GENERAL AND LIMITED PARTNER'S BASIS WHEN SALE OF PARTNERSHIP INTEREST

Rev. Rul. 84-53

ISSUE

What are the tax consequences of the sale of a partnership interest in the situations described below?

FACTS

Situation 1

In 1978, Y was formed as a limited partnership under the Uniform Limited Partnership Act of State N for the purpose of investing and trading in stocks and securities. Y has a calendar taxable year. A contributed $50x to Y in exchange for a general partner interest, entitling A to a 50 percent interest in all partnership distributions and in partnership income, gain, loss, and deduction. B contributed $50x to Y in exchange for a limited partner interest, entitling B to a 50 percent interest in all partnership distributions and in partnership income, gain, loss, and deduction.

On January 1, 1980, when the stock and securities of Y had decreased in value from $100x to $64x, B sold to A one half of B's limited partner interest for $16x, which interest A holds as a limited partner.

On January 1, 1982, when the stock and securities of Y has risen in value from $64x (its 1980 value) to $120x, A sold to C one-half of A's general partner interest for $30x. Immediately prior to the sale, A's entire partnership interest had a fair market value of $90x and the transferred portion of the interest had a fair market value of $30x. Since formation, the partnership has made cash distributions in an amount equal to its total income (including tax-exempt income). Assume that all partnership allocations (in all situations) are valid, and that A, B, and C are unrelated parties.

Situation 2

The facts are the same as in Situation 1 except that, in 1981, Y borrowed $80x recourse which was invested in securities that became worthless on December 31, 1981. Furthermore, immediately prior to A's sale to C, A's entire partnership interest had a fair market value of $30x and the transferred portion of A's interest had a fair market value of $10x.

Situation 3

The facts are the same as in Situation 2 except that, on January 1, 1982, A sold A's entire limited partner interest to C for its fair market value of $10x (rather than one-half of A's general partner interest).

Situation 4

The facts are the same as in Situation 1 except that, in 1981, Y borrowed $96x recourse which is invested in securities that became worthless on December 31, 1981. Furthermore, immediately prior to A's sale to C, A's entire partnership interest had a fair market value of $18x and the transferred portion of A's interest had a fair market value of $6x.

LAW AND ANALYSIS

Section 705 of the Internal Revenue Code provides rules for determining the adjusted basis of a partner's interest in a partnership.

Section 722 of the Code provides that the basis of an interest in a partnership acquired by a contribution of property equals the transferor partner's adjusted basis in the contributed property.

Section 752(a) of the Code provides that any increase in a partner's share of the partnership's liabilities is considered to be a contribution of money by the partner to the partnership.

Section 752(b) of the Code provides that any decrease in a partner's share of a partnership's liabilities is considered to be a distribution of money by the partnership to the partner.

Section 1.752-1(e) of the Income Tax Regulations provides rules for determining a partner's share of partnership liabilities with respect to both limited partnerships and general partnerships.

Section 752(d) of the Code provides that in the case of a sale or exchange of an interest in a partnership, liabilities shall be treated in the same manner as liabilities in connection with the sale or exchange of property not associated with partnerships.

Section 1.1001-2 of the regulations provides that the amount realized from a sale or other disposition of property includes the amount of liabilities from which the transferor is discharged as a result of the sale or disposition.

Section 1.61-6(a) of the regulations provides that when a part of a larger property is sold, the basis of the entire property shall be equitably apportioned among the several parts for purposes of determining gain or loss on the part sold.

Consistent with the provisions of Subchapter K of the Code, a partner has a single basis in a partnership interest, even if such partner is both a general partner and a limited partner of the same partnership. See Rev. Rul. 84-52, page 16, this Bulletin. Thus, for example, in applying the limitations of section 704(d) of the Code, losses allocated with respect to a partner's limited partner interest will be allowed so long as they do not exceed the partner's basis in the entire partnership interest.

Under section 1.61-6(a) of the regulations, when a partner makes a taxable disposition of a portion of an interest in a partnership, the basis of the transferred portion of the interest generally equals an amount which bears the same relation to the partner's basis in the partner's entire interest as the fair market value of the transferred portion of the interest bears to the fair market value of the entire interest. However, if such partnership has liabilities, special adjustments must be made to take into account the effect of those liabilities on the basis of the partner's interest.

In cases where the partner's share of all partnership liabilities does not exceed the adjusted basis of such partner's entire interest (including basis attributable to liabilities), the transferor partner shall first exclude from the adjusted basis of such partner's entire interest an amount equal to such partner's share of all partnership liabilities, as determined under section 1.752-1(e) of the regulations. A part of the remaining adjusted basis (if any) shall be allocated to the transferred portion of the interest according to the ratio of the fair market value of the transferred portion of the interest to the fair market value of the entire interest. The sum of the amount so allocated plus the amount of the partner's share of liabilities that is considered discharged on the disposition of the transferred portion of the interest (under section 752(d) of the Code and section 1.1001-2 of the regulations) equals the adjusted basis of the transferred portion of the interest.

On the other hand, if the partner's share of all partnership liabilities exceeds the adjusted basis of such partner's entire interest (including basis attributable to liabilities), the adjusted basis of the transferred portion of the interest equals an amount that bears the same relation to the partner's adjusted basis in the entire interest as the partner's share of liabilities that is considered discharged on the disposition of the transferred portion of the interest bears to the partner's share of all partnership liabilities, as determined under section 1.752-1(e).

HOLDINGS

Situation 1

Prior to the sale of one-half of B's limited partner interest to A, the adjusted basis of B's entire partnership interest was $50x. Because the fair market value of the transferred portion of B's interest ($16x) is one-half of the fair market value of B's entire partnership interest ($32x), $25x (1/2 of $50x) of adjusted basis must be allocated to the interest transferred by B. B sustained a $9 loss ($16x - $25x) on the sale to A. The adjusted basis of the remainder of B's partnership interest is $25x.

Prior to the sale of one-half of A's general partner interest to C, the adjusted basis of A's entire partnership interest was $66x. Because the fair market value of the transferred portion of A's interest ($30x) is one-third of the fair market value of A's entire partnership interest ($90x), $22x (1/2 of $66x) of the adjusted basis must be allocated to the portion of the interest transferred by A. A realizes an $8x gain ($30x - $22x) on the sale to C. The basis of the remainder of A's partnership interest is $44x. The results would be the same to A if A, instead, sold to C the limited partner interest acquired earlier from B.

Situation 2

The tax consequences of B's sale of one-half of B's limited partner interest to A are identical to those described in Situation 1.

In 1981, A's basis in A's entire partnership interest was increased from $66x to $146x as a result of the $80x recourse borrowing (which increases only the basis of A, the sole general partner, under section 1.752-1(e) of the regulations and sections 752(a) and 722 of the Code) and was decreased to $86x as a result of the $60x loss allocated to A that year when the securities became worthless. Thus, prior to the sale of one-half of A's general partner interest to C, the adjusted basis of A's entire partnership interest was $86x. To take into account the effect of the liability sharing rules of section 1.752-1(e) of the regulations on A's adjusted basis, $80x (A's share of all partnership liabilities) is subtracted from $86x, leaving $6x. Because the fair market value of the transferred portion of A's interest ($10x) is one-third of the fair market value of the entire interest ($30x), $2x (1/2 of $6x) of the remaining adjusted basis must be allocated to the transferred portion of A's general partner interest. The sum of that amount ($2x) plus the amount of partnership liabilities from which A is discahrged on the disposition of the transferred portion of A's general partner interest ($40), or $42x, equals the adjusted basis of the transferred portion of the interest. A realizes an $8x gain ($10x + $40x - $42x) on the sale to C. The basis of the remainder of A's partnership interest is $44x ($86x - $42x).

Situation 3

The tax consequences of B's sale of one-half of B's limited partner interest to A are identical to those described in Situation 1.

As in Situation 2, prior to the sale of A's limited partner interest to C, the adjusted basis of A's entire partnership interest was $86x. To take into account the effect of the liability sharing rules of section 1.752-1(e) of the regulations on A's adjusted basis, $80x (A's share of all partnership liabilities is subtracted from $86x, leaving $6x. Because of the fair market value of the transferred portion of A's limited partner interest ($10x) is one-third of the fair market value of A's entire interest ($30x), $2x (1/3 of $6x) of the remaining adjusted basis must be allocated to the transferred limited partner interest. The sum of that amount ($2x) plus the amount of partnership liabilities from which A is discharged on the disposition of the transferred limited partner interest ($0x), or $2x, equals the adjusted basis of the transferred portion of the interest. A realizes an $8x gain ($10x - $2x) on the sale to C. The basis of the remainder of A's partnership interest is $84x ($86x - $2x).

Situation 4

The tax consequences of B's sale of one-half of B's limited partner interest was increased from $66x to $162x as a result of the $96x recourse borrowing and was decreased to $90x as a result of the $72x loss allocated to A that year when the securities became worthless. Thus, prior to the sale of one-half of A's general partner interest to C, the adjusted basis of A's entire partnership interest was $90x. In this situation, A's share of all partnership liabilities ($96x) exceeds the adjusted basis of A's entire interest ($90x). Thus, the adjusted basis of the transferred portion of A's general partner interest equals $45x, the amount which bears the same relation to A's adjusted basis in the entire interest ($90x) as the amount of partnership liabilities from which A is discharged on the disposition of the transferred portion of the general partner interest ($48x) bears to A's share of all partnership liabilities ($96x). A realizes a $9x gain ($48x + $6x - $45x) on the sale of C. The basis of the remainder of A's partnership interest is $45x ($90x - $45x).