporation may be subject to a tax on excess net passive income. ch22

On December 31, 2020, LS Corporation revoked its S election. LS Corporation had been an S corporation since its inception in 2018. When may LS Corporation reelect S corporation status without IRS consent? Reelection Date

January 1, 2026 Any corporation that terminates its S election will not be eligible for reelection for 5 years, beginning after the first taxable year in which the termination was made, unless IRS consent is given. ch22

At partnership inception, Black acquires a 50% interest in Decorators Partnership by contributing property with an adjusted basis of $250,000. Black recognizes a gain if I. The fair market value of the contributed property exceeds its adjusted basis. II. The property is encumbered by a mortgage with a balance of $100,000.

Neither I nor II. A partner will generally not recognize income upon contribution of property to a partnership. This is true when the fair market value of the contributed property exceeds the adjusted basis. No gain is recognized when the contributed property is subject to a mortgage unless the liability assumed by the partnership exceeds the partner's basis in the partnership. In the second situation, Black is treated as contributing $250,000 and receiving a cash distribution of $50,000 (50% of the $100,000 liability). Since this does not exceed Black's basis, no gain is recognized. ch21

During the current year, Norman contributed property held more than 1 year to the MaryAnn Partnership for a 40% interest. The total capital after his contribution was $50,000. His tax basis in the property was $8,000, and it had a fair market value of $10,000 at the time of the contribution to the partnership. What gain or loss should Norman report on the contribution of his property to the partnership?

No gain or loss. When property is contributed to a partnership in exchange for a partnership interest, the general rule is that no gain or loss is recognized by the partner or the partnership. This rule applies even though the contributed property is appreciated and the partner receives a disproportionate interest in the partnership. Precontribution gain on the asset will be allocated to the contributing partner when the partnership later sells the asset. Property does not include services, however, and if Norman received part of his interest in the partnership for performing services, he must recognize ordinary income to that extent. ch21

Lindal Corporation, organized in 2020, immediately filed an election for S corporation status under the rules of Subchapter S. What is the maximum amount of passive investment income that Lindal will be allowed to earn and still qualify as an S corporation?

No limit on passive investment income. There is no limit on the amount of passive investment income that a corporation can earn and still qualify as an S corporation. S corporation status is terminated if the corporation has had passive investment income in excess of 25% of gross receipts for 3 consecutive taxable years and has had Subchapter C earnings and profits at the end of each of those taxable years. Subchapter C earnings and profits are those accumulated during a taxable year for which a Subchapter S election was not in effect. Lindal filed an S election immediately after formation which prevents C corporation earnings and profits. ch22

Top Corp., which has been operating since 2001, has an October 31 year end, which coincides with its natural business year. On May 15, 2020, Top filed the required form to elect S corporation status. All of Top's shareholders consented to the election, and all other requirements were met. The earliest date that Top can be recognized as an S corporation is

November 1, 2020. An S corporation election made within the first 2 1/2 months of the year is effective the first day of that tax year. An election made after the first 2 1/2 months of the year is effective as of the next year. Note that an S corporation may have a fiscal year that coincides with its natural business year (with IRS consent). Top Corp. filed for the S election after the first 2 1/2 months of the November 1, 2019, to October 31, 2020, fiscal year. Thus, Top will be recognized as an S corporation beginning on the first day of the following fiscal year, November 1, 2020. ch22

a. Regarding a partner's basis in the partnership interest, classify each of the following as either an item that "Increases basis" or one that "Decreases basis". 1. Distribution from the partnership 2. Gain recognized under § 721(b) 3. Partner's liability assumed by the partnership 4. The partner's share of taxable income 5. Additional contribution to the partnership 6. The partner's share of separately stated deductions, foreign taxes, losses, and nondeductible/noncapitalized expense 7. The partner's share of any partnership liability b. Complete the following sentences regarding a partner's basis. A partner's basis is ________ to determine the basis for the partnership interest. A partner's basis may never be reduced below zero (i.e., no negative basis is allowed)._________ (T/F) Basis adjustments preserve the partnership's ________ of taxation. If basis is _________ by partnership income, that income _________ be taxed again when the partner sells the partnership interest at its fair market value.

a. 1. Decreases basis; 2. Increases basis; 3. Decreases basis; 4. Increases basis; 5. Increases basis; 6. Decreases basis; 7. Increases basis. A partner's basis is not reflected anywhere on the Schedule K-1. Instead, each partner should maintain a personal record of the partner's basis in the partnership interest. A partner's adjusted basis in a newly formed partnership usually equals (1) the adjusted basis in any property contributed to the partnership plus (2) the fair market value of any services the partner performed for the partnership (i.e., the amount of ordinary income reported by the partner for services rendered to the partnership). After the partner is admitted to the partnership, the partner's basis is adjusted for numerous items. Under § 722, a partner's initial basis is determined by reference to the amount of money and the basis of other property contributed to the partnership. This basis is increased by any gain recognized under § 721 (b) and the partner's share of any partnership liabilities. The basis is decreased by partner liabilities assumed by the partnership. The basis is also adjusted to reflect the effect of partnership operations: It is increased by the partner's share of taxable and nontaxable income and is decreased by the partner's share of separately stated deductions (including the partnership's basis of property contributed to charity), foreign taxes, losses, and nondeductible/noncapitalizable expenses. Finally, a partner's basis is increased by additional contributions to the partnership and by increases in the partner's share of partnership debt. The basis is decreased by distributions from the partnership and decreases in the partner's share of partnership b. adjusted when necessary; True; single-level; increased; would not. A partner's basis is adjusted any time it may be necessary to determine the basis for the partnership interest (e.g., when a distribution was made during the taxable year or at the end of a year in which a loss arises). A partner's basis may never be reduced below zero (i.e., no negative basis is allowed). Basis adjustments preserve the partnership's single level of taxation: if basis is increased by partnership income, that income would not be taxed again when the partner sells the partnership interest at its fair market value. ch21

Barney is a managing LLC member (treated as a general partner) of BG LLC and is allocated qualified business income (QBI) from BG of $800,000. (BG is not a "specified service trade or business.") Barney's Schedule K-1 reflects a $300,000 share of BG's W-2 wages and a $1,200,000 share of BG's UBIA (unadjusted basis immediately after acquisition). Assume also that Barney's taxable income excluding capital gains is $600,000 and that Barney has no income from REITs, publicly traded partnerships, or other qualified businesses. Refer to the QBI discussion in this chapter, the discussion in text Section 15-3, and the flowchart in Concept Summary 15.2. a. Calculate Barney's deduction under § 199A for qualified business income. Barney's tentative QBI deduction (before considering any limitations) is _________. The tentative QBI for this trade or business is subject to the (greater) of two limitations. The first limitation is based on the LLC's W-2 wages is ____________ and the second limitation based on the LLC's W-2 wages and property basis is __________. Therefore, based on these limitations is Barney's QBI deduction is __________. In addition, barney's QBI deduction is subject to more limitation. which is based on (his taxable income excluding capital gains) . As a result, Barney's final QBI deduction is __________ b. How does Barney's § 199A deduction affect his (1) cash flow, (2) basis in the LLC interest, and (3) capital account? The QBI deduction (does not) require a corresponding outflow of cash. The deduction (does not) affect Barney's basis and it (does not) affect his capital account.

a. $160,000; greater; $150,000; $105,000; $150,000; his taxable income excluding capital gains; $120,000. Under § 199A, an individual taxpayer can deduct up to 20 percent of "the combined qualified business income amount." The deduction is calculated at the partner or S corporation shareholder level. The entity must report, on Schedules K-1, any information the owners need to complete their tax return. For the QBI deduction a qualified trade or business is defined by exception and does not include the business of being an employee or certain service professions in fields such as health, law, accounting, consulting, investment advising, or brokerage services. The deduction is permitted for certain engineering and architectural service businesses. For a partner, QBI does not include guaranteed payments received for services provided to the partnership or payments from the partnership under § 707(a) for services unrelated to the partnership's business. QBI for each trade or business is subject to one of two limitations, whichever amount is greater. The first limit is 50 percent of the W-2 wages paid by the entity to all its employees. The second limit is 25 percent of W-2 wages plus 2.5 percent of the unadjusted basis of depreciable property in service (and not past the end of its recovery period) at the end of the tax year. The partnership or S corporation must report W-2 wages and the "unadjusted basis immediately after acquisition of qualified property." The entity allocates those amounts in the same manner that the related wage and depreciation deductions are allocated to the partners or shareholders. Barney's QBI deduction is $120,000. Barney has qualified income from the BG LLC trade or business of $800,000. Barney's tentative qualified business income (QBI) from this business is 20% of this amount, or $160,000. The tentative QBI for this trade or business is subject to the greater of two limitations. The first limitation is 50% of Barney's share of the LLC's W-2 wages, or $150,000 ($300,000 allocable share × 50%). The second limitation is 25% of Barney's share of the LLC's W-2 wages ($75,000, or $300,000 × 25%) plus 2.5% of Barney's share of the LLC's unadjusted basis of partnership property, or $30,000 ($1,200,000 × 2.5%), for a total limitation of $105,000. The 50% of wages limitation of $150,000 is the higher amount, so this is the maximum QBI for this business. The tentative QBI is $160,000, so the deduction for this business is limited to the lower $150,000 wage limitation. This $150,000 also is Barney's combined QBI amount because he has no QBI from other trades or businesses, REITs, or publicly traded partnerships. The combined QBI amount is limited to 20% of Barney's taxable income excluding capital gains, or $120,000 ($600,000 × 20%). Therefore, Barney can only deduct $120,000 as the combined QBI amount. b. does not; does not; does not. There is no cash outflow related to the QBI deduction; it just serves to lower the partner's effective tax rate on this income. The deduction does not affect Barney's basis or capital account. ch21

Suzy contributed assets valued at $360,000 (basis of $200,000) in exchange for her 40% interest in Suz-Anna GP (a general partnership in which both partners are active owners). Anna contributed land and a building valued at $640,000 (basis of $380,000) in exchange for the remaining 60% interest. Anna's property was encumbered by qualified nonrecourse financing of $100,000, which was assumed by the partnership. The partnership reports the following income and expenses for the current tax year: Sales $560,000 Utilities, salaries, depreciation, and other operating expenses 360,000 Short-term capital gain 10,000 Tax-exempt interest income 4,000 Charitable contributions (cash) 8,000 Distribution to Suzy 10,000 Distribution to Anna 20,000 During the current tax year, Suz-Anna refinanced the land and building (i.e., the original $100,000 debt was repaid and replaced with new debt). At the end of the year, Suz-Anna held recourse debt of $100,000 for partnership accounts payable (recourse to the partnership but not personally guaranteed by either of the partners) and qualified nonrecourse financing of $200,000. a. What is Suzy's basis in Suz-Anna after formation of the partnership? Anna's basis?Suzy's beginning basis in her partnership interest is _________, and Anna's basis is ________ b. Enter the amounts for the following items that will appear on Suzy's Schedule K-1. ItemAmountOrdinary income Short-term capital gain Tax-exempt interest income Charitable contributions Distribution received by Suzy What income, deduction, and taxes does Suzy report on her tax return?On her tax return, Suzy reports the ordinary income on (Schedule E) . She reports the short-term capital gain on (Schedule D ). She reports the charitable contributions (Schedule A) with her personal charitable contributions. Suzy might also be eligible for the qualified business income deduction; the partnership needs to provide additional information regarding (W-2 wages and depreciable property) so that Suzy can calculate the deduction. Suzy (is) subject to self-employment taxes. c. Assume that all partnership debts are shared proportionately. At the end of the tax year, what are Suzy's basis and amount at risk in her partnership interest? Suzy's year-end basis in her partnership interest is __________, and Suzy's amount at risk is _________. d. Assume that Suz-Anna prepares the capital account rollforward on the partners' Schedules K-1 on a tax basis. What are Suzy's capital account balances at the beginning and end of the tax year? What accounts for the difference between Suzy's ending capital account and her ending tax basis in the partnership interest? Suzy's capital account balance at the beginning of the tax year is _________ and at the end of the tax year is _________ The capital account (does not) include the partner's share of liabilities. In this situation, Suzy's ending capital account differs from her ending tax basis, because her ________ share of partnership liabilities (is not) included in her ending capital account. e. What would happen if Suz-Anna was formed as an LLC instead of a general partnership. How would Suz-Anna's ending liabilities be treated? How would Suzy's basis and amount at risk be different? (None) of the LLC members are personally liable for the accounts payable of the LLC. They are (included) in the members' bases in their LLC interests and (excluded) in the amounts at risk. (None) of the LLC members are personally liable for the nonrecourse debt of the LLC. It is (included) in the LLC members' bases as a nonrecourse debt and (included) in the amount at risk. Suzy's ending basis in the LLC interest is _________, and the amount at risk in her LLC interest is ________.

a. $240,000; $340,000. Under § 752, an increase in a partner's share of partnership debt is treated as a cash contribution by the partner to the partnership. A partner's share of partnership debt increases as a result of increases in the total amount of partnership debt. A decrease in a partner's share of partnership debt is treated as a cash distribution from the partnership to the partner. A partner's share of partnership debt decreases as a result of (1) decreases in the total amount of partnership debt and (2) assumption of the partner's debt by the partnership. Partnership debt is classified as either recourse or nonrecourse. Recourse debt is partnership debt for which the partnership or at least one of the partners is personally liable. Nonrecourse debt is debt for which no partner (or party related to a partner) is personally liable. Lenders of nonrecourse debt generally require that collateral be pledged against the loan. Suzy's beginning basis in her partnership interest is $240,000, calculated as follows. Basis in contributed business-related assets$200,000 Share of partnership nonrecourse debt assumed from Anna40,000 Total beginning basis$240,000 Anna's beginning basis in her partnership interest is $340,000, calculated as follows. Basis in contributed business-related assets$380,000 Relief of debt assumed by the partnership(100,000) Share of partnership nonrecourse debt assumed from Anna60,000 Total beginning basis$340,000 b. $80,000; $4,000; $1,600; $3,200; $10,000; Schedule E; Schedule D; Schedule A; W-2 wages and depreciable property; is. Click here to view Schedule K-1 (Form 1065) . The partnership reports ordinary business income of $200,000 ($560,000 - $360,000). Separately stated items include the short-term capital gain ($10,000), tax-exempt interest income ($4,000), and charitable contributions ($8,000). Suzy's Schedule K-1 shows the following items. Ordinary income $80,000 Short-term capital gain $4,000 Tax-exempt interest income $1,600 Charitable contributions $3,200 Distribution received by Suzy $10,000 On her tax return, Suzy reports the $80,000 of ordinary income on Schedule E. She reports the short-term capital gain ($4,000) with her capital transactions on Form 8949 and Schedule D. She reports the charitable contributions ($3,200) on Schedule A with her personal charitable contributions. The tax-exempt interest income and the distribution she receives are not taxable, although they affect her basis (as shown in part c). (Although not taxable, the tax exempt interest income is reported as an information item on Suzy's Schedule B and line 8b of her Form 1040.) Suzy might also be eligible for the qualified business income deduction; the partnership needs to provide additional information (i.e., W-2 wages and the unadjusted basis of partnership depreciable property) so that Suzy can calculate the deduction. Suzy also calculates self-employment tax (and potentially additional Medicare tax) on her distributive share of partnership income. She might also be subject to net investment income tax on her share of the partnership's short-term capital gain. c. $392,400; $392,400. Under the at-risk rules, certain loss deductions are limited to amounts that are economically invested in the partnership. Limited losses are those from business and income-producing activities allocated to individual partners and closely held C corporation partners. Suspended losses are carried forward until a partner has a sufficient amount at risk in the activity to absorb them. Invested amounts include cash, the adjusted basis of property contributed by the partner, and the partner's share of partnership earnings that have not been withdrawn. At the end of the tax year, Suzy's basis in her partnership interest is $392,400 (including a $80,000 share of partnership nonrecourse debt and a $40,000 share of partnership recourse debt), calculated as follows. Beginning basis (including $40,000 share of debt)$240,000 Increase in Suzy's share of recourse debt (40% x $100,000)40,000 Increase in Suzy's share of qualified nonrecourse financing [40% x ($200,000 - $100,000)]40,000 Partnership ordinary income80,000 Short-term capital gain4,000 Tax-exempt interest income1,600 Charitable contributions(3,200) Distribution to Suzy(10,000) Ending basis$392,400 Suzy's amount at risk is the same as her basis in the partnership interest, because the nonrecourse debt is qualified nonrecourse financing. d. $200,000; $272,400; does not; $120,000; is not. Just as the tax and accounting bases of a specific asset may differ, a partner's capital account and basis in the partnership interest may not be equal for a variety of reasons. For example, a partner's basis includes the partner's share of partnership liabilities; these liabilities are not reported as part of the partner's capital account. Suzy's beginning capital account balance equals her basis in the property she contributed to the partnership, or $200,000. The capital account does not include the partner's share of liabilities. The partner's ending capital account balance is rarely the same amount as the partner's basis. The measurement and reporting of partnership income require a two-step approach. Certain items must be netted at the partnership level, and other items must be segregated and reported separately on the partnership return and each partner's Schedule K-1. Suzy's capital account is increased and decreased by her share of Suz-Anna's income and deductions, and it is decreased by the distribution she received. Her ending capital account is $272,400, calculated as follows. Beginning basis$200,000 Partnership ordinary income80,000 Short-term capital gain4,000 Tax-exempt interest income1,600 Charitable contributions(3,200) Distribution to Suzy(10,000) Ending capital account$272,400 In this situation, Suzy's ending capital account differs from her ending tax basis, because her $120,000 share of partnership liabilities ($40,000 of recourse debt and $80,000 of nonrecourse debt) is not included in her ending capital account. e. None; included; excluded; None; included; included; $392,400; $352,400. Recourse debts are debts for which at least one partner (or LLC member) has an economic risk of loss. Nonrecourse debts are debts for which no partner (or LLC member) has an economic risk of loss. Because an LLC limits owner liability to the assets of the entity itself, none of the LLC members are personally liable for the accounts payable of the LLC. As such, the accounts payable are treated as nonrecourse debt. They are included in the members' bases in their LLC interests (shown as nonrecourse debt on their Schedules K-1), but they are not included in the amounts at risk. Similarly, none of the LLC members are personally liable for the nonrecourse debt of the LLC. It is included in the LLC members' bases (under § 705) as a nonrecourse debt. However, as the LLC debt is considered qualified nonrecourse financing, it is included in the amount at risk for purposes of the § 465 limitation. After the partner/member is admitted to the partnership/LLC, the partner's/member's basis is adjusted for numerous items. A partner's/member's adjusted basis is affected by the partner's/member's share of partnership debt. Partnership/LLC debt includes any partnership/LLC obligation that creates an asset; results in an expense to the partnership/LLC; or results in a nondeductible, noncapitalizable item at the partnership/LLC level. Suzy's basis in her LLC interest is $392,400. This amount includes the same share of LLC liabilities even though $40,000 of those liabilities are now classified as nonrecourse rather than recourse debt. Beginning basis$240,000 Increase in Suzy's share of recourse debt (40% x $100,000)40,000 Increase in Suzy's share of nonrecourse debt [40% x ($200,000 - $100,000)]40,000 LCC's ordinary income80,000 Short-term capital gain4,000 Tax-exempt interest income1,600 Charitable contributions(3,200) Distribution to Suzy(10,000) Ending basis$392,400 Suzy's amount at risk is the same as her basis in the partnership interest, because the nonrecourse debt is qualified nonrecourse financing. Suzy's amount at risk in her LLC interest is $352,400. This is $40,000 less than her basis, because her share of ending partnership accounts payable is $40,000. These liabilities are nonrecourse debt to the LLC member and are not qualified nonrecourse financing. Therefore, they cannot be included in the amount at risk. ch21

Marcus and Madison are equal members of an LLC. On January 1 of the current year, to acquire a one-third interest in the entity, Nora contributed a parcel of land she had held for investment. (At this time, the entity will be renamed MMN LLC.) Nora had purchased the land for $120,000; its fair market value was $90,000 at the contribution date. A few years later, the LLC sells Nora's land for $84,000. At the beginning of that year, Nora's capital account (determined using the tax basis) was $200,000 and Marcus and Madison's capital accounts (also calculated on the tax basis) were $170,000. a. Regarding the land sale, how much gain or loss is recognized and how is it allocated? On the land sale, under § 704(c), there is a total________ loss of which _________ is allocated to Nora and _________ is allocated equally among the LLC members .

a. $36,000; loss; $30,000; $6,000; equally among the LLC members. Precontribution gain or loss must be allocated among the partners to take into account the variation between the basis of the property and its fair market value on the date of contribution. The partnership keeps track of these differences in its § 704(b) book" accounting records. For nondepreciable property, built-in gain or loss on the date of contribution must be allocated to the contributing partner when the property is eventually disposed of by the partnership in a taxable transaction. If the property is depreciable, Regulations describe allowable methods of allocating depreciation deductions. If contributed property has built-in losses at the contribution date, allocations related to the built-in loss can be made only to the contributing partner. For purposes of allocations to other partners/members, the partnership's/LLC basis in the loss property is treated as being the fair market value of the property at the contribution date. Therefore, under § 704(c), all unrealized gain or loss at the contribution date (i.e., precontribution gain or loss) on property contributed for an LLC interest belongs to the contributing LLC member. Gain or loss in excess of that amount on the subsequent sale or exchange of the property is divided among the LLC members according to their profit and loss sharing ratios. On the land sale, the LLC has a loss of $36,000 ($120,000 adjusted basis minus $84,000 selling price), $30,000 of which is allocated to Nora under § 704(c) (Nora's basis of $120,000 in the land at the contribution date minus the land's FMV of $90,000 at that date). The remaining loss of $6,000 is allocated equally among the LLC members. ch21

Amy and Mitchell share equally in the profits, losses, and capital of the accrual basis AM Products LLC. The LLC does not need to report financial information to any third parties, so capital accounts are determined using tax rules (rather than GAAP). Amy is a managing member of the LLC (treated as a general partner) and is a U.S. person. At the beginning of the current year, Amy's capital account has a balance of $300,000, and the LLC has debts of $200,000 payable to unrelated parties. The debts are recourse to the LLC, but neither of the LLC members has personally guaranteed them. Assume that all LLC debt is shared equally between the partners. The following information about AM's operations for the current year is obtained from the LLC's records. Revenues$1,400,000 Other operating expenses (e.g., utilities, repairs, rent, etc.)500,000 W-2 wages to employees200,000 Depreciation expense300,000 Interest income4,000 Long-term capital gain6,000 Charitable contribution (cash)4,000 Cash distribution to Amy20,000 Unadjusted basis of partnership depreciable property immediately after acquisition1,600,000 Year-end LLC debt payable to unrelated parties is $140,000. Assume that all transactions are reflected in her beginning capital and basis in the same manner. All AM Products' activities are eligible for the qualified business income deduction. a. Calculate Amy's basis in her LLC interest at the beginning and end of the tax year. LLC interest at the beginning of the year: ________ LLC interest at end of the year: $_________ b. What income, gains, losses, and deductions does Amy report on her income tax return? If an amount is zero, enter "0". Ordinary income Net long-term capital gain Interest income Charitable contribution deduction Cash distribution c. Based on the information provided, what other calculations is Amy required to make? Amy may be eligible to deduct up to___________% of the ordinary income as qualified business income under § 199A, and will make that calculation on her return. This deduction ________ require a cash outflow by Amy or the LLC, and it _________ affect her basis or capital account. As someone treated as a general partner, Amy's distributive share of the LLC's ordinary business income _________(is/is not) subject to self-employment tax and possibly the additional Medicare tax. Her ___________ from the LLC may be subject to the additional tax under § 1411.

a. $400,000; $553,000. Click to view Exhibit 21.2, Partner's Basis in LLC Interest. The following operating results increase a partner's adjusted basis: (1) The partner's proportionate share of LLC income (including capital gains and tax-exempt income); and (2) The partner's proportionate share of any increase in LLC liabilities. The following operating results decrease the partner's adjusted basis in the LLC: (1) The partner's proportionate share of LLC deductions and losses (including capital losses); (2) The partner's proportionate share of nondeductible expenses; (3) The partner's proportionate share of any reduction in LLC liabilities. Under no circumstances can the partner's adjusted basis for the LLC interest be reduced below zero. Because AM Products is an LLC and the LLC members have not guaranteed the debt, it is treated as nonrecourse debt. Amy's share of that debt is included in her basis in the LLC interest. Assuming that Amy's capital account equals her basis excluding liability share, her beginning basis is determined as follows (assuming that Amy's capital account again equals her basis excluding liability share). Capital account balance, beginning of year$300,000 Share of AM's debt ($200,000 x 1/2)100,000 Amy's basis, beginning of year$400,000 Basis is generally adjusted in the following order: Initial basis equals the amount paid for LLC interest, or gift or inherited basis (including share of LLC debt). The amount paid can be amount contributed to the LLC or amount paid to another partner or former partner. This initial basis is increased by the partner's subsequent contributions, the partner's share of the LLC's (1) debt increase, (2) taxable income items, (3) exempt income items, and (4) excess of depletion deductions over adjusted basis of property subject to depletion. The basis is decreased by the partner's distributions and withdrawals, the partner's share of the LLC's (1) debt decrease, (2) separately stated deductions, (3) nondeductible items not chargeable to a capital account, (4) special depletion deduction for oil and gas wells, and (5) loss items. The basis of a partner's interest can never be negative. The K-1 schedule includes the partner's share of any net short-term capital gain (loss) and net long-term capital gain (loss). On the partner's individual's tax return the long-term and short-term capital gains and losses are offset against one another to produce net capital gain or loss. Using the ordering rules shown in Exhibit 21.2, Amy's basis at the end of the year is determined as follows. Capital account balance, beginning of year $300,000 Plus: Amy's share of AM's debt at the end of the year ($140,000 × 1/2) 70,000 Add: Amy's share of: Ordinary business income (see calculation below)$200,000 Interest income 2,000 Net long-term capital gain (1/2 × $6,000) 3,000 Less: Charitable contribution($2,000 ) Cash distribution to Amy(20,000 ) Amy's basis, end of year $553,000 Amy's share of the LLC's ordinary income is calculated as follows. Income $900,000 Less: W-2 wages (200,000) Less: Depreciation (300,000) AM LLC's ordinary business income (Schedule K, line 1)$400,000 Amy's 50% share of AM's ordinary business income:$200,000 Amy's 50% share of AM's W-2 wages is $100,000. Amy's 50% share of AM's unadjusted basis of partnership depreciable property is $800,000. These amounts do not affect her basis or capital account, and they are not amounts Amy reports on her tax return. This information is needed to help Amy calculate her qualified business income deduction under § 199A. b. $200,000; $3,000; $2,000; $2,000; $0. Amy will report her $200,000 share of the LLC's ordinary income, her $2,000 share of the LLC's interest income, and her $3,000 share of the LLC's net long-term capital gain. She may deduct her $2,000 share of the LLC's charitable contribution on her Schedule A if she itemizes deductions. The cash distribution Amy received would not be taxable, nor would the decrease in Amy's share of the LLC liabilities. The LLC's Form 1065 organizes and reports the transactions of the entity for the tax year. Each of the LLC's tax items is reported on Schedule K of that return. Each partner receives a Schedule K-1 that reports the partner's allocable share of LLC income, gains, losses, deductions, tax credits, and preferences for the year. Click here to view Schedule K-1 (Form 1065) . Once the LLC's items are calculated on Schedule K, they are allocated among the partners and reported on their Schedules K-1. Schedule K summarizes the tax-related items for the entire LLC; Schedule K-1 summarizes the tax related items for each partner, after considering the allocation conventions outlined in the LLC agreement or required under the Code. For each LLC item, the sum of the amounts allocated to all of the partners should equal the LLC's total amount per Schedule K. If an amount is specially allocated, that allocation will be reflected in the amounts reported on Schedule K-1. The K-1 schedule includes the partner's share of any net short-term capital gain (loss) and net long-term capital gain (loss). On the partner's individual's tax return the long-term and short-term capital gains and losses are offset against one another to produce net capital gain or loss. Refer to part (a) for the calculation of each item that Amy will report. c. 20%; does not; does not; is; net investment income. Amy may be eligible to deduct up to 20% of the ordinary income as qualified business income under § 199A, and will make that calculation on her return. This deduction does not require a cash outflow by Amy or the LLC, and it does not affect her basis or capital account. As someone treated as a general partner, Amy's distributive share of the LLC's ordinary business income is subject to self-employment tax and possibly the additional Medicare tax (0.9%). Her net investment income from the LLC (e.g., interest and gains) may be subject to the net investment income tax (3.8%) under § 1411. ch21

This year, Callie and Neil formed CN LLC. Callie contributed $300,000 of cash, and Neil contributed real estate valued at $450,000 (basis of $200,000). The property was subject to a recourse liability of $150,000 that was assumed by the LLC, but which is not guaranteed by either LLC member. Callie and Neil's profit sharing ratios are 40%/60%, respectively, but the loss sharing ratios are 50%/50%. a. Is the debt treated as a recourse debt or a nonrecourse debt to the LLC members? b. How is the debt allocated between Callie and Neil? Callie Neil c. What are Neil's and Callie's bases in the LLC interest immediately after the LLC was formed? Callie Neil

a. Nonrecourse debt; b. $60,000; $90,000; c. $360,000; $140,000. Recourse debt is partnership debt for which the partnership or at least one of the partners is personally liable. This personal liability can exist, for example, through the operation of state law or through personal guarantees that a partner makes to the creditor. Nonrecourse debt is debt for which no partner is personally liable. Lenders of nonrecourse debt generally require that collateral be pledged against the loan. Upon default, the lender can claim only the collateral, not the partners' personal assets. Recourse debt is allocated based on each partner's "economic risk of loss." For a partnership in which all contributions and allocations have been proportionate to the capital contributions, recourse debt is allocated among the general partners in proportion to their loss sharing ratios. In more complex situations, the partner's economic risk of loss is determined under a constructive liquidation scenario outlined in the Regulations. Nonrecourse Debt Rules Nonrecourse debt (including qualified nonrecourse financing) is allocated among all the partners. For our purposes, it is allocated to the partners in accordance with their profit sharing ratios. The debt assumed by the LLC is treated as a nonrecourse debt to the LLC members because they are protected from entity liabilities and neither LLC member was required to personally guarantee the debt. (The LLC members are treated as limited partners for purposes of liability allocations.) Nonrecourse debts are allocated, in general, according to the LLC membersʼ profit sharing ratios, so the debt is allocated 40% to Callie ($60,000) and 60% to Neil ($90,000). Neil's and Callie's bases in their LLC interests are determined as follows. Callie Neil Substituted basis of contributed property or cash $300,000 $200,000 Less: Liability assumed by LLC 0 (150,000) Plus: Allocation of nonrecourse debt 60,000 90,000 Basis in LLC interest $360,000 $140,000 ch21

Indicate whether the following items are treated as "Separately stated item" or "Nonseparately stated item" stated item for a S corporation. a. Tax-exempt income b. Trade or business expenses c. Ordinary income d. Long-term and short-term capital gains and losses e. Charitable contributions f. Depreciation recapture

a. Separately stated item; b. Nonseparately stated item; c. Nonseparately stated item; d. Separately stated item; e. Separately stated item; f. Nonseparately stated item. An S corporation's taxable income or loss is determined in a manner similar to the tax rules that apply to partnerships, except that S corporations amortize organizational expenditures under the C corporation rules and must recognize gains, but not losses, on distributions of appreciated property to shareholders. Other special provisions affecting only the computation of C corporation income, such as the dividends received deduction, do not extend to S corporations. Finally, as with partnerships, certain deductions of individuals are not permitted, including alimony payments, personal moving expenses, certain dependent care expenses, the personal exemption, and the standard deduction. In general, S corporation items are divided into (1) nonseparately stated income or loss and (2) separately stated income, losses, deductions, and credits that could affect the tax liability of any shareholder in a different manner, depending on other factors in the shareholder's tax situation. In essence, nonseparate items are aggregated into an undifferentiated amount that constitutes Subchapter S ordinary income or loss. An S corporation's separately stated items are identical to those separately stated by partnerships. These items retain their tax attributes on the shareholder's return. Separately stated items are listed on Schedule K of the 1120S. They include the following: • Tax-exempt income. • Long-term and short-term capital gains and losses. • Section 1231 gains and losses. • Charitable contributions (no grace period). • Passive gains, losses, and credits. • Certain portfolio income. • Section 179 expense deduction. • Domestic production gross receipts and deductions. • Tax preferences and adjustments for the alternative minimum tax. • Depletion. • Foreign income or loss. • Recoveries of tax benefit items. • Intangible drilling costs. • Investment interest, income, and expenses CH22

In each of the following four liquidating distribution scenarios, the partnership also liquidates. For each, determine the amount and character of any gain or loss to be recognized by each partner and the basis of each asset (other than cash) received. Assume for all scenarios that the distributions of hot assets are proportionate to the partners. If there is no gain or loss or if an amount is zero, enter "0". a. Landon has a partnership basis of $40,000 and receives a distribution of $50,000 in cash. He will recognize a (capital gain) of ___________ b. Mark has a partnership basis of $50,000. He receives $20,000 of cash and a capital asset with a basis to the partnership of $25,000 and a fair market value of $40,000. He will recognize (no gain or loss) of _________. His basis in the capital asset is _________. c. Neil has a partnership basis of $100,000. He receives $40,000 of cash, inventory with a basis to the partnership of $30,000, and a capital asset with a partnership basis of $20,000. The inventory and capital asset have fair market values of $20,000 and $30,000, respectively. He will recognize (no gain or loss) of ___________. The capital asset is allocated a basis of ____________ and the inventory will have a basis of __________. d. Oscar has a partnership basis of $40,000. He receives a distribution of $10,000 of cash and an account receivable with a basis of $0 to the partnership (value is $15,000). He will recognize a (a capital loss) of _________

a. a capital gain; $10,000. Click here to view Concept Summary 11.2, Proportionate Liquidating Distributions When the Partnership Also Liquidates (General Rules). When a partnership liquidates, the liquidating distributions to a partner usually consist of an interest in several or all of the partnership assets. The gain recognition and ordering rules parallel those for current distributions, except that the partner's entire basis in the partnership interest is allocated to the assets received in the liquidating distribution, unless the partner is required to recognize a loss. A loss may be recognized when only cash, unrealized receivables, or inventory is received in the distribution. Gain or loss recognized by a distributee partner in a distribution that liquidates a partnership is usually capital in nature. Landon recognizes a $10,000 capital gain, since the cash received exceeds his basis. b. no gain or loss; $0; $30,000. The general ordering and gain recognition rules for a proportionate liquidating distribution are summarized as follows: Cash is distributed first and results in a capital gain if the amount distributed exceeds the partner's basis in the partnership interest. The cash distributed reduces the liquidated partner's outside basis dollar for dollar. The partner's basis cannot be reduced below zero. The partner's remaining outside basis is then allocated to unrealized receivables and inventory up to an amount equal to the partnership's adjusted bases in those properties. If the partnership's bases in the unrealized receivables and inventory exceed the partner's remaining outside basis, the remaining outside basis is allocated to the unrealized receivables and inventory. Finally, if the liquidating partner has any remaining outside basis, that basis is allocated to the other assets received. A partner's basis in distributed assets must be determined in a certain order. Cash is distributed first, inventory and unrealized receivables second, and all other assets last. Assets in the last category take a substituted basis equal to the distributee partner's remaining outside basis. No gain or loss is recognized by Mark. The $30,000 basis in the partnership interest remaining after the reduction for the $20,000 cash is allocated to the capital asset. ($50,000 - $20,000 = $30,000) c. no gain or loss; $0; $30,000; $30,000. No gain or loss is recognized by Neil, since the cash received does not exceed his basis. A partner's basis in distributed assets must be determined in a certain order. Cash is distributed first, inventory and unrealized receivables second, and all other assets last. Assets in the last category take a substituted basis equal to the distributee partner's remaining outside basis. Because a partner's basis in distributed assets must be determined in a certain order, Neil's basis in the inventory is $30,000, and the capital asset is allocated the remaining $30,000 basis of Neil's partnership interest remaining after the reduction for the cash and the amount allocated to the inventory. $100,000 - $40,000 = $60,000 remaining balance. Next allocate inventory, $60,000 - $30,000 = $30,000 remaining balance to capital asset. d. a capital loss; $30,000 A partner recognizes loss when (1) the partner receives only cash, unrealized receivables, or inventory and (2) the partner's outside basis is greater than the partnership's inside basis of the assets distributed. Oscar recognizes a $30,000 capital loss on the distribution. He receives only cash and unrealized receivables in the distribution, and his basis in the assets received ($10,000 basis in cash + $0 carryover basis in the account receivable) is less than his $40,000 basis in the partnership interest before the distribution. ch21

At the beginning of the tax year, Melodie's basis in the MIP LLC was $60,000, including her $40,000 share of the LLC's liabilities. At the end of the year, MIP distributed to Melodie cash of $10,000 and inventory (basis of $6,000, fair market value of $10,000). In addition, MIP repaid all of its liabilities by the end of the year. a. If this is a proportionate current distribution, what is the tax effect of the distribution to Melodie and MIP? After the distribution, what is Melodie's basis in the inventory and in her MIP interest? If this is a proportionate current distribution, the cash distribution plus relief of liabilities (decrease) Melodie's basis to _________ After the distribution of inventory, what is Melodie's basis in the inventory and in her MIP interest? Basis in inventory Basis in MIP b. Would your answers to part (a) change if this had been a proportionate liquidating distribution? Melodie would have recognized a (loss )of ___________, and her basis in the inventory would have been ____________.

a. decrease; $10,000; $6,000; $4,000. In general, neither the partner nor the partnership recognizes gain or loss when a proportionate current distribution occurs. The partner usually takes a carryover basis for the assets distributed. The distributee partner's outside basis is reduced (but not below zero) by the amount of cash and the adjusted basis of property distributed to the partner by the partnership. A reduction of a partner's share of partnership debt is treated as a distribution of cash from the partnership to the partner. A reduction of a partner's share of partnership debt, then, first reduces the partner's basis in the partnership. Any reduction of a share of debt in excess of a partner's basis in the partnership is taxable to the partner as a gain. Melodie is treated as receiving cash distributions of $50,000 ($10,000 cash plus $40,000 relief of liabilities). The distributions reduce Melodie's basis to $10,000. The inventory takes a carryover basis to Melodie of $6,000, and reduces her basis in MIP to $4,000. b. loss; $4,000; $6,000. Proportionate liquidating distributions consist of a single distribution or a series of distributions that result in the termination of the partner's entire interest in the partnership. If the partnership continues in existence after the partner's interest is liquidated, the rules of § 736 govern the classification of the liquidating payments. Other rules apply, however, if the partner's interest is liquidated because the partnership is also liquidating. The partnership itself does not recognize either gain or loss on a proportionate liquidating distribution. When a partnership liquidates, the liquidating distributions to a partner usually consist of an interest in several or all of the partnership assets. A loss may be recognized when only cash, unrealized receivables, or inventory is received in the distribution. As with a current distribution, gain is recognized if distributed cash exceeds the partner's basis before the distribution. The ordering rules also parallel those for current distributions, except that the partner's entire basis in the partnership interest is allocated to the assets received in the liquidating distribution, unless the partner is required to recognize a loss. As a result of the ordering rules, the basis of some assets may be adjusted upward or downward to absorb the partner's remaining outside basis. Unrealized receivables or inventory are never "stepped up," although they may be "stepped down". If this is a proportionate liquidating distribution, Melodie recognizes a loss of $4,000, and her basis in the inventory will be $6,000. The inventory cannot be "stepped up" to absorb the $10,000 of basis remaining after the cash distribution. Because Melodie has received only cash and inventory, she may claim the loss. ch21

Liz and John formed the equal LJ Partnership on January 1 of the current year. Liz contributed $80,000 of cash and land with a fair market value of $90,000 and an adjusted basis of $75,000. John contributed equipment with a fair market value of $170,000 and an adjusted basis of $20,000. John had used the equipment in his sole proprietorship. If an amount is zero, enter "0". a. How much gain or loss will Liz, John, and the partnership realize? Liz realizes a gain of __________ on contribution of the land. John realizes a gain of _________ on contribution of the equipment. The partnership realizes a __________ equal to the ________ b. How much gain or loss will Liz, John, and the partnership recognize? Liz recognizes________ John recognizes ________ The partnership recognizes _______ c. What tax bases will Liz and John take in their partnership interests? Liz's basis in the partnership is _______, and John's basis is ________ in his partnership interest. d. What § 704(b) book basis will Liz and John take in their partnership interests? e. What bases will the partnership take in the assets it receives? The partnership will take a ________ carryover basis in all the assets it receives. f. Are there any differences between inside basis and outside basis?Each partner's basis in the partnership interest is referred to as outside basis. The adjusted basis of each partnership asset, as determined from the partnership's tax accounts is referred to as inside basis. What is the amount of the partners' inside basis? What is the amount of the partners' outside basis? g. How will the partnership depreciate any assets it receives from the partners? Select "Yes" or "No", whichever is applicable. - The partnership will "step into John's shoes" in determining its depreciation expense. - The partnership may choose its own useful life and depreciation method. h. Do additional considerations arise because of the difference between the basis and fair market values of the property John contributed? John's property has a _________ precontribution gain, so note that the partnership must allocate the depreciation expense between the partners in accordance with the § 704(c) Regulations.

a. gain; $15,000; gain; $150,000; gain; value of the property it receives. When a partnership is formed, the partners contribute cash and other property in exchange for the interest in the partnership. When a partner makes a tax-deferred contribution of an asset to the capital of a partnership, any potential gain or loss recognition is postponed rather than excluded. The contributed assets held by the partnership and the partnership interest held by the partner are both assigned a basis that is derived from the partner's basis in the contributed property. When a taxpayer transfers property to an entity in exchange for valuable consideration, both the taxpayer and the entity realize but may not necessarily recognize gain or loss on the exchange. Liz realizes a gain of $15,000 on contribution of the land. John realizes a gain of $150,000 on contribution of the equipment. The partnership realizes a gain equal to the value of the property it receives (it has a $0 basis in the partnership interests it issues). b. $0; $0; $0. In most situations, § 721 provides that neither the partner nor the partnership recognizes any realized gain or loss that results when a partner contributes property to a partnership. This applies when the property is contributed in exchange for a partnership interest upon formation of the entity or if the contribution occurs at some later date. The realized gain or loss is deferred. There are two reasons for this treatment. First, forming a partnership allows investors to combine their assets toward greater economic goals than could be achieved separately. Only the form of ownership, rather than the amount owned by each investor, has changed. Second, because the partnership interest received is typically a nonliquid asset, the partner may not have sufficient cash with which to pay the tax. Therefore, under § 721, neither the partnership nor either of the partners recognizes any gain on formation of the entity. c. $155,000; $20,000. The partner's outside basis in the new partnership interest is the same as the partner's basis in the contributed assets. This is called a substituted basis: the basis in assets is "substituted" for the basis in the partnership interest. Liz will take a substituted basis of $155,000 in her partnership interest ($80,000 cash plus $75,000 basis in land). John will take a substituted basis of $20,000 in his partnership interest ($20,000 basis in the equipment). d. $170,000. Section 722 provides that the basis of a partner's (member's) interest acquired by a contribution of property, including money, is the amount of such money and the adjusted basis of such property to the contributing partner (member) at the time of the contribution. The § 704(b) book basis is the fair market value of the contributed cash and property. Both Liz and John will have a $170,000 § 704(b) book basis, because that is the value of the property each partner contributed. (Liz: $80,000 cash + $90,000 land; John: $170,000 equipment.) Equal partners generally contribute equal values. e. $175,000; carryover. When a partner makes a tax-deferred contribution of an asset to the capital of a partnership, any potential gain or loss recognition is postponed rather than excluded. The contributed assets held by the partnership and the partnership interest held by the partner are both assigned a basis that is derived from the partner's basis in the contributed property. The partnership's basis in the contributed assets (inside basis) equals the partner's basis in the property prior to its transfer to the partnership. This is called a carryover basis: the partner's basis "carries over" to the partnership. The partnership will take a carryover basis in all the assets it receives ($80,000 basis in cash, $75,000 basis in land, and $20,000 basis in equipment). f. outside; inside; $175,000; $175,000. Inside basis refers to the partnership's adjusted tax basis for each asset it owns. Outside basis represents each partner's basis in the partnership interest. In many cases, especially upon formation of the partnership, the sum of the partnership's inside bases in its assets equals the sum of the partners' outside bases in the partnership interests. When income or gain flows through to a partner from the partnership, the partner's outside basis in the partnership interest is increased. When a deduction or loss flows through to a partner, basis is reduced. The justification for these increases and decreases in the partner's basis is to ensure that these items are taxed only once. The partnership's inside basis is its basis in the assets it owns. For property contributed by a partner to the partnership, the inside basis is a carryover basis (i.e., the partner's basis in the asset carries over to the partnership). The partner's outside basis is the partner's basis in the partnership interest. Upon formation of the partnership, the partner's basis in contributed property is substituted for the partner's basis in the partnership interest. The partners' outside bases in their partnership interests total $175,000: Liz's basis of $155,000 plus John's basis of $20,000. This is the same as the partnership's inside basis in assets of $175,000 ($80,000 cash + $75,000 land plus $20,000 equipment). g. Yes; No. If depreciable property is contributed to the partnership, the partnership is usually required to use the same cost recovery method and life used by the partner. Since the partnership uses a carryover basis, it will "step into John's shoes" in determining its depreciation expense. It will use the remaining depreciable life and the same depreciation rates John would have used. h. $150,000; must. John's property has a $150,000 precontribution gain, so note that the partnership must allocate the depreciation expense (and any eventual gain if the property is sold) between the partners in accordance with the § 704(c) Regulations. ch21

This year, Chuck and Nick formed the equally owned CN Partnership (a general partnership). Chuck contributed $300,000 of cash and Nick contributed real estate valued at $450,000 (basis of $100,000). The property was subject to a recourse liability of $150,000 that was assumed by CN. a. What are Chuck's and Nick's bases in their CN interests immediately after CN was formed? Chuck:$ Nick: $

chuck = 375,000 Nick = 25,000 CH21