Form 541 - Partnerships - Department Of Treasury Internal Revenue Service

personal services performed by members or

tions must be agreed to by all partners or

the partners share recourse and nonrecourse

employees of the partnership.

adopted in any other manner provided by the

liabilities differently, their bases must be ad-

partnership agreement. The agreement or modi-

justed to reflect the new sharing ratios. If a

Capital interest. A capital interest in a part-

fications can be oral or written.

decrease in a partner’s share of liabilities ex-

nership is an interest in its assets that is distrib-

Partners can modify the partnership agree-

ceeds the partner’s basis, he or she must recog-

utable to the owner of the interest in either of the

ment for a particular tax year after the close of

nize gain on the excess. For more information,

following situations.

the year but not later than the date for filing the

see Effect of Partnership Liabilities under Basis

•

partnership return for that year. This filing date

of Partner’s Interest, later.

The owner withdraws from the partner-

does not include any extension of time.

The same rules apply if an LLC classified as

ship.

If the partnership agreement or any modifica-

a partnership is converted into a partnership.

•

The partnership liquidates.

tion is silent on any matter, the provisions of

IRS e-file (Electronic Filing)

local law are treated as part of the agreement.

The mere right to share in earnings and profits

is not a capital interest in the partnership.

Gift of capital interest. If a family member (or

Terminating a

any other person) receives a gift of a capital

interest in a partnership in which capital is a

Partnership

material income-producing factor, the donee’s

Certain partnerships with more than 100

distributive share of partnership income is sub-

partners are required to file Form 1065, Sched-

A partnership terminates when one of the follow-

ject to both of the following restrictions.

ules K-1, and related forms and schedules elec-

ing events takes place.

•

tronically (e-file). Other partnerships generally

It must be figured by reducing the partner-

have the option to file electronically. For details

ship income by reasonable compensation

1. All its operations are discontinued and no

about IRS e-file, see the Form 1065 instructions.

for services the donor renders to the part-

part of any business, financial operation, or

nership.

venture is continued by any of its partners

•

in a partnership.

The donee’s distributive share of partner-

Exclusion From

ship income attributable to donated capital

2. At least 50% of the total interest in partner-

must not be proportionately greater than

ship capital and profits is sold or ex-

Partnership Rules

the donor’s distributive share attributable

changed within a 12-month period,

to the donor’s capital.

including a sale or exchange to another

partner.

Certain partnerships that do not actively conduct

Purchase. For purposes of determining a

a business can choose to be completely or par-

Unlike other partnerships, an electing large part-

partner’s distributive share, an interest pur-

tially excluded from being treated as partner-

nership does not terminate on the sale or ex-

chased by one family member from another

ships for federal income tax purposes. All the

change of 50% or more of the partnership

family member is considered a gift from the

partners must agree to make the choice, and the

interests within a 12-month period.

seller. The fair market value of the purchased

partners must be able to compute their own

See section 1.708-1(b) of the regulations for

interest is considered donated capital. For this

taxable income without computing the

more information on the termination of a partner-

purpose, members of a family include only

partnership’s income. However, the partners are

ship. For special rules that apply to a merger,

spouses, ancestors, and lineal descendants (or

not exempt from the rule that limits a partner’s

consolidation, or division of a partnership, see

a trust for the primary benefit of those persons).

distributive share of partnership loss to the ad-

sections 1.708-1(c) and 1.708-1(d) of the regu-

justed basis of the partner’s partnership interest.

lations.

Example. A father sold 50% of his business

Nor are they exempt from the requirement of a

to his son. The resulting partnership had a profit

Date of termination. The partnership’s tax

business purpose for adopting a tax year for the

of $60,000. Capital is a material income-produc-

partnership that differs from its required tax

year ends on the date of termination. For the

ing factor. The father performed services worth

year.

event described in (1), earlier, the date of termi-

$24,000, which is reasonable compensation,

nation is the date the partnership completes the

and the son performed no services. The

Investing partnership. An investing partner-

winding up of its affairs. For the event described

$24,000 must be allocated to the father as com-

ship can be excluded if the participants in the

in (2), earlier, the date of termination is the date

pensation. Of the remaining $36,000 of profit

joint purchase, retention, sale, or exchange of

of the sale or exchange of a partnership interest

due to capital, at least 50%, or $18,000, must be

investment property meet all the following re-

that, by itself or together with other sales or

allocated to the father since he owns a 50%

quirements.

exchanges in the preceding 12 months, trans-

capital interest. The son’s share of partnership

•

fers an interest of 50% or more in both capital

They own the property as co-owners.

profit cannot be more than $18,000.

and profits.

•

They reserve the right separately to take

Husband-wife partnership. If spouses carry

Short period return. If a partnership is termi-

or dispose of their shares of any property

on a business together and share in the profits

nated before the end of the tax year, Form 1065

acquired or retained.

and losses, they may be partners whether or not

must be filed for the short period, which is the

•

they have a formal partnership agreement. If so,

They do not actively conduct business or

period from the beginning of the tax year through

they should report income or loss from the busi-

irrevocably authorize some person acting

the date of termination. The return is due the

ness on Form 1065. They should not report the

in a representative capacity to purchase,

15th day of the fourth month following the date of

income on a Schedule C (Form 1040) in the

sell, or exchange the investment property.

termination. See Partnership Return (Form

name of one spouse as a sole proprietor.

Each separate participant can delegate

1065), later, for information about filing Form

Each spouse should carry his or her share of

authority to purchase, sell, or exchange

1065.

the partnership income or loss from Schedule

his or her share of the investment property

K-1 (Form 1065) to their joint or separate

Conversion of partnership into limited liabil-

for the time being for his or her account,

Form(s) 1040. Each spouse should include his

ity company (LLC). The conversion of a part-

but not for a period of more than a year.

or her respective share of self-employment in-

nership into an LLC classified as a partnership

come on a separate Schedule SE (Form 1040),

for federal tax purposes does not terminate the

Operating agreement partnership. An oper-

Self-Employment Tax. This generally does not

partnership. The conversion is not a sale, ex-

ating agreement partnership group can be ex-

increase the total tax on the return, but it does

change, or liquidation of any partnership inter-

cluded if the participants in the joint production,

give each spouse credit for social security earn-

est, the partnership’s tax year does not close,

extraction, or use of property meet all the follow-

ings on which retirement benefits are based.

and the LLC can continue to use the

ing requirements.

partnership’s taxpayer identification number.

•

Partnership Agreement

However, the conversion may change some

They own the property as co-owners, ei-

of the partners’ bases in their partnership inter-

ther in fee or under lease or other form of

The partnership agreement includes the original

ests if the partnership has recourse liabilities

contract granting exclusive operating

agreement and any modifications. The modifica-

that become nonrecourse liabilities. Because

rights.

Page 3

Form 541 - Partnerships - Department Of Treasury Internal Revenue Service - 2006 Page 3

Related Articles

Related forms

Related Categories