Chapter 5 - Partnerships

Sale of partnership interest

In general, the sale of a partner's interest in a partnership yields either a capital gain or a capital loss unless the amounts include inventory or unrealized receivables.

a mom and 2 sons are partners where capital is not a material income producing factor. Who is considered a partner for tax purposes?

Only the ones who materially participate in the partnership.

In filing a partnership income tax return, what is the purpose of Schedule K-1?

Schedule K-1 indicates to the individual partners their share of the various income items reported by a partnership.

Taxpayer A contributed stock with a FMV of $10,000 and a basis of $ 5,000 to ABC Partnership (which would be treated as an investment company if it had been incorporated) for a 50% interest. What is the partnership's basis in the stock?

$10,000. If a partnership receives stocks or bonds in exchange for a partnership interest, the partnership's basis is usually determined by the fair market value (FMV) of the stock.

A partner's basis in a partnership interest includes the partner's share of a partnership liability if the liability:

-Creates or increases the partnership's basis in any of its assets, -Gives rise to a current deduction to the partnership, or -Is nondeductible, noncapital expense of the business.

Unrealized receivables include any rights to payment not already included in income for the following items:

-Goods delivered if payment would be treated as received for property other than a capital asset, -Services rendered or to be rendered, and -Other items of potential gain that would be ordinary income if the following partnership property were sold at its fair market value on the date of the payment: 1) Mining property for which exploration expenses were deducted, 2) Stock in a Domestic International Sales Corporation (DISC), 3) Certain farm land if costs for soil and water conservation or land clearing were deducted, 4) Franchises, trademarks, or trade names, 5) Oil or gas property for which intangible drilling and development costs were deducted, 6) Stock of certain controlled foreign corporations, 7)Market discount bonds and short-term obligations, and 8) Property subject to recapture of depreciation under sections 1245 and 1250.

what items are NOT deductible in figuring the partnership's ordinary income or loss?

1) Charitable contributions 2) Foreign income taxes 3) Loss on the sale of machinery held 5 years

How to calculate partners sale of partnership interest

1) Determine gain from sale (Sale price - basis) 2) Determine gain difference from basis and FMV of inventory, and accumulated depreciation on machinery and divide that by your interest, and take that as an ordinary income gains 3) take remainder as capital gain/loss

The rules for the required tax year for partnerships are as follows.

1) If one or more partners having the same tax year own a majority interest (more than 50%) in partnership profits and capital, the partnership must use the tax year of those partners. 2) If there is no majority interest tax year, the partnership must use the tax year of all its principal partners. A principal partner is one who has a 5% or more interest in the profits or capital of the partnership. 3) If there is no majority interest tax year and the principal partners do not have the same tax year, the partnership generally must use a tax year that results in the least aggregate deferral of income to the partners.

Separately Stated Items

1) Short/Long Term Capital Gain/Loss 2) Interest Income 3) Charitable Contributions 4) Rental Income 5) Dividend Revenue

Members of a family who must meet special requirements to be recognized as partners for determining a partner's distributive share include?

1) Spouses. 2) Ancestors. 3) Lineal descendants.

A partner does not recognize loss on a partnership distribution unless all the following requirements are met.

1) The adjusted basis of the partner's interest in the partnership exceeds the distribution 2) The partner's entire interest in the partnership is liquidated 3) The distribution is in money, unrealized receivables, or inventory items

A partnership must conform its tax year to its partners' tax years unless any of the following apply.

1) The partnership makes a section 444 election. 2) The partnership elects to use a 52-53-week tax year that ends with reference to either its required tax year or a tax year elected under section 444. 3) The partnership can establish a business purpose for a different tax year.

A partner who acquired a part of his partnership in a sale may be able to choose a special basis adjustment for the property

A partner who acquired any part of his or her partnership interest in a sale or exchange or upon the death of another partner may be able to choose a special basis adjustment for property distributed by the partnership. To choose the special adjustment, the partner must have received the distribution within 2 years after acquiring the partnership interest. Also, the partnership must not have chosen the optional adjustment to basis when the partner acquired the partnership interest.

Payments made by a partnership to a partner that are determined without regard to the partnership income are called:

Guaranteed payments

How is a retiring partner or successor of deceased partner treated for income tax purposes?

For income tax purposes, a retiring partner or successor in interest of a deceased partner is treated as a partner until his or her interest in the partnership has been completely liquidated.

Which of the following statements about the effect of a sale or exchange of a partner's interest in a partnership is correct?

Generally the transfer of an interest in a partnership does not affect the partnership's basis in an asset, whether by sale or exchange or because of the death of a partner. However, the partnership can elect to make an optional adjustment to basis in the year of transfer.

Partnerships ordinary Income

Gross Sales - COGS - Wages - Insurance - Licenses - Guaranteed Payments

In computing the ordinary income of a partnership, a deduction is allowed for:

Guaranteed payments to partners.

What happens when a partner dies to his self employed income?

If a partner died and the partnership continued, include in self-employment income the deceased's distributive share of the partnership's ordinary income or loss through the end of the month in which he or she died, the remainder of income paid is not subject to SS tax

Members of a family can be partners. However, family members will be recognized as partners only if one of the following requirements is met.

If capital is a material income-producing factor, they acquired their capital interest in a bona fide transaction (even if by gift or purchase from another family member), actually own the partnership interest, and actually control the interest. If capital is not a material income-producing factor, they joined together in good faith to conduct a business. They agreed that contributions of each entitle them to a share in the profits, and some capital or service has been (or is) provided by each partner.

Which of the following statements about payments made to a retiring partner or successor in interest of a deceased partner that are not made in exchange for an interest in the partnership property is correct?

If the amount of the payment is based on partnership income, the payment is taxable as a distributive share of partnership income. Payments made in liquidation of the interest of a retiring or deceased partner in exchange for his or her interest in partnership property are considered a distribution, not a distributive share or guaranteed payment that could give rise to a deduction (or its equivalent) for the partnership.

How is rental income and expenses calculated?

If the partnership is in the business of rental income then the partnership deducts the rent in arriving at the ordinary partnership business income for the period. If not, the rental income and expenses are separately stated items

How do partners who are on different calendars choose a tax year?

If there is no majority interest tax year and the principal partners do not have the same tax year, a partnership generally must use a tax year that results in the least aggregate deferral of income to the partners.

Selling Property between related property (same owner in both partnerships with more then 50% in each)

If you sell or trade at a gain property you acquired from a related party, you recognize the gain only to the extent it is more than the loss previously disallowed to the related party. This rule applies only if you are the original transferee and you acquired the property by purchase or exchange.

How is inventory received in a dissolution of the partnership and then sold taxed?

Inventory received in dissolution of the partnership and sold within 5 years of the date of dissolution will result in ordinary income or loss; not a capital gain or loss. Otherwise it's a capital gain

What happens if the distributed income is more then the guaranteed payment?

No guarantee payment is taken, and he is given only distributed income

Who can deduct depreciation on land contributed to partnership

The one who contributed the land with basis

who's basis goes up when partnership assumes liability

The one who takes responsibility for paying it back

How is a partners liability treated?

When selling partnership interest, the liability assumed by the partnership reduces basis. When contributing property to a partnership with a liability, add the liability you still assume to basis