Form 541 - Partnerships - Department Of Treasury Internal Revenue Service

Effect on partner’s basis. Because of off-

Figuring partner’s taxable income. For

allocation of interest expense related to debt-fi-

setting adjustments, the cancellation of a part-

purposes of the taxable income limit, the taxable

nanced distributions.

income of a partner who is engaged in the active

nership debt does not usually cause a net

conduct of one or more of a partnership’s trades

Debt-financed acquisitions. The interest ex-

change in the basis of a partnership interest.

or businesses includes his or her allocable

pense on loan proceeds used to purchase an

Each partner’s basis is:

share of taxable income derived from the

interest in, or make a contribution to, a partner-

1) Increased by his or her share of the part-

partnership’s active conduct of any trade or

ship must be allocated as explained in chapter 5

nership income from the cancellation of

business.

of Publication 535.

debt (whether or not the partner excludes

Basis adjustment. A partner who is allo-

the income), and

cated section 179 expenses from the partner-

2) Reduced by the deemed distribution re-

ship must reduce the basis of his or her

Partnership

partnership interest by the total section 179 ex-

sulting from the reduction in his or her

penses allocated, regardless of whether the full

Distributions

share of partnership liabilities.

amount allocated can be currently deducted.

(See Adjusted Basis under Basis of Partner’s

See Adjusted Basis under Basis of Partner’s

Partnership distributions include the following.

Interest, later.) The basis of a partner’s interest

Interest, later. If a partner disposes of his or her

•

will change only if the partner’s share of income

interest in a partnership, the partner’s basis for

A withdrawal by a partner in anticipation of

is different from the partner’s share of debt.

the current year’s earnings.

determining gain or loss is increased by any

As explained earlier, however, a partner’s

outstanding carryover of disallowed deductions

•

A distribution of the current year’s or prior

election to exclude income from the cancellation

of section 179 expenses allocated from the part-

years’ earnings not needed for working

of qualified real property business debt may

nership.

capital.

reduce the basis of the partner’s interest to the

The basis of a partnership’s section 179

•

extent the interest is treated as depreciable real

A complete or partial liquidation of a

property must be reduced by the section 179

property.

partner’s interest.

deduction elected by the partnership. This re-

duction of basis must be made even if any part-

•

Basis of depreciable real property re-

A distribution to all partners in a complete

ner cannot deduct his or her entire allocable

duced. If the basis of depreciable real prop-

liquidation of the partnership.

share of the section 179 deduction because of

erty is reduced and the property is disposed of,

the limits.

then the following rules apply for purposes of

A partnership distribution is not taken into

determining the ordinary income from recapture

account in determining the partner’s distributive

More information. See Publication 946 for

of depreciation under section 1250 of the Inter-

share of partnership income or loss. If any gain

more information on the section 179 deduction.

nal Revenue Code.

or loss from the distribution is recognized by the

Amortization deduction for reforestation

partner, it must be reported on his or her return

•

Any such basis reduction is treated as a

costs. A partnership can elect to amortize cer-

for the tax year in which the distribution is re-

deduction allowed for depreciation.

tain reforestation costs for qualified timber prop-

ceived. Money or property withdrawn by a part-

•

erty over an 84-month period. The amortizable

ner in anticipation of the current year’s earnings

The determination of what would have

costs are passed through to the partners as a

is treated as a distribution received on the last

been the depreciation adjustment under

separately stated item.

day of the partnership’s tax year.

the straight line method is made as if there

had been no such reduction.

Annual limit. The election can be made for

Effect on partner’s basis. A partner’s ad-

no more than $10,000 of qualified costs each tax

justed basis in his or her partnership interest is

Therefore, the basis reduction recaptured as

year. Both the partnership and partner are sub-

decreased (but not below zero) by the money

ordinary income is reduced over the time the

ject to this limit. The partnership applies the

and adjusted basis of property distributed to the

partnership continues to hold the property, as

$10,000 limit in determining the amount of its

partner. See Adjusted Basis under Basis of

the partnership forgoes depreciation deductions

amortizable costs and allocates that amount

Partner’s Interest, later.

due to the basis reduction.

among its partners. The partner adds the

amount allocated from the partnership to his or

Effect on partnership. A partnership gener-

Section 179 deduction. A partnership can

her qualified costs from other sources and then

ally does not recognize any gain or loss because

elect to deduct all or part of the cost of certain

applies the $10,000 limit ($5,000 limit, if married

of distributions it makes to partners. The part-

assets under section 179 of the Internal Reve-

filing a separate return).

nership may be able to elect to adjust the basis

nue Code. The deduction is passed through to

More information. See chapter 9 of Publi-

of its undistributed property, as explained later

the partners as a separately stated item.

cation 535 for more information.

under Adjusting the Basis of Partnership Prop-

Limits. The section 179 deduction is sub-

erty.

Partnership expenses paid by partner. In

ject to certain limits that apply to the partnership

general, a partner cannot deduct partnership

Certain distributions treated as a sale or ex-

and to each partner. The partnership determines

expenses paid out of personal funds unless the

change. When a partnership distributes the

its section 179 deduction subject to the limits. It

partnership agreement requires the partner to

following items, the distribution may be treated

then allocates the deduction among its partners.

pay the expenses. These expenses are usually

as a sale or exchange of property rather than a

Each partner adds the amount allocated

considered incurred and deductible by the part-

distribution.

from the partnership (shown on Schedule K – 1)

nership.

•

to his or her other nonpartnership section 179

Unrealized receivables or substantially ap-

If an employee of the partnership performs

costs and then applies the maximum dollar limit

preciated inventory items distributed in ex-

part of a partner’s duties and the partnership

to this total. To determine if a partner has ex-

change for any part of the partner’s

agreement requires the partner to pay the em-

ceeded the $200,000 investment limit, the part-

interest in other partnership property, in-

ployee out of personal funds, the partner can

ner does not include any of the cost of section

cluding money.

deduct the payment as a business expense.

179 property placed in service by the partner-

•

Other property (including money) distrib-

ship. After the maximum dollar limit and invest-

Interest expense for distributed loan. If the

uted in exchange for any part of a

ment limit are applied, the remaining cost of the

partnership distributes borrowed funds to a part-

partner’s interest in unrealized receivables

partnership and nonpartnership section 179

ner, the partnership should list the partner’s

or substantially appreciated inventory

property is subject to the taxable income limit.

share of interest expense for these funds as

items.

Figuring partnership’s taxable income.

“Interest expense allocated to debt-financed dis-

For purposes of the taxable income limit, taxable

tributions” under “Other deductions” on the

See Payments for Unrealized Receivables

income of a partnership is figured by adding

partner’s Schedule K – 1. The partner deducts

and Inventory Items under Disposition of

together the net income (or loss) from all trades

this interest on his or her tax return depending

Partner’s Interest, later.

or businesses actively conducted by the partner-

on how the partner uses the funds. See chapter

This treatment does not apply to the follow-

ship during the tax year.

5 in Publication 535 for more information on the

ing distributions.

Page 9

Form 541 - Partnerships - Department Of Treasury Internal Revenue Service - 2002 Page 9

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