Sample Answer to Question 1
Partnership Tax
Spring 2004

Exam No. 4793

A.

A partner’s basis in her partnership interests is equal to the amount of any money contributed and the basis of any property contributed under § 722. Under § 752, a partner may also include a portion of the partnership’s liabilities in her outside basis. If the debt is nonrecourse, a partner’s share of the partnership liability equals the portion of the liability for which the partner bears the economic risk of loss. A partner bears the economic risk of loss to the extent that the partner would be obligated to make a payment in the case of a constructive liquidation.

In this case, Mark would have a basis his partnership interest of $100,000 from the cash contribution under § 722. Additionally, he may add to his basis that portion of the debt for which he bears the economic risk of loss. If the partnership were constructively liquidated, the cash and stock would have a value of zero, resulting in a $600,000 loss passed through to the partners at 50%, 25%, and 25%, or $300,000, $150,000, and $150,000, reducing their capital accounts to negative $200K, $50K, and $50K. Therefore Mark would also receive $200K basis for the loan for a total of $300K basis.

Nancy would also receive $100K basis for her cash contribution, plus $50K basis for her share of the liability, for a total basis of $150K.

Olivia would transfer her basis in the securities over, for $400K, then reduce that amount by the amount of debt assumed by the other partners, $300K, for $100K, then increase the amount based on her share of the liability, for $50K, for a total of $150K.

At the end of the first year of operations, the partnership realizes $40K of loss which is not recognized. The partners each reduce their basis according to the agreement: Mark reduces by 20K for 280K, and Nancy and Olivia each reduce by 10K for 140K each.

B.

If the loan were a nonrecourse loan, under § 752 the liability would be allocated to each partner in the amount of the sum of his or her share of partnership minimum gain, his or her share of built in gain, and his or her share of excess nonrecourse liabilities. In this case, there is no built in § 704(c) gain to Olivia, and no partnership minimum gain because the amount of the liability does not exceed the basis. Therefore the $300K will be allocated in accordance with the partners’ share of partnership profits, or $150K to Mark and $75K each to Nancy and Olivia, for total bases of $250K to Mark, and $175K each to Nancy and Olivia. At the end of year one, the loss would pass through and reduce their bases to $230K, $165K, and $165K, respectively.