Partnership Distributions Essay

The capital used to carry out the operations of the partnership usually comes from the individual partner’s contributions. There contributions represent capital (their interest in the partnership). Under the general tax provisions, contributions by partners to a business can be at a gain or loss, which is not recognized. The same treatment is accorded to distributions received by the partners from the partnership. The distributions received by partners from the partnership can result into their interest reducing (liquidating distribution) or remain the same as it was before the distribution (current distribution). The liquidating distributions can reduce completely a partner’s interest after one or several such distributions. It is important to note that the distributions that substantially decrease a partner’s interest are not treated as liquidating distributions but rather current. Partners should show distributions of partnership profits even if they do not actually receive any distributions. (Internal Revenue Service (2008). Unrealized receivable and inventory (section 751 assets) modifies the general provision above. Distributions can also be proportionate of disproportionate. In a proportionate distribution that is current partners will not recognize losses and gains. A gain is only recognized if distributions are more than the partners outside basis in the partnership interest (Sec 731(a), 732(b)). The partnership will also not recognized gains or losses (731 (b)). In a distribution the partner’s basis is taken to be the same as the partnership basis on the asset 731(a) (1) The basis of the distributed asset is the adjusted basis of the assets to the partnership just before the distribution and hence any distribution carries over from the partnership. This rule, however, has an exception in that if the partner outside basis is lower than the partnership’s then the partner’s basis in assets is capped at his outside basis less any money received. Therefore, total basis of the distributed assets are pegged to the basis before the distribution added to any gain recognized. (Internal Revenue Service (2008). The partner’s outside basis is allocated to the distributed assets as follows. Cash and deemed cash distributions, unrealized receivables and inventory and non –IRC section 751 property in that order. The distributions in each type of asset could be done severally. In such a scenario, the basis allocated to the various types of assets is done proportionately to their relative basis to the partnership and fair market value (Godfrey, H. (2008). A partner may immediately dispose off the distributed property or hold it for some period. There are several rules governing holding periods of distributions received by partners. In case a distribution is that of unrealized receivables, then, the gain loss on sale of such assets will be treated as ordinary irrespective of the holding period, which is inclusive of the partnership-holding period. Inventory distributions sold within 5 years leads to the recognition of the gain or loss as ordinary. The treatment of loss/gain however changes if the inventory was sold after 5 years. The treatment will largely depend on the nature of the asset that the partner possess i. e. inventory, capital or trade asset. The holding period provisions guide any appreciation after the distribution. In this case, is obvious that the partnership has 751 assets (inventory) and therefore the tax provisions discussed above will apply. The partners also received proportionate distributions i. e. Hiram received $40,000 in cash. The distributions made by the partnership are current distributions done in a proportionate manner and therefore the provisions on proportionate current distributions apply. The partners will not account for any loss (Sec 731(a) and 732(b). The partnership also will not account for any gain or loss (731(b). Partners will only recognize losses if distributions are more than the outside basis (731(a)). The distributions received by the partners are within the outside basis in their partnership interest. Their interest in the partnership is $60,000 for each of the partners while the distributions received is equal to $40,000. The partners should also consider the provision on the duration hey held the asset after distribution. Any sale of sec 751 assets e. g. inventory within a period of 5 years from the distribution date is treated as ordinary income or loss in the hands of the partner.