You learned about section 721, the non recognition provision for partnerships and
partners in the previous lesson.
In this lesson you will learn about basis determination and holding period for
property contributed, and the partnership interest obtained under this code section.
You will then apply these concepts to Sunchaser Shakery.
Similar to the corporations,
when a partner makes a contribution of property to a partnership, any gain or
loss is deferred, rather than permanently forgiven.
However, in contrast to corporations, this deferral of tax is facilitated
by the two sets of basis rules that were introduced earlier.
Specifically, the partnership takes a carryover or exchange basis and
the contributed assets it receives from the partner.
Said another way, the partner's basis in an asset contributed to the partnership
carries over to become the partnership's inside basis in the asset received.
This basis amount is then increased by any gain recognized by the partner, but
is not adjusted for liabilities.
Similarly, the partner takes a substituted basis in the partnership interest.
In other words, the partner's basis in the assets contributed to the partnership,
becomes the partner's outside basis in the partnership interest.
However, this amount is adjusted for gain recognized and liabilities.
Specifically, when a partner contributes property encumbered by a liability, or
the partnership assumes a liability of the contributing partner.
The partner is treated as receiving a distribution of cash from the partnership
in any amount of the liability,
which serves to reduce the partner's basis in the partnership interest.
It is important to keep in mind that a partner is still responsible for
their share of liabilities, assumed by the partnership.
For example, if an individual partner has a 60% interest in the partnership, he or
she is responsible for 60% of liabilities assumed by the partnership.
Thus when calculating basis, only 40% of the liability reduces the partner's basis,
as this was the amount that was effectively taken away from the partner.
Similar to corporations, if liability is assumed by a partnership exceeds
the partners aggregate adjusted basis of all property contributed,
the partner recognizes a gain to the extent of the excess.
In some, a partner's initial basis in the partnership interest is determined
as follows.
Cash contributed, plus the adjusted basis of property contributions.
Plus any gain or income recognized, plus the partner's share of partnership
liabilities, less the partner's liabilities assumed by the partnership.
Overall by exchanging and substituting asset basis between partner and
partnership, the basis rules preserve the contributing partner's gain or
loss inherent in the contributed assets.
Said in other way, the amount of the gain is initially preserved by the section 723.
Which provides that the partner's basis in the contributed assets is transferred
to the partnership.
Similarly, to help preserve the character of the partner's gain or
loss in the contributed assets, the code provides that the partnership's
holding period for the contributed assets is tacked.
That is, it includes the period during which the partner owned the asset.
For example, if the partner held the asset for more than one year,
then the partnership has a long-term holding period in the asset upon receipt.
However, the partner's holding period in the partnership interest depends
on the type of assets that were contributed to the partnership.
Specifically, if a partner contributes capital or section 1231 assets,
the partners holding period and the partnership interest is the same as
the holding period and the contributed assets.
But if cash or non-capital, non-section 1231 assets are contributed,
then the holding period and
the partnership of interest begins a new on the day the interest is obtained.
If a mix of capital, section 1231 and other assets are contributed,
then the partnership interest is allocated,
where separate holding periods apply to each portion.
Michael P Donohoe, PhD, CPAAssociate Professor of Accountancy and PwC Faculty Fellow
