Tax Tips
| Publication year | 1981 |
| Pages | 284 |
| Citation | Vol. 10 No. 2 Pg. 284 |
1981, February, Pg. 284. Tax Tips
The formation of a partnership will generally not be a taxable event. Section 721 provides that no gain or loss is recognized to a partnership or any of its partners upon the contribution of property to the partnership in exchange for an interest therein. The complexities of business transactions, however, create a number of problems and uncertainties for practitioners in this area. This column examines some of the problems and pitfalls in attempting to form a partnership tax-free pursuant to § 721.
Section 721 's nonrecognition rule applies only if there is a contribution of property. The determination then is whether a partner has contributed property in exchange for his partnership interest or whether he has received his interest as compensation for the performance of past, present or future services. If a partner receives his interest as compensation for services, he is taxable on the value of the partnership interest received (see § 83). This determination must be made for newly formed partnerships, as well as existing partnerships.
Finding a contribution of property is usually no problem if the contribution consists of money, real property, personal property or installment obligations. The Regs, under § 721 include all of these assets within the definition of property. However, there are a number of assets which at various times could be considered either property or services. These "service flavored" assets include goodwill, contract rights, accounts receivable, patent rights, secret processes, formulas and other property rights. They are assets which have been created by the personal services of the taxpayer, but in their present form can constitute property.
Whether or not a contribution of any of these assets is a contribution of property depends upon a number of factors, including the intention of the parties, the documentation evidencing their intentions, whether or not these "property" rights are severable from the individual whose services created them, whether or not these assets are the property of the person contributing them and whether or not these "property rights" can be independently valued.
One of the most commonly encountered service flavored assets is goodwill. In both Hoyt Butler(fn1) and Rev.Rul. 70-45, it was held that it is...
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