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Discussion:Check my understanding - partnership

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Discussion Forum Index --> Advanced Tax Questions --> Check my understanding - partnership


Discussion Forum Index --> Tax Questions --> Check my understanding - partnership

Taxmonkey (talk|edits) said:

15 March 2014
I have a client who owns 4 rental properties in a SMLLC. He decides to take on a partner, and sells the new guy 50% of the LLC. Sell is a bit of a euphemism as the FMV of the properties is equal to the mortgage balance on the properties. So the new guy puts in no cash, merely assumes 50% of the debt and receives 50% of the assets.

The new guys inside basis in the partnership is the 50% of the adjusted basis of the assets. His outside basis is 50% of the FMV of the properties which is 50% of the mortgages assumed. He can recover the difference between his inside basis and his outside basis through a section 743(b) adjustment, is that over 27.5 years?

The original partner recognizes gain on the transaction equal to the amount of debt assumed less his adjusted basis in the property. However, none of his unallowed passive losses are freed since this was not a full disposition.

Ckenefick (talk|edits) said:

15 March 2014
Can you put some numbers to this?

Terry Oraha (talk|edits) said:

15 March 2014
751 applies too.

Terry Oraha (talk|edits) said:

15 March 2014
Maybe not I now this was a smllc.

Taxmonkey (talk|edits) said:

15 March 2014
Here are some numbers. Prior to sale total FMV of properties $650k, total mortgages $650k, Adjusted Basis $580k. Original purchase price was $720, and Original Member has about $100k in unallowed passive activity losses.

Original Member sells 50% to New Guy, for $0.

New Guy has inside basis of $290k (580 / 2), outside basis of $325k (assumed mortgages 650 / 2), 743(b) adjustment of $35k which he can recover over 27.5 years - residential real estate.

Original Member recognizes gain of (650k - 580k)/2 = $35k. Which will be treated as unrecaptured section 1250.

Terry Oraha (talk|edits) said:

15 March 2014
I concur!

Markb29 (talk|edits) said:

15 March 2014
taxmonkey

Are you sure about that ? I don't have access to research now but pretty sure it is rev rul 99-5 that would say new guy bought 1/2 interest in real estate and old partner and new partner then each contributed their real estate to the partnership. this all deemed to occur. If I am correct, new guy has higher tax basis ( 325k) in real estate he is contributing and old guy has his 290k of carryover basis. would have to allocate uncder 704c rules.

Check that ruling .

Terry Oraha (talk|edits) said:

16 March 2014
Oh boy i dont have access to research either but that too makes sense.

DAJCPA (talk|edits) said:

16 March 2014
Depends on whether the assumption of the debt is considered an investment in the LLC (not a purchase/sale of assets, just a contribution of capital) or a payment to the existing member (purchase of assets and contribution a new partnership). I'd tend to lean towards the latter, but I don't know for sure. If it is a contribution of capital, still might have a disguised sale since the debt relief to existing member would likely be deemed distribution.

Taxmonkey (talk|edits) said:

16 March 2014
I am sure of very little, and none of what I am sure about involves partnerships.

99-5 is interesting, it presents an analysis of 2 LLCs, one of which the new partner gives cash to the selling partner outside the partnership and the other in which the new partner gives cash to the partnership. My scenario more closely resembles the second scenario (imho), although instead of giving cash the new partner assumes liability for the debt, however the debt is still within the partnership. 99-5 further goes on to say that neither party recognizes any gain or loss due to 721(a), Original Member would have carry over basis of $290k, New guy would have basis of $325k. 99-5 ends there without addressing 704(c).

Under 704, the original member has a built in gain on the contribution of the property as the book value ($325k) is higher than his adjusted basis ($280k). To address this, the New guy would take depreciation at the rate of the book value ($325k), while the partnership as a whole takes depreciation at the adjusted basis ($580k), with the additional depreciation taken by the New Guy, offset by reducing the depreciation allocated to the original member. Under this scenario the difference in values would be equalized over the remaining depreciable life of the property, which is less than 27.5 years.

The end result is nearly the same as in my original post, but under 99-5 and 704 the Original Member would not recognize any gain this year.

Ckenefick (talk|edits) said:

16 March 2014
http://www.actec.org/Documents/Revenue_Rulings/Revenue_Ruling_99-5.pdf.pdf

Here's the RR. I tend to think you can't have a capital contribution when you contribute no capital. That leaves the only possibility as being a sale of interest. So I lean with DAJ.

Ckenefick (talk|edits) said:

16 March 2014
I think if you want Situation #2, you can certainly make that happen if we throw an actual cash contribution into the mix, that actually goes into the partnership. In addition, we'd want the paperwork to reflect capital contribution treatment as well.

But keep in mind: Those RR's don't involve debt (99-5 and 99-6, which were issued at the same time). This is one beef the AICPA has with the RR's.

http://www.aicpa.org/Advocacy/Tax/Partnerships/DownloadableDocuments/Comments-on-Rev-Ruling-99-5-v-6-5-13submit.pdf

Taxmonkey (talk|edits) said:

16 March 2014
OK so an assumption of debt cannot be a capital contribution, which would mean that the assumption of liability would result in a capital gain to the original member which leads us back full circle to very nearly the same results as the original post.

I also, found this article although I have not had time to digest it:

http://www.aicpa.org/Advocacy/Tax/Partnerships/DownloadableDocuments/Comments-on-Rev-Ruling-99-5-v-6-5-13submit.pdf

Taxmonkey (talk|edits) said:

16 March 2014
LOL jinx

Taxmonkey (talk|edits) said:

16 March 2014
To follow through on the treatment with scenario 1:

1) Original Member recognizes gain based on the assumption of liabilities less his adjusted basis ($325k - $290k = $35k) 2) Original Member contributes remaining 50% of property to partnership and has inside basis of $290k 3) New Guy contributes his 50% of property and has inside basis of $325k

Now the Original Member still has built in gain from his contribution, I presume that 704 would still be in play to address that.

Ckenefick (talk|edits) said:

16 March 2014
Which way do you want it, TaxMonkey?

Taxmonkey (talk|edits) said:

16 March 2014
The right way =)

Won't be any immediate tax effect given that there are also capital loss carry overs in excess of $100k

I think that the new partner was thrilled to not actually have to put in any cash. He is in a very different financial position from the original member (read may not have 2 quarters to rub together).

Ckenefick (talk|edits) said:

16 March 2014
In your situation, you have $0 cash/property consideration. I tend to think that this cannot be a 721 situation. But, I also think you get legitimately get it into 721 if you so desire. All it would take is a slight cash contribution, that stays inside the partnership.

But I should reiterate that the 2 RR's don't speak to debt. They are over-simplifications of the real world. The AICPA has asked for real world guidance, but none has come.

As such, you'd have to take a position as to liability issue, including the disguised sale rules, but the debt assumption/shift in question could likely be excused if the liabilities are "qualified" as per the -6 Reg of 707.

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