Distributions to retiring partners.

• Author: Jamison, Robert W.
• Position: Part 2

The Revenue Reconciliation Act of 1993 (RRA) included several provisions that modify the tax treatment of distributions to retiring or deceased partners under Sec. 736. Part I of this article, published in April, examined these provisions and the significant effect they have on tax planning for Sec. 736 distributions.

The RRA also adopted uniform amortization rules for intangible assets. These rules have broad applicability, and are not limited to transactions between partnerships and partners. They do have some special ramifications, however, for distributions to retiring or deceased partners. Part II, below, will explore the most important aspects of the amortization provisions as they apply to such distributions.

Acquisition and Disposition of Intangible Assets

* Allocation of consideration

The treatment of intangible assets has long been a source of controversy between taxpayers and the IRS. One of the most important legislative provisions before 1993 was the 1986 adoption of Sec. 1060, which requires buyers and sellers of a going business to allocate values to the various assets exchanged according to the residual method. Although Sec. 1060 is a broad rule covering many transactions outside of the context of payments to partners, it does have specific application to certain partnership transactions. Sec. 1060 treats an exchange of a partnership interest, or a distribution to a partner, as an applicable asset acquisition if the partnership has a Sec. 754 election in effect, and the partnership must allocate newly acquired basis to assets under Sec. 755.(9) Therefore, Sec. 1060 requires appropriate allocation to goodwill whenever a partnership makes a Sec. 736(b) distribution and the partner recognizes either gain or loss. The regulations under Sec. 755 state that such allocation is required whenever the assets of the partnership constitute a going business, or a sufficient operation that goodwill or going concern value is associated with the partnership.(10)

* Recent developments

In the Newark Morning Ledger Co.(11) case, the Supreme Court specifically approved a taxpayer's attempt to identify and amortize short-lived intangible assets. The taxpayer's victory, however, was brief, for the Court's decision was soon eclipsed by the adoption of the Sec. 197 uniform amortization rules for intangible assets as part of the RRA.(12)

The new rules relating to intangible assets provide definite benefits for many taxpayers, since goodwill is now amortizable over a 15-year period.(13) There is a distinct disadvantage to taxpayers who have been able to accurately value intangible assets with lives shorter than 15 years. To come within the amortization rules, the intangible assets must have been purchased, rather than internally generated. In the Sec. 736(b) context, there are three implications:

1. The partnership may still separately value intangible assets, such as customer lists, covenants not to compete and other assets that might have short lives, but will amortize these assets over 15 years. Goodwill may be subject to anti-churning rules, but other intangibles will not.

2. When a partnership purchases intangible assets in a Sec. 736(b) payment, it may be subject to some anti-churning rules to determine the allowable amortization, if any, for the goodwill purchased from the retiring or deceased partner.

3. If the partnership is allowed to amortize the basis of intangible assets acquired in a Sec. 736(b) distribution, it can amortize the step-up in basis of these assets. The portion of the intangibles that represented the departing partner's basis in the assets will not be amortizable, unless the basis was amortizable before the Sec. 736 distribution.

When there are noncash distributions in a Sec. 736 context there would most likely be some allocation problems for a partnership that had a Sec. 754 election in effect. (This article deals with only cash distributions, in which the adjustments to basis are relatively simple.)

If a partner recognizes gain on receipt of a cash distribution, and the partnership has a Sec. 754 election in effect, the partnership adjusts the basis in the assets it retains in the same amount as the gain recognized by the partner who receives the distribution.(14) The partnership must allocate the step-up in basis among the assets held by the partnership immediately after the distribution. The step-up rules may result in nothing being allocated to goodwill under Temp. Regs. Sec. 1.755-2T. Any portion of this basis increase that is allocated to intangible assets held by the partnership may be amortized according to new Sec. 197, unless the partnership is barred by the anti-churning rules from claiming amortization.

Intangible Assets Subject to Amortization

The new amortization rules apply to all intangible assets acquired in the acquisition of a going business. These assets are specifically defined in Sec. 197(d) to include:

* Goodwill and going concern value.

* Workforce in place, books, records and information bases, including customer lists.

* Patents, copyrights, formulas, processes, designs, patterns, etc.

* Customer-based intangibles, such as composition of market, market share, deposit base of financial institutions and any other value resulting from relationships with customers.

* Any supplier-based intangible, including value resulting from future acquisitions of goods or services pursuant to...