ACCY 451: Advanced Income Tax Problems

ACCY 451: Advanced Income Tax Problems

Spring 2022

Homework #7

Imani and Ahmad revisited: On 1/1/21, Imani and Ahmad formed AI Partnership, a limited partnership. Imani will be the general partner and Ahmad will be a limited partner. He will not participate in management of the partnership but will simply hold the interest as a passive investment. Ahmad has no other sources of passive investment. Imani and Ahmad will each have a 50% profit/loss and capital interest. The partnership will make custom masks and sell them on Amazon. Imani’s initial contribution to the partnership was a commercial grade sewing machine worth $50,000 (adjusted basis $35,000). Imani had a $20,000 non-recourse loan which the partnership assumed. Ahmad, an attorney, contributed $10,000 of legal services and $40,000 of cash. During 2021, AI Partnership, borrowed $10,000 on an operating line of credit which Ahmed personally guaranteed and $5,000 on another recourse loan related the purchase of additional equipment (with no personal guarantee). During the first year of operation, AI Partnership distributed $10,000 to each partner. The 2021 profit and loss statement (tax basis) is below.

During 2022, AI takes out a recourse loan from the bank, which Imani personally guaranteed, for $100,000 and purchases equipment. Because Imani guaranteed the loan for the equipment, the partnership agreement was modified to allocate all of the depreciation from the new equipment to Imani. No repayments were made on this new loan during 2022 but the partnership did repay all of the operating line of credit during 2022 and made payments of $1,000 on the other recourse loan. The partnership contains a requirement to track capital accounts, requires that liquidating distributions must be in accordance with positive capital account balances and includes a qualified income offset provision. AI has $80,000 of taxable income, not including the depreciation on the equipment, for 2022. AI decides to claim bonus depreciation on the equipment.

Required:

1. What is Ahmad and Imani’s outside basis at the end of 2022?

2. What is the balance of Ahmad and Imani’s capital accounts at the end of 2022?

3. What problem is caused by this special allocation of depreciation to Imani and how does the partnership agreement address this?