Allocations using a reasonable method other than those specifically stated in regulations.

• Author: Ellentuck, Albert B.

Facts: Kyle and Carol are planning on forming the KC Company, a general partnership in which they will be equal partners. * They plan on contributing a piece of property in which each has a 50% undivided interest. The property has a fair market value of $1,000. Kyle's tax basis in the property is zero and Carol's is $500. Depreciation is calculated straight-line with a remaining life of five years. * The partnership is expected to break even in the initial year for all income and expenses other than depreciation. Issues: The partnership agreement currently does not address which method will be used to allocate built-in gains and losses. Kyle and Carol have asked their tax adviser to review the situation to see what method would be reasonable.

Analysis

Regs. Sec. 1.704-3 specifically lists three methods that may be used to make allocations among partners for items of income, gain, loss and deduction to account for built-in gain and loss in contributed property. These three methods are (1) the traditional method, (2) the traditional method with curative allocations and (3) the remedial method. In addition to these described methods, other reasonable allocation methods meeting the requirements of Sec. 704(c) are also acceptable.

Prior to amendment in 1984, the "undivided interests method" was a specifically stated method under Sec. 704(c). Under this method, allocations of depreciation, depletion, or gain or loss on undivided interests in property contributed to a partnership were determined as though the undivided interests had not been contributed to the partnership. The undivided interest method is not a specifically identified method in the final regulations because it appeared to have limited application. The use of this method in appropriate situations may be reasonable.

The application of an allocation method used in the oil and gas industry in appropriate situations may also be reasonable. Under this method, each partner is, in essence, allocated all of the dePReciation or depletion from each item of property the partner contributes to the partnership (or

Editor's note: This case study has been adapted from "PPC Tax Planning Guide-Partnerships," 9th edition, by Grover A. Cleveland, William D. Klein, Terry W Lovelace, Sara S. McMurrian, Linda A. Markwood and Richard D. Thorsen, published by Practitioners Publishing Company, Fort Worth, Tex., 1995. from property purchased with cash contributed by the partner). Upon disposition of the...