Part (A) Land Sold for 10,000. Partnership Book Gain = 0, Tax Gain $6,000

Question 8,

PartnerCapitalTax704(c) GainPtshp

AccountBasisGainBasis

A: Automobile$20,000$15,000$5,000$15,000

B: Cash$20,000$20,000$ 0$20,000

C:Cash$10,000$10,000$ 0$10,000

Land$10,000$ 4,000$ 6$ 4,000

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Total C$20,000$14,000$ 6

Part (a) – Land sold for 10,000. Partnership Book gain = 0, Tax Gain $6,000

No adjustments to book capital account since there is no gain.

Tax gain is allocated to partner C pursuant to Sec. 704(c)

The gain is considered capital and allocated to C. C increases her basis in the partnership by 6,000.

PartnerCapitalTax704(c) GainPtshp

AccountBasisGainBasis

A: Automobile$20,000$15,000$5,000$15,000

B: Cash$20,000$20,000$ 0$20,000

C:Cash$20,000$20,000$ 0$20,000

Part b

Basis for tax depreciation - 15,000, annual tax depreciation $3,000

Basis for book depreciation - $20,000, annual book depreciation $4,000

Only 3,000 may be allocated to the partners under the regs since that is the maximum depreciation allowed for tax purposes (Reg. Sec. 1.704-3(b)(1) and 1.704-3(b)(2) example 1(ii). The $3,000 is allocated as follows:

Partner B &C = $1,333 each (the amount they would have received under book depreciation

Partner A = $634 the residual. This equitably takes into consideration the variation between basis and fair market value.

Part c:

Part (a) – Land sold for 7,000. Partnership Book Loss = 3,000, Tax Gain $3,000

Tax gain is allocated to partner C pursuant to Sec. 704(c)

A & B are denied any loss by the ceiling rule in Reg. 1.704-3.

Even though A and B had an economic loss, it is ignored because the partnership did not realize a tax loss (Reg. 1.704-3(b)(2) example 1.

The loss will ultimately be recognized by A & B when the partnership interest is liquidated or sold. A&B will experience time value of money loss though.

Part b

Basis for tax depreciation - 10,000 annual tax depreciation $2,000

Basis for book depreciation - $20,000, annual book depreciation $4,000

Only 2,000 may be allocated to the partners under the regs since that is the maximum depreciation allowed for tax purposes (Reg. Sec. 1.704-3(b)(1) and 1.704-3(b)(2) example 1(ii). The $2,000 is allocated as follows:

Partner B &C = $1,000 each for tax (the amount they would have received under book depreciation / Partner A =0

Partner B&C capital accounts are reduced by $1,333 each for book depreciation. Curative allocations or residual allocations (Reg. 1.704-3(c) or remedial allocations (Reg. 1.704-3(d) can be used to allocate $ 333 of other depreciation that would have been allocated to A to make B&C whole. The tax and book accounts of the non-contributors would then be intact.

Part e

Use the remedial allocation or curative allocation to overcome the ceiling rule.

Allocate a $1,000 loss to both A&B while allocating an additional $2,000 to C.

Thus, C would recognize a $5,000 gain A&B would recognize $2,000 loss, the net effect is a tax gain of $3,000.

Sec 724 – character of the $9,000 gain is ordinary because it is sold within 5 years of contribution.

Precontribution gain allocated to C – 6,000

Post contribution gain – split evenly.

After year 5, the taint would no longer exist. It would be capital in nature.

Part g

Sec. 724 overrides the traditional characterization rules for converting pre-contribution capital loss into ordinary loss.

Sec 724(c) capital loss status continues for 5 years.

$13,000 loss is capital allocated - $15,000 loss to B and $2,000 evenly to all three partners.

If sold at $17,000 loss – 15K is capital, 2K is ordinary

Allocated - $15K loss to Partner B, and 2K loss evenly to all 3 partners.