Article by Colleen McHugh, Alternative Investment Group Director, "Tax Issues to Consider When a Partnership Interest is Transferred," Featured in Bloomberg BNA
There can be several tax consequences as a result of a transfer of a partnership interest during the year. This article discusses some of those tax issues applicable to the partnership.
Adjustments to the Basis of Partnership Property. Upon a transfer of a partnership interest, the partnership may elect to, or be required to, increase/decrease the basis of its assets. The basis adjustments will be for the benefit/detriment of the transferee partner only.
If the partnership has a special election in place, known as an §754 election, or will make one in the year of the transfer, the partnership will adjust the basis of its assets as a result of the transfer. Section 754 allows a partnership to make an election to “step-up” the basis of the assets within a partnership when one of two events occurs: distribution of partnership property or transfer of an interest by a partner.
The partnership will be required to adjust the basis of its assets when an interest in the partnership is transferred if the total adjusted basis of the partnership’s assets is greater than the total fair market value of the partnership’s assets by more than $250,000 at the time of the transfer.
Ordinary Income Recognized by the Transferor on the Sale of a Partnership Interest. Typically, when a partnership interest is sold, the transferor (seller) will recognize capital gain/loss. However, a portion of the gain/loss could be treated as ordinary income to the extent the transferor partner exchanges all or a part of his interest in the partnership attributable to unrealized receivables or inventory items. (This is known as “§751(a) Property” or “hot” assets).