Sale of Partnership Interest
Entity theory
Section 741. Business is treated as a separate business, and gain or loss on the sale is treated as a capital loss.
- Exchange
- Gift
- Death
- Abandonment
Computation of gain or loss:
Proceeds received minus tax basis in the interest in the partnership equals gain or loss.
The gain is allocated as capital gain/loss and ordinary gain/loss (section 751 FMV assets)
- Section 751 is the Fair Market Value of assets in the partnership interest.
- Capital Gain is also allocated by different capital gain rates
Section 751 (ordinary gain) is
- Unrealized receivables
- Inventory items
- Depreciable assets and recapture
- Built-in gain and losses
- Amortizable assets and recapture
Assets depreciation is calculated not as tax value but as fair market value.
Residual gain (after the ordinary gain calculation) is the capital gain at different tax rates.
The selling partner receives K-1 (1065 ) Box 20 Section 1250. Partner needs to notify the partnership to provide this form.
Box 20 1065
Codes AB (751 gain/loss
Code AC section 1(h)(5) gain/loss
Code AD 1250 unrecaptured gain.
The buyer will continue to use these assets at the values that he/she purchased the assets for (FMV) allocated.
Example:
Partner sells 30% interest for $30,000 in cash and released liabilities of $3,000
Partner’s basis was $3,300
($30,000+$3,000) - $3,300 = $29,700
Partner’s basis consisted of assets:
- Building (FMV) $1,000 + $2,000 (accumulated depreciation)
$27,700 capital gain + $2,000 ordinary gain
Partnership files form 8308.
Fair market value is the price that the seller would receive for the item in a regular transaction.
If a contractual agreement between the buyer and the seller the IRS considers unreasonable, the IRS will adjust the amounts.
Goodwill can be created once the assets purchased are put on the tax books of the buyer-partner.
- Fully depreciated assets still have a fair market value that needs to be assigned as the value during the sale.
- Leasehold improvements still have fair market value as well.
- Intangible assets (goodwill, for example) still have to account for amortization recapture, and still have to be accounted for the FMV during the sale.
Generally, assets don’t decline in value unless there is a recession or another unusual event.
SALE OF 30% of PARTNERSHIP INTEREST FOR $70,000 EXAMPLE
| Building | Cost $100,000 | Accum. Depr $80,000 | FMV$190,000 | = $80,000Section 1250 gain |
| Goodwill | Cost $50,000 | Accu. Amort. $45,000 | FMV $50,000 | = $45,000Section 751 |
| Parking Lot | Cost $10,000 | Accm. Depr$5,000 | FMV $5,500 | = $500Section 1250 |
| Desktop | Cost $3,000 | Acc. Depr. $3,000 | FMV $3,000 | =$3,000Section 751 |
| Intangible Assets Gain Section 751 | Section 1250 Gain | Section 751 Gain | |
| $45,000 | $80,500 | $3,000 | |
| Partner’s Interest % | Partner’s Interest % | Partner’s Interest % | |
| $13,500 | $24,150 | $900 |
Gain should be allocated between FMV, 751 assets gain, unrecaptured section 1250 gain= ordinary income
The remaining gain is capital gain at different tax rates.
Partner K-1 1065 reports gain at:
- box 20 AB $ 13500+ $900
- Box 20 AD $ 24,150
- Check the box if the decrease is due to the sale or exchange of partnership interest.
- 8308 explanation date and the transaction of the sale.
- Reporting on form 8949 capital gain of $31,450
Centralized partnership audit regime 2018 January 1 is for all partnerships unless elected to elect out.
Under this audit regime, the partnership is liable for the tax.
8980 might be submitted by the partnership to request a modification.
8988 might be submitted to push out liability to partners.