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Copyright © 2016 Marks Paneth LLP
PARTNERSHIP LIABILITY SHARING PURSUANT
TO INTERNAL REVENUE CODE SECTION 752
Michael W. Hurwitz, CPA, MST
June 23, 2016

2. • Recognize why it is important to determine a partner’s share of partnership
liabilities
• Recognize how a partner’s share of liabilities affect the partner’s outside
basis
• Allocate recourse and nonrecourse liabilities among the partners
• Recognize how partner loans and guarantees affect the allocation of
liabilities
2
OBJECTIVES

3. 3
WHEN MUST YOU DETERMINE A PARTNER’S SHARE OF DEBT?
• When there’s a need to know the partner’s outside basis (generally, at
the end of the partnerships tax year)
• When a partnership interest is sold
• Special allocations
• When preparing the partnership tax returns (reported on the partner
Schedule K-1’s)

4. 4
WHY IS IT IMPORTANT TO DETERMINE A PARTNER’S SHARE OF DEBT?
Partner gets additional tax basis in the partnership (outside basis) to deduct
losses (will certain limitations – IRC Sections 465 and 469) allocated or to
receive tax-free / deferred distributions

5. 5
WHAT IS A LIABILITY?
• The creation of, or increase in, the basis of any of the obligor's assets
(real estate)
• A deduction taken into account in computing taxable income of the
obligation (accrued office supplies)
• A nondeductible, noncapitalizable expenditure (accrued interest payable
to a cash method tax partners or accrued penalties)
• Creditors claims to your assets

6. 6
GENERAL PRINCIPLES FOR LIABILITIES
• Pursuant to Section 752(a), an assumption of a partnership liability by a
partner or an increase in a partner’s share of partnership liabilities is
treated as a contribution of cash, there upon increasing the tax basis in
the partnership interest
• Pursuant to Section 752(b), an assumption of a partner’s liability by a
partnership or a decrease in a partner’s share of partnership liabilities is
treated as a distribution of cash, there upon decreasing the tax basis in
the partnership interest

7. 7
GENERAL PRINCIPLES - EXAMPLE
M and J purchase land for $100,000 with 20% down by splitting the down
payment; afterwards M and J decide to form a 50/50 partnership and
each contribute their equal parcels of land (TIC interests). The newly
formed M&J LLC assumes the $80,000 liability.
What is the effect of this transaction on each of the partner’s outside
basis / basis in the partner’s interest?

8. 8
GENERAL PRINCIPLES - SOLUTION
The balance sheet of the M&J LLC immediately after formation would be:
Land $100,000
Debt $80,000
Partners Capital $20,000
The partner’s tax capital and outside basis in the M&J LLC immediately
after formation would be:
Basis of assets contributed $50,000
Assumption of debt (752b) <40,000>
Partners tax capital $10,000
Share of partnership debt (752a) 40,000
Partners outside basis $50,000

9. 9
GENERAL PRINCIPLES - EXAMPLE
M and J form a general partnership. Partner M contributes real estate
worth $20,000 which has a tax basis of $15,000 and is encumbered by a
$10,000 liability (net equity of $10,000). Partner J contributes $10,000 in
cash. Assume each partners share of the liability after the contribution is
$5,000.
What would the balance sheet look like after the contribution and further,
show the effects on the partners tax capital accounts and outside basis in
the M and J Partnership?

10. 10
GENERAL PRINCIPLES - SOLUTION
The balance sheet of the M&J Partnership immediately after formation
would be:
Cash $10,000
Real Estate $15,000
Debt $10,000
Tax Capital $15,000
M&J’s tax capital accounts are not the same however, their 704(b)
capital accounts are the same!

11. 11
SOLUTION (CONTINUED)
Partner M’s tax capital and outside basis in the M&J Partnership
immediately after formation would be:
Basis of assets contributed $15,000
Assumption of debt (752b) <10,000>
Partners tax capital: $ 5,000
Share of partnership debt (752a) 5,000
Partners outside basis: $10,000
Partner J’s tax capital and outside basis in the M&J Partnership
immediately after formation would be:
Basis of assets contributed $10,000
Assumption of debt (752b) < None >
Partners tax capital: $10,000
Share of partnership debt (752a) 5,000
Partners outside basis: $15,000

12. • Recourse Liabilities
• Nonrecourse Liabilities
• Partner Nonrecourse Liabilities
Let’s thinks about these types of debts as they relate to general
partnership’s, limited partnership and limited liability company’s
12
TYPES OF DEBT

13. Recourse Liability
Treasury Regulations 1.752-1(a)(1)
A recourse liability is any liability
for which any partner or person
related to a partner bears the
economic risk of loss for the liability!
Nonrecourse Liability
Treasury Regulations 1.752-1(a)(2)
A nonrecourse liability is any
liability for which no partner or person
related to a partner bears the
economic risk of loss for the liability
A partner nonrecourse liability
is a liability which on its facts is a
nonrecourse liability; however, there
is at least one partner who bears the
economic risk of loss with respect to
that liability!
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TYPES OF LIABILITIES (CONTINUED)

14. QUALIFIED NONRECOURSE DEBT
14
• Must be secured by the real property used in the activity
• Must be borrowed with respect to the real property
• Must be nonrecourse to all of the partners
• Cannot be convertible into an equity interest
• Must be loaned by a qualified lender or guaranteed by the government
QNRD provides individuals with additional at-risk basis
[IRC Section 465]

15. SHARING OF RECOURSE LIABILITIES
15
A partner’s share of a recourse liability equals the portion of that
liability, if any, for which the partner or related person bears the
economic risk of loss
Generally, a partner bears the economic risk of loss if in a constructive
liquidation the partner or related person would be obligated with
respect to the liability to make a payment to any person or a
contribution to the partnership

16. CONSTRUCTIVE LIQUIDATION
16
• All partnership liabilities become payable in full and further, all
partnership assets including cash deemed to have zero value
• The partnership disposes of all property in a fully taxable transaction
for no consideration except relief of nonrecourse debt
• All items of income, gain, loss or deduction are allocated among
partners and the partnership liquidate

17. OTHER FACTORS AFFECTING ECONOMIC RISK OF LOSS
17
To the extent which a partner:
• Guarantees the repayment of the liability
• Furnishes assets to secure the repayment of the liability
• Indemnifies other partners
• Is allocated losses or has an obligation to restore any deficit balance
pursuant to the partnership agreement

18. REIMBURSEMENTS
18
• Subrogation rights
• Reimbursements from another partner or someone related to the
partner
Note: it is assumed that a partner will pay regardless of that partners net
worth or ability to pay.

19. RECOURSE DEBT - EXAMPLE
19
M and J form a 50:50 general partnership. M and J contribute $20,000 and
$10,000 in cash, respectively and they agree to share all items of income,
gain, loss, deductions and credits equally. The partnership borrows $70,000
and purchases real estate for $90,000; leaving $10,000 in cash reserve.
The partnership’s agreement satisfies all of the requirements of the basic
test for economic effect and each partner has an unlimited DRO.
Applying the rules of a constructive liquidation pursuant to Treasury
Regulations 1.752-2(b)(1), determine each partners share of the $70,000
liability?

20. RECOURSE DEBT - SOLUTION
20
1. The $70K mortgage become due and payable
2. The partnership property is assumed worthless
3. The assets are deemed to be disposed of for no consideration resulting
in a $100K loss
4. The loss is allocated to the partners according to the partnership
agreement
5. The partnership liquidates
6. The debt is repaid with the cash contributed by the partners as a result
of the unlimited deficit restoration obligation

21. SHARING ON NONRECOURSE LIABILITIES
TREASURY REGULATIONS 1.752-3(A)
21
Partner’s share of:
1. Partnership’s 704(b) gain
2. Partnership’s 704(c) gain - *
3. Partnership’s “excess nonrecourse liabilities”
Note * – the lesser of the partnership’s 704(c) minimum gain or the
partner’s remaining 704(c) built-in-gain

22. SHARING OF EXCESS NONRECOURSE LIABILITIES
22
• Generally based on share of partnership profits based upon all the facts
and circumstances
• Can be allocated first to any of the remaining 704(c) gain
• Can be allocated in accordance with the manner in which it is expected
that future deductions attributable to nonrecourse debt will be allocated
• Can specify Tier III nonrecourse sharing in the partnership agreement
provided that it is reasonably consistent with another significant allocation
that has substantial economic effect
• Tier III nonrecourse sharing method can be changed from year to year –
very flexible

23. NONRECOURSE DEBT - EXAMPLE
23
M and J form a 50:50 partnership. M contributes $80,000 in cash.
J contributes land with an adjusted basis of $40,000, a fair market
value of $150,000 and is subject to a mortgage in the amount of
$70,000 (secured by the land only). The partnerships agreement
satisfies all of the requirements of the basic test for economic
effect.

24. NONRECOURSE DEBT - SOLUTION
24
Book-704(b) Tax
Cash $ 80,000 $80,000
Land $150,000 $40,000 ($110,000 = built-in-gain)
[704(b) MG] [704(c) MG]
NR Debt $ 70,000 $70,000
Capital M $ 80,000 $80,000
Capital J $ 80,000 $<30,000>
How with the nonrecourse debt be shared by the partners if the excess
nonrecourse liabilities will be shared by the partner’s profit-sharing ratio?
M J
Tier I $ 0 $ 0
Tier II $ 0 $30,000
Tier III $20,000 $20,000

25. NONRECOURSE DEBT – SOLUTION (CONTINUED)
25
How with the nonrecourse debt be shared by the partners if the excess
nonrecourse liabilities will be shared if the remaining 704(c) built-in-
gain is taken into account in determining Tier III allocations?
M J
Tier I $ 0 $ 0
Tier II $ 0 $30,000
Tier III $ 0 $40,000

26. NONRECOURSE DEBT – EXAMPLE
26
Same facts as previous example but, now assume the partnership repays
$30,000 of the outstanding debt balance before year end. Again, the
partnerships agreement satisfies all of the requirements of the basic test
for economic effect.

27. NONRECOURSE DEBT – SOLUTION (CONTINUED)
27
Book-704b Tax
Cash $ 50,000 $50,000
Land $150,000 $40,000 ($110,000 = built-in-gain)
[704(b) MG] [704(c) MG]
NR Debt $ 40,000 $40,000
Capital M $ 80,000 $80,000
Capital J $ 80,000 $<30,000>
How with the nonrecourse debt be shared by the partners if the excess
nonrecourse liabilities will be shared by the partner’s profit-sharing ratio
(50:50)?
M J
Tier I $ 0 $ 0
Tier II $ 0 $ 0
Tier III $20,000 $20,000 - *
Note * – J will recognize $10,000 of recognized gain; IRC Section 731 gain!

28. NONRECOURSE DEBT – SOLUTION (CONTINUED)
28
How with the nonrecourse debt be shared by the partners if the excess
nonrecourse liabilities will be shared if the remaining 704c built-in-gain is
taken into account in determining Tier III allocations?
M J
Tier I $ 0 $ 0
Tier II $ 0 $ 0
Tier III $ 0 $40,000 - *
Note * - J avoids a recognized gain by specially allocating debt!

29. PARTNER NONRECOURSE LIABILITIES
TREASURY REGULATIONS 1.752-2(C)&(D)
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• Partner-lender
• Partner-guarantor (of what would otherwise constitute a nonrecourse
debt)
• This type of debt is allocated to the grantor-partner; treated as
recourse to the partner
• De-minimis exception: if partners interest is less than 10% for all
years

30. OTHER CONSIDERATIONS
30
• Partner guarantees: top-dollar v. bottom-dollar guarantees / anti-
abuse rules
• Related persons: Section 267(b) and 707(b)(1) rules apply except
80% is substituted for 50%, brother and sisters are not considered
family and special rules apply when one person is related to more
than one partner – also applies to partner-controlled lenders
• Tiered partnerships: lower tier debt

31. LIABILITY SHARING RULES SUMMARY
31
• Recourse Debt = Constructive Liquidation
• Nonrecourse Debt = Three-Tiered Analysis
• Partner Nonrecourse Debt = Allocate to partner bearing the
economic risk of loss

32. QUESTIONS – COMMENTS – 1.800.ASK.MIKE
OR EXT. 2230
32

33. THANK YOU AND HAPPY FILINGS