Form 541 - Partnerships - Department Of Treasury Internal Revenue Service

after the distribution), the partner transfers

tion, gain, or loss on the property in a manner

the character of the gain or loss that would have

money or other consideration to the partnership.

that will account for the difference. This rule also

resulted if the partnership had sold the property

Form 8275 must include the following infor-

applies to contributions of accounts payable and

to the distributee partner. Appropriate adjust-

mation.

other accrued but unpaid items of a cash basis

ments must be made to the adjusted basis of the

partner.

contributing partner’s partnership interest and to

•

A caption identifying the statement as a

The partnership can use different allocation

the adjusted basis of the property distributed to

disclosure under section 707 of the Inter-

methods for different items of contributed prop-

reflect the recognized gain or loss.

nal Revenue Code.

erty. A single reasonable method must be con-

•

A description of the transferred property or

sistently applied to each item, and the overall

Disposition of certain contributed property.

money, including its value.

method or combination of methods must be rea-

The following rules determine the character of

•

sonable. See section 1.704-3 of the regulations

the partnership’s gain or loss on a disposition of

A description of any relevant facts in de-

for allocation methods generally considered rea-

certain types of contributed property.

termining if the transfers are properly

sonable.

viewed as a disguised sale. (See section

If the partnership sells contributed property

1. Unrealized receivables. If the property

1.707-3(b)(2) of the regulations for a

and recognizes gain or loss, built-in gain or loss

was an unrealized receivable in the hands

description of the facts and circumstances

is allocated to the contributing partner. If contrib-

of the contributing partner, any gain or loss

considered in determining if the transfers

uted property is subject to depreciation or other

on its disposition by the partnership is ordi-

are a disguised sale.)

cost recovery, the allocation of deductions for

nary income or loss. Unrealized receiv-

these items takes into account built-in gain or

ables are defined later under Payments for

Contribution to investment company. Gain

loss on the property. However, the total depreci-

Unrealized Receivables and Inventory

is recognized when property is contributed (in

ation, depletion, gain, or loss allocated to part-

Items. When reading the definition, substi-

exchange for an interest in the partnership) to a

ners cannot be more than the depreciation or

tute “partner” for “partnership.”

partnership that would be treated as an invest-

depletion allowable to the partnership or the

2. Inventory items. If the property was an

ment company if it were incorporated.

gain or loss realized by the partnership.

inventory item in the hands of the contrib-

A partnership is generally treated as an in-

uting partner, any gain or loss on its dispo-

vestment company if over 80% of the value of its

Example. Sara and Gail formed an equal

sition by the partnership within 5 years

assets is held for investment and consists of

partnership. Sara contributed $10,000 in cash to

after the contribution is ordinary income or

certain readily marketable items. These items

the partnership and Gail contributed depreciable

loss. Inventory items are defined later in

include money, stocks and other equity interests

property with a fair market value of $10,000 and

Payments for Unrealized Receivables and

in a corporation, and interests in regulated in-

an adjusted basis of $4,000. The partnership’s

Inventory Items.

vestment companies and real estate investment

basis for depreciation is limited to the adjusted

trusts. For more information, see section

basis of the property in Gail’s hands, $4,000.

3. Capital loss property. If the property was

351(e)(1) of the Internal Revenue Code and the

In effect, Sara purchased an undivided

a capital asset in the contributing partner’s

related regulations. Whether a partnership is an

one-half interest in the depreciable property with

hands, any loss on its disposition by the

investment company under this test is ordinarily

her contribution of $10,000. Assuming that the

partnership within 5 years after the contri-

determined immediately after the transfer of

depreciation rate is 10% a year under the Gen-

bution is a capital loss. The capital loss is

property.

eral Depreciation System (GDS), she would

limited to the amount by which the

This rule applies to limited partnerships and

have been entitled to a depreciation deduction

partner’s adjusted basis for the property

general partnerships, regardless of whether

of $500 per year, based on her interest in the

exceeded the property’s fair market value

they are privately formed or publicly syndicated.

partnership, if the adjusted basis of the property

immediately before the contribution.

equaled its fair market value when contributed.

Contribution to foreign partnership. A do-

4. Substituted basis property. If the dispo-

(To simplify this example, the depreciation de-

mestic partnership that contributed property af-

sition of any of the property listed in (1),

ductions are determined without regard to any

ter August 5, 1997, to a foreign partnership in

(2), or (3) is a nonrecognition transaction,

first-year depreciation conventions.)

exchange for a partnership interest may have to

these rules apply when the recipient of the

However, since the partnership is allowed

file Form 8865 if either of the following apply.

property disposes of any substituted basis

only $400 per year of depreciation (10% of

property (other than certain corporate

$4,000), no more than $400 can be allocated

1. Immediately after the contribution, the part-

stock) resulting from the transaction.

between the partners. The entire $400 must be

nership owned, directly or indirectly, at

allocated to Sara.

least a 10% interest in the foreign partner-

Contribution of Services

ship.

Distribution of contributed property to an-

2. The fair market value of the property con-

other partner. If a partner contributes prop-

A partner can acquire an interest in partnership

tributed to the foreign partnership, when

erty to a partnership and the partnership

capital or profits as compensation for services

added to other contributions of property

distributes the property to another partner within

performed or to be performed.

made to the partnership during the preced-

7 years of the contribution, the contributing part-

ing 12-month period, is greater than

ner must recognize gain or loss on the distribu-

Capital interest. A capital interest is an inter-

$100,000.

tion.

est that would give the holder a share of the

The partnership may also have to file Form

A 5-year period applies to property

proceeds if the partnership’s assets were sold at

8865, even if no contributions are made during

fair market value and the proceeds were distrib-

contributed before June 9, 1997, or

the tax year, if it owns a 10% or more interest in

under a written binding contract:

uted in a complete liquidation of the partnership.

CAUTION

a foreign partnership at any time during the year.

This determination generally is made at the time

See the form instructions for more information.

of receipt of the partnership interest. The fair

1. That was in effect on June 8, 1997,

market value of such an interest received by a

and at all times thereafter before the

Basis of contributed property. If a partner

partner as compensation for services must gen-

contribution, and

contributes property to a partnership, the

erally be included in the partner’s gross income

partnership’s basis for determining depreciation,

2. That provides for the contribution of a

in the first tax year in which the partner can

depletion, and gain or loss for the property is the

fixed amount of property.

transfer the interest or the interest is not subject

same as the partner’s adjusted basis for the

to a substantial risk of forfeiture. The capital

property when it was contributed, increased by

interest transferred as compensation for serv-

any gain recognized by the partner at the time of

ices is subject to the rules for restricted property

The recognized gain or loss is the amount

contribution.

discussed in Publication 525 under Employee

the contributing partner would have recognized

Compensation.

Allocations to account for built-in gain or

if the property had been sold for its fair market

loss. The fair market value of property at the

value when it was distributed. This amount is the

The fair market value of an interest in part-

nership capital transferred to a partner as pay-

time it is contributed may be different from the

difference between the property’s basis and its

ment for services to the partnership is a

partner’s adjusted basis. The partnership must

fair market value at the time of contribution. The

allocate among the partners any income, deduc-

character of the gain or loss will be the same as

guaranteed payment, discussed earlier.

Page 8

Form 541 - Partnerships - Department Of Treasury Internal Revenue Service - 2006 Page 8

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