At the corporate level, a nonliquidating corporate distribution can also have varying tax consequences.
The distribution may have no tax effect, or it may trigger corporate-level capital gain and/or ordinary income.
If the partner acquired the interest in exchange for a contribution to the partnership, his basis generally equals the amount of money and the partner’s adjusted basis in any property contributed to the partnership. If the property is subject to indebtedness at the time of the contribution, the partner’s basis is reduced by the portion of the debt that is assumed by the other partners. If the partner acquired his interest in exchange for services, his basis equals the value of services provided. If the partner purchased his partnership interest, his basis equals his cost. The partner’s initial basis is adjusted to give effect to transactions affecting the partnership.
The partner’s basis in his partnership interest in increased by: These basis adjustments depend in large part on the allocation of partnership income, gains, losses, deductions, and credit among the partners.
Both the losses and gains from these sales are allocated to the partners' capital accounts based on the partnership agreement.
Next the partnership uses the cash it made from the sale of its assets and the remaining cash in its bank account to pay off all remaining liabilities.
Other times, partnerships go bankrupt and are forced to liquidate in order to pay off their creditors.
Either way, the partnership liquidation process is similar.
The corporate-level tax consequences of a nonliquidating corporate distribution depend on whether the distribution consists of cash or property (other than cash). The form breaks total distributions down into taxable and nontaxable categories.
The corporation does not recognize gain or loss when it distributes cash to shareholders or when it redeems stock in exchange for cash payments (Sec. When a corporation makes a nonliquidating distribution of corporate property other than cash (including a distribution to redeem stock), the corporation recognizes gain if the property’s fair market value (FMV) exceeds its adjusted tax basis in the corporation’s hands (Sec. Specifically, the corporation recognizes gain as if it had sold the appreciated property for FMV to the recipient shareholder. The portion of the corporation’s gain attributable to recapture items (e.g., depreciation recapture) is ordinary income, as is gain attributable to the distribution of inventory and unrealized receivables. Form 5452, Corporate Report of Nondividend Distributions, is used to report nondividend distributions to shareholders. Worth, TX, 2008 ((800) 323-8724; The winners of The Tax Adviser’s 2016 Best Article Award are Edward Schnee, CPA, Ph.
A partnership’s income, losses, deductions, and credit are passed through to the partners for Federal tax purposes and taxed directly to them, regardless of when income is distributed. Since the partners have already paid tax on the income when it is earned, a complex system of rules applies to prevent double taxation when the income is later distributed to the partners.
These rules (a) allocate the partnership’s income, losses, deductions, and credit among the partners and (b) adjust basis to reflect each partner’s allocation of those items.
The partnership agreement determines the allocation of these items. If the partnership agreement is silent, these items are allocated in accordance with the partnership interests. If the partnership agreement allocates partnership items among the partners, the allocation is respected as long as one of the following is true: If an allocation does not meet one of these requirements, the allocation of income, gain, loss, deduction, or credit is reallocated in accordance with the partner’s interest in the partnership. Special rules apply to allocations of property with built-in gain and loss. Important Note: The rules governing substantial economic effect are complex and must be given special consideration if the partnership agreement or operating agreement provides for allocations other than in accordance with each partner’s interest in the partnership.