Taxation Essentials of LLCs and Partnerships

Chapter 2Tax Consequences of Partnership or LLC Formation

Learning objectives

• Calculate the tax basis of assets transferred to a partnership or limited liability company (LLC) at formation.
• Recognize the tax consequences of a transfer of liabilities to a partnership or LLC in connection with property transfers at formation.
• Identify the required tax year for a partnership or LLC.
• Determine the tax consequences associated with the exchange of an interest in a partnership or LLC for services.

Determination of basis

The rules governing the determination and subsequent adjustment of a partner's basis in his or her partnership interest are generally straightforward. Consistent with the provision in Section 721 that no gain or loss is recognized upon a transfer of property to a partnership in exchange for an interest in the partnership, Section 722 provides that a partner takes an initial basis in his or her partnership interest equal to the amount of money and the basis of property he or she contributed. Section 723 provides that the partnership takes a carryover basis in property contributed.¹ Therefore, initially, the partnership's aggregate basis in its assets is equal to the sum of the partners' bases in their partnership interests. The same provisions apply to limited LLCs electing to be taxed as partnerships.

Effect of entity operations

The results of subsequent partnership operations are reflected in each partner's basis in his or her partnership interest. Section 705 ...