1 / 84

Consequences To The Buyer or Beneficiary

Consequences To The Buyer or Beneficiary. General Consequence To The Buyer/Beneficiary Code Secs. 743.

kirkan
Download Presentation

Consequences To The Buyer or Beneficiary

An Image/Link below is provided (as is) to download presentation Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author. Content is provided to you AS IS for your information and personal use only. Download presentation by click this link. While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server. During download, if you can't get a presentation, the file might be deleted by the publisher.

E N D

Presentation Transcript

  1. Consequences To The Buyer or Beneficiary

  2. General Consequence To The Buyer/BeneficiaryCode Secs. 743 • Code Sec. 743(a) provides the general rule that “[t]he basis of partnership property shall not be adjusted as the result of a transfer of an interest in a partnership by sale or exchange or on the death of a partner unless the election provided by section 754 (relating to optional adjustment to basis of partnership property) is in effect with respect to such partnership or unless the partnership has a substantial built-in loss immediately after such transfer.”

  3. Buyer Basis in Partnership InterestCode Secs. 742 • §742 provides that a partner takes a cost basis for a partnership interest acquired by purchase; cost includes the partner’s share of any partnership liabilities.

  4. Example 4-17: Purchase of Partnership Interest • The NOP Manufacturing Partnership is a calendar year partnership formed by Norma, Oppie, and Peter on January 1. • 30% partner Norma contributes $3,000 • 30% partner Oppie contributes $3,000 • 40% partner Peter contributes $4,000 • The partnership earns operating income of $100,000 per year every year. • In year 2, the partnership purchases land for $110,000.

  5. Example 4-17 • The partnership does not distribute any of its profits to the partners in years 1 and 2. • NOP has no debt and no Section 751 assets. • At the beginning of year three the partnership assets consist of: AssetInside Basis FMV Cash $100,000 $100,000 Land 110,000 210,000 Goodwill 0$690,000 Total Assets $210,000 $1,000,000

  6. Example 4-17 • January 1 of year three, Norma sells her interest for $300,000 to Jay (30% X 1,000,000 = $300,000) Amount Realized ……………………… $300,000 Beginning Outside Basis $3,000 30% of Year 1 Income 30,000 30% of Year 2 Income 30,000 Norma’s Outside Basis………. < 63,000> Recognized Gain on Sale $ 237,000 • Norma recognizes capital gain of $237,000

  7. Example 4-17 • Jay’s beginning outside basis is $300,000 per Section 742. • If the partnership sells the land one month after Jay joins the partnership, the general rule of Code Sec. 743(a) is that Jay must recognize $30,000 (30% X 100,000 gain) on the sale of the partnership land. • Assume that the land sale gain is the only partnership income in year 3 and that none of the proceeds are distributed to the partners.

  8. Example 4-17 • Jay’s beginning outside basis………... $300,000 Jays’ Year 3 capital gain from land sale 30,000 Jay’s outside basis at start of year 4. $330,000 • Note that on these facts, the impact of the Sec 743(a) general rule is to cause’s Jay’s outside basis to be disproportionately high by $30,000. • If Jay sold his partnership interest at the beginning of year 4 (assuming no additional appreciation from his date of purchase), then Jay would sell for $300,000 and recognize a <$30,000> capital loss per Code Sec. 741.

  9. Amount of the Increase or DecreaseCode Sec 743(b)

  10. Benefit to BuyerCode Sec. 743(b) • To avoid taxing a buying partner on the pre-purchase appreciation of his proportionate share of partnership assets, the partnership may elect under §754 to adjust the basis of its assets under §743(b).

  11. With Section 754 ElectionCode Secs. 743(b)(1) • “In the case of a transfer of an interest in a partnership by sale or exchange or upon the death of a partner, a partnership with respect to which the election provided in section 754 is in effect…. • increase the adjusted basis of the partnership property by the excess of the basis to the transferee partner of his interest in the partnership over his proportionate share of the adjusted basis of the partnership property, or

  12. Code Secs. 743(b)(2) • decrease the adjusted basis of the partnership property by the excess of the transferee partner's proportionate share of the adjusted basis of the partnership property over the basis of his interest in the partnership.”

  13. Code Secs. 743(b)(2) Flush Language • “Under regulations prescribed by the Secretary, such increase or decrease shall constitute an adjustment to the basis of partnership property with respect to the transferee partner only.” • “A partner's proportionate share of the adjusted basis of partnership property shall be determined in accordance with his interest in partnership capital and, in the case of property contributed to the partnership by a partner, section 704(c) (relating to contributed property) shall apply in determining such share.”

  14. Allocation Of Basis Adjustment Code Secs. 743(c) and 755 • Sec. 743(c): “The allocation of basis among partnership properties where subsection (b) is applicable shall be made in accordance with the rules provided in section 755.”

  15. Allocation Of Increase Or Decrease Among Partnership Properties Code Sec 755

  16. Code §755 • Section 755(a) general rule: “Any increase or decrease in the adjusted basis of partnership property under …section 743(b) (relating to the optional adjustment to the basis of partnership property in the case of a transfer of an interest in a partnership) shall, except as provided in subsection (b) , be allocated— • in a manner which has the effect of reducing the difference between the fair market value and the adjusted basis of partnership properties, or • in any other manner permitted by regulations prescribed by the Secretary.”

  17. Example 4-18 Section 743(b) and 755 • Return to the facts of Example 4-17 where 30% partner Jay’s beginning outside basis (cost) was $300,000 per Section 742. • At the time of purchase the partnership assets consisted of: AssetInside Basis FMV Cash $100,000 $100,000 Land 110,000 210,000 Goodwill 0$690,000 Total Assets $210,000 $1,000,000

  18. Example 4-18 Section 743(b) and 755 • Jay’s outside basis over proportionate share of inside basis is $237,000 (300,000 – 63,000 (30% X 210,000) . • If the NOP partnership makes a Section 754 election, then the partnership will make an upward adjustment of $237,000 under Code Sec. 743(b)(1) to Jay’s proportionate share of inside basis. • Allocation of $237,000 under Sec. 755(a): • $30,000 increase to Jay’s basis in land • 207,000 increase to Jay’s basis in the goodwill.

  19. How to Make a Section 754Election

  20. Section 754 Election Section 743 Section 734 Purchase or Inheritance Distributions

  21. How Partnership Makes Sec 754 ElectionReg. Sec. 1.754-1(b): • A written statement is filed with a timely (including extensions) partnership return for the year during which the distribution or transfer is made, which shall: • set forth the name and address of the partnership; • be signed by any one of the partners; • contain a declaration that the partnership elects under §754 to apply the provisions of §734(b) and §743(b)

  22. Revocations of Sec 754 ElectionReg. Sec. 1.754-1(c)(1) • “A partnership which wishes to revoke such an election shall file with the district director for the internal revenue district in which the partnership return is required to be filed an application setting forth the grounds on which the revocation is desired.” • “The application shall be filed not later than 30 days after the close of the partnership taxable year with respect to which revocation is intended to take effect and shall be signed by any one of the partners.”

  23. Revocations of Sec 754 ElectionReg. Sec. 1.754-1(c)(2) • “Notwithstanding paragraph (c)(1) of this section, any partnership having an election in effect under this section for its taxable year that includes December 15, 1999 may revoke such election effective for transfers or distributions occurring on or after December 15, 1999, by attaching a statement to the partnership's return for such year.” • See Reg. 1.754-1(c)(2) for details.

  24. Sale or Bequest with Partnership Substantial Built-in Loss

  25. Substantial Built-in Loss Code Secs. 743(b) • “In the case of a transfer of an interest in a partnership by sale or exchange or upon the death of a partner, a partnership with respect to which the election provided in section 754 is in effect or which has a substantial built-in loss immediately after such transfer shall— • increase the adjusted basis of the partnership property by the excess of the basis to the transferee partner of his interest in the partnership over his proportionate share of the adjusted basis of the partnership property, or • decrease the adjusted basis of the partnership property by the excess of the transferee partner's proportionate share of the adjusted basis of the partnership property over the basis of his interest in the partnership.”

  26. Definition of Substantial Built-in LossCode Sec. 743(d)(1) • “For purposes of [Sec. 743] , a partnership has a substantial built-in loss with respect to a transfer of an interest in a partnership if the partnership's adjusted basis in the partnership property exceeds by more than $250,000 the fair market value of such property.” Continued

  27. Legislative Regulations PendingCode Sec. 743(d)(2) • “The Secretary shall prescribe such regulations as may be appropriate to carry out the purposes of paragraph (1) and section 734(d) , including regulations aggregating related partnerships and disregarding property acquired by the partnership in an attempt to avoid such purposes.” Continued

  28. Substantial Built-in Loss: Example 4-19 MLSJ Partnership prior to sale of Josey’s Interest To Quan for $600,000. All partnership assets were purchased by the partnership. Continued

  29. Example 4-19 • Note: the partnership has a built-in loss because partnership inside basis (3.4 mil.) exceeds the FMV of partnership assets (2.4 mil.) by over $250,000 ($1 mil). • Josey sells her partnership interest to Quan for $600,000 and Josey recognizes a capital loss of <$250,000> under Section 741. • Quan’s outside basis is his cost of $600,000.

  30. Example 4-19 • Old Law • Absent a Section 754 election, under pre-Jobs Act law, Quan would have a share of the inside basis in the land of $400,000. • Therefore, if the land were subsequently sold for $600,000 ($150,000 share of sales proceeds per partner): • Quan would be allocated <$250,000> of the loss ($150,000 – 400,000).

  31. Example 4-19 • For a Transfer After October 22, 2004 (Jobs Act): • Due to the substantial built-in loss in partnership assets Quan is treated as if the partnership had a Section 754 election in effect. • Quan’s share of the inside basis in the land is adjusted downward by <$250,000> (from $400,000 to $150,000) under Section 743(b)(2) (excess of inside basis over outside basis) • Therefore, if the land were subsequently sold for $600,000, Quan would not be entitled to a loss ($150,000 - $150,000) • The other partners would each be allocated a loss of <$250,000>.

  32. AJCA of 2004Code Sec. 743(d)(1) • The mandatory basis adjustment for transfers in cases involving a substantial built-in loss also applies in cases where a partnership interest is transferred due to the death of the partner. • Effective Date of 2004 Act: The rules for transfers of partnership interests if there is a substantial built-in loss apply to transfers after October 22, 2004 Continued

  33. AJCA of 2004 Special Election for Investment PartnershipsCode Sec. 743(e) Continued

  34. Exception For Securitization Partnerships Code Sec 743(f)

  35. IRS Interim Guidance (April 2005)Notice 2005-32

  36. IRS Interim Guidance (April 2005)Notice 2005-32 • Notice 2005-32 provides interim procedures for partnerships and their partners to comply with the mandatory basis provisions of §§ 734 and 743, as amended by the Jobs Act of 2004. • This notice also provides interim procedures for electing investment partnerships (EIPs) and their partners to comply with §§ 743(e) and 6031(f). • Essentially, partnerships and partners are instructed to make the adjustments mandated by the 2004 Act as if a Section 754 election were in effect.

  37. Code Sec 743 Details

  38. Code Secs. 743(b) Adjustments • Increase the adjusted basis of the partnership property by the excess of the basis to the transferee partner of his interest in the partnership over his proportionate share of the adjusted basis of the partnership property, or • Decrease the adjusted basis of the partnership property by the excess of the transferee partner's proportionate share of the adjusted basis of the partnership property over the basis of his interest in the partnership.

  39. Section 743(b) Adjustment • Purpose of the §743(b) adjustment: • give new partners a special inside basis in their share of partnership assets, and in so doing, • place them in roughly the same position as if they had purchased those assets directly. • The mechanics of computing and allocating the adjustment are more complicated.

  40. Sec 743 Adjustment MechanicsReg. Sec. 1.743-1 (d) • Reg. 1.743-1(d)(1) Generally. A transferee's share of the adjusted basis to the partnership of partnership property is equal to the sum of • the transferee's interest as a partner in the partnership's previously taxed capital, • plus the transferee's share of partnership liabilities.

  41. Reg. Sec. 1.743-1 (d) • Generally, a transferee's interest as a partner in the partnership's previously taxed capital is equal to— • The amount of cash that the transferee would receive on a hypothetical sale (detail below) • Increased by the amount of tax loss (including any remedial allocations), that would be allocated to the transferee from the hypothetical transaction; and

  42. Reg. Sec. 1.743-1 (d) • Decreased by the amount of tax gain (including any remedial allocations), that would be allocated to the transferee from the hypothetical transaction. • Hypothetical transaction defined. The hypothetical transaction means the disposition by the partnership of all of the partnership's assets, immediately after the transfer of the partnership interest, in a fully taxable transaction for cash equal to the fair market value of the assets.

  43. Example of Previously Taxed Capital • Return to the facts above where Jay paid $300,000 to Norma for a 30% partnership interest when Norma’s share of inside basis was $63,000 (30% X 210,000)). Assume the partnership makes a Sec 754 Election. • At the time of purchase the partnership assets consisted of: AssetInside Basis FMV Cash $100,000 $100,000 Land 110,000 210,000 Goodwill 0$690,000 Total Assets $210,000 $1,000,000

  44. Example of Previously Taxed Capital • What is the excess of the basis of Jay’s interest in the partnership over his proportionate share of the adjusted basis of the partnership property? • We know that Jay’s basis in his partnership interest is $300,000 so the only question is the adjusted basis of partnership property. • Jay’s basis in partnership property is equal to his previously taxed capital plus his share of debt (no debt here).

  45. Example of Previously Taxed Capital • What is Jay’s previously taxed capital? • Formula: Proceeds Jay would receive if all assets are sold: $300,000 Minus gain recognized by Jay on hypothetical sale: <237,000> = Previously Taxed Capital: 63,000

  46. Example of Previously Taxed Capital • Jay’s excess of outside basis over his proportionate share of inside basis is $237,000 (300,000 – 63,000 PTC). • Therefore, the partnership makes an upward adjustment to Jay’s private inside basis in partnership assets by $237,000. • If the non-cash assets are subsequently sold for $900,000, Jay will not recognize any gain or loss (300,000 – 300,000)

  47. Interaction of Code Secs. 704(c)and 743

  48. Transfers Of A Partnership InterestReg § 1.704-3(a)(7). • “If a contributing partner transfers a partnership interest, built-in gain or loss must be allocated to the transferee partner as it would have been allocated to the transferor partner.” • “If the contributing partner transfers a portion of the partnership interest, the share of built-in gain or loss proportionate to the interest transferred must be allocated to the transferee partner.”

  49. Section 743(b) Basis AdjustmentsReg § 1.704-3(a)(6)(ii). • “A partnership making adjustments under §1.743-1(b) or 1.751-1(a)(2) must account for built-in gain or loss under section 704(c) in accordance with the principles of [Code Sec. 704(c)]”

  50. Reverse 704(c)Example 4-20: • The NOP Manufacturing Partnership is a calendar year partnership formed by Norma, Oppie, and Peter on January 1. • 30% partner Norma contributes $3,000 • 30% partner Oppie contributes $3,000 • 40% partner Peter contributes $4,000

More Related