Partnership Liquidation 731

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Partnership Liquidation 731 732
731 No gain or loss recognized to partner
unless - Gain to extent money distributed
exceeds partners basis in partnership interest.
- Loss recognized if only money and
unrealized receivables and inventory distributed
to extent basis in partners interest exceeds
amount of money distributed and partnerships
basis in receivables and inventory. - Any
recognized gain or loss is from sale or exchange
of partnership interest. 732(b) If property
distributed to partner in liquidation of
partnership interest, basis in property shall
equal partners interest in partnership less
money receives in distribution. 751(b) Game
Applied full tilt. Note 736 Roadmap not
applicable on complete liquidation.
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Complete Liquidation Impact on Partnership
General Rule No gain or loss to partnership
on distributions of property to liquidate a
partners interest in partnership. 731(b)
751(b) Impact To extent of 736(b) payments not
reflect partners proportionate share of
unrealized receivables and inventory, deemed
distribution of additional receivables and
inventory to partner followed by partners sales
to partnership for cash. Impact is ordinary
income to partner and increased basis in such
assets to partnership (result of deemed by
back). Partnerships Assets Basis No
change per 734(a) unless 754 election made. If
754 election, basis in capital or 1231 assets (1)
increased by gain recognized by distributee
partner and excess of partnership basis in
distributed property over basis to distributee
under 732 and (d) decreased by loss recognized
by distributee and excess of distributee basis
over partnerships basis. 708 Termination
Liquidation terminates partnership. Also deemed
termination if 50 or more of partners interest
in profits and capital sold within 12 month
period. Old partnership terminated and new
partnership formed. Complete carryovers, but tax
year closed out and new elections.
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Problem 340
Basic Facts AB balance sheet.
A.B. FMV
A.B. FMV Cash
20k 20k
A Capital 35k 60k AR
0 20k
Inventory 20k 40k
B Capital 35k 60k
Capital Asset 30k 40k
Total 70k 120k
70k
120k AB liquidate. A receives AR plus
capital asset. B receives cash and
inventory. Issue is application of 751(b) for
inventory and receivables. A receives 20k and B
40k. If equal, each would get 30k. Two Options
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Problem 340
Option 1 Deemed 10k inventory distribution to
A, followed by sale back to AB for 10k of
capital asset. - A outside basis reduced 5k
(basis of inventory) on distribution and A have
5k ordinary income on inventory sale back. -
AB partnership have 2.5k LTCG on sale of 10l
capital asset for inventory (excess of 10k over
7.5 basis). Gain allocated to B. After deemed
distribution, sale back, AB inventory basis is
25k (up 5k), AB capital asset basis is 22.5k
(down 7.5k), A outside basis down 5k to 30k and B
outside basis up 2.5k to 37.5k. - No gain
or loss to A on distribution of 20k ARs and
remaining 30k capital asset per 731(a). Per 732,
30k outside basis allocated 0 to ARs (ABs
basis) and 30k to capital asset. Thus total
capital asset basis is 40k. - No gain or
loss to B on distribution of 20k cash and 40k
inventory per 731(a). Per 732, cash reduces
basis to 17.5k, all of which allocated to
inventory. B basis in inventory 17.5k. No gain
or loss to partnership per 731(b).
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Problem 340
Option 2 Deemed 10k inventory distribution to
A, 10k capital asset distribution to B and then
exchange of assets by A and B. - A outside
basis reduced 5k (basis of inventory) on deemed
distribution to A and B outside basis reduced
7.5k (25 of 40k) on deemed distribution to B.
- B have 2.5k LTCG on deemed exchange of 10k
capital asset for inventory (excess of 10k over
7.5 basis), and A have 5k ordinary income. After
deemed distributions, AB inventory basis is 15k
(down 5k), AB capital asset basis is 22.5k (down
7.5k), A outside basis down 5k to 30k and B
outside basis down 7.5k to 27.5k. A B both have
10k basis in deemed exchange asset. - No
gain or loss to A on distribution of 20k ARs and
remaining 30k capital asset per 731(a). Per 732,
30k outside basis allocated 0 to ARs (ABs
basis) and 30k to capital asset. Thus total
capital asset basis is 40k. (30k plus 10k) -
No gain or loss to B on distribution of 20k cash
and remaining 30k inventory per 731(a). Per 732,
cash reduces basis to 7.5k, all of which
allocated to inventory. B basis in inventory
17.5k (7.5k plus 10k). No gain or loss to
partnership per 731(b).
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Problem 346
Basic Facts AC balance sheet.
A.B. FMV
A.B. FMV
Inventory 80k 100k
A Capital 60k 100k
Capital Asset 40k 100k
C Capital 100k 100k
Total 120k 200k
160k
200k AC to be converted to corporation. Three
options Option 1 AC distributes assets in
complete liquidation, and then A C contribute
to corp in 351 exchange. Basis in assets becomes
160k on AB liquidation (Partners outside basis)
per 732, which becomes corps basis in assets per
362 and A C basis in stock per 358. Option 2
A C transfer partnership interests to corp,
which then liquidates AB partnership. A C
stock basis is 160k per 358, corps basis in
partnership interests 160k per 362. On
partnership liquidation, corps basis in assets
becomes 160k per 732. Same result as Option 1.
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Problem 346
Basic Facts AC balance sheet.
A.B. FMV
A.B. FMV
Inventory 80k 100k
A Capital 60k 100k
Capital Asset 40k 100k
C Capital 100k 100k
Total 120k 200k
160k
200k AC to be converted to corporation. Three
options Option 3 AC contributes assets to corp
for stock and then liquidates by distributing
stock to A C. Now corp basis in assets 120k,
but A C basis in stock still 160k per 732.
Thus, Option 3 produce lower asset basis - not
good. Plus, no S election possible in year 1 and
no 1244 stock treatment available on loss
(shareholder must be original issuee).
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Problem 361

• Basic Facts ABCD balance sheet.
• A.B. FMV
  A.B.
  FMV
• Cash 4k 4k
  A Capital 4k
  6k
• AR 8k 8k
  B Capital 4k
  6k
• Inventory 8k 12k
  E Capital 6k
  6k
• 
  F Capital 6k
  6k
• Total 20k 24k
  20k
  24k
• No election. Since 50 interests in partnership
  sold in 12 months, termination of old partnership
  under 708(b)(1)(B). Old partnership deemed to
  have contributed assets to new partnership with
  carryover basis and partners A,B,E,F each get
  interest in new partnership and keep old basis.
  Balance sheet of new partnership is above.
• 754 election E F each entitled to 1k inside
  adjustment in asset basis (excess of 6k paid over
  5k (1/4 of 20k) share of inside basis.
  Adjustment allocated to inventory, only asset
  with appreciation. Balance sheet as follows

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Problem 361
(b) balance sheet.
A.B. FMV
A.B. FMV Cash
4k 4k A Capital
4k 6k AR
8k 8k B
Capital 4k 6k
Inventory 10k 12k
E Capital 6k 6k

F Capital 6k
6k Total 22k
24k
20k 24k c) No 754 election, but
732(d) invoked by E F. Same answer as (a).
732(d) of no consequence because no distribution
of property to E or F by new partnership.
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S Corp Complete Liquidation Shareholder Impact
General Rule Per 331, complete liquidation
treated as sale or exchange of stock, producing
capital gain or loss equal to difference between
cash and FMV of property received and
shareholders basis in stock. Note, shareholder
stock basis increased by corporate gain, so often
little or no tax due. Timing Issues - 453
installment sales treatment applies when
liquidating distributions over time. Open
transaction treatment very risky appears trumped
by 453. - 453 installment treatment permitted
even as to installment obligations acquired by
non-public corp in asset sell-off and distributed
to shareholders. To qualify under 453, corp sale
that created obligation must be with 12 month
period after liquidation plan adopted and
liquidation must be completed within same period.
Inventory and dealer qualify only if part of
bulk sale of assets.
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S Corp Complete Liquidation Corporation Impact
General Rule Per 336, Corp recognizes gain or
loss on property distributed or sold as part of
complete liquidation. 267 related-party loss
limitations not apply in complete liquidation.
Gain or loss passed thru to shareholders. (d)(1)
Related Party Exception No loss at all on
distribution to related party (per 267) in
complete liquidation if - Distribution
note pro rata, or - Distributed
property acquired by corp in 351 transaction or
as contribution to capital within 5 yrs of
distribution (Disqualified Property). (d)(2)
Tax Avoidance Exception No built-in loss (loss
at time of acquisition) disallowed if property
acquired in 351 transaction or contribution to
capital and principal purpose was to recognize
loss on liquidation. If acquired within 2 yrs of
plan of liquidation, bad purpose a done deal
unless there is clear and substantial
relationship between property and conduct of
business and solid explanation. If outside 2yr
window, probably safe except in most rare
cases.