Mr. and Ms. Smith's partnership owns the following assets: * Potential § 1245 recapture of $45,000.
** Straight-line depreciation was used.
Mr) and Ms. Smith each have a basis for their partnership interest of $135,000. Calculate their combined recognized gain or loss and classify it as capital or ordinary if they sell their partnership interests for $500,000.
A) $230,000 ordinary income.
B) $230,000 capital gain.
C) $115,000 ordinary income and $115,000 capital gain.
D) $110,000 ordinary income and $120,000 capital gain.
E) None of the above.

Question

Mr. and Ms. Smith's partnership owns the following assets:  * Potential § 1245 recapture of $45,000.
** Straight-line depreciation was used.
Mr) and Ms. Smith each have a basis for their partnership interest of $135,000. Calculate their combined recognized gain or loss and classify it as capital or ordinary if they sell their partnership interests for $500,000.
A) $230,000 ordinary income. 
B) $230,000 capital gain. 
C) $115,000 ordinary income and $115,000 capital gain. 
D) $110,000 ordinary income and $120,000 capital gain. 
E) None of the above.

Quizplus · Accepted Answer

To calculate the recognized gain or loss, we need to first calculate the adjusted basis of the partnership interests, which is the original basis plus the partner's share of partnership income, minus the partner's share of partnership losses, minus any distributions made to the partner.

Adjusted basis for each partner = $135,000 + ($500,000/$1,000,000)*($90,000) - ($500,000/$1,000,000)*($60,000) - $0
= $135,000 + $45,000 - $30,000
= $150,000

Total adjusted basis for both partners = $300,000

The amount realized by both partners from the sale is $500,000, so the recognized gain or loss is:

Recognized gain or loss = Amount realized - Adjusted basis
= $500,000 - $300,000
= $200,000

Of the $200,000 recognized gain, $45,000 is potential § 1245 recapture, which is treated as ordinary income. The remaining $155,000 is capital gain.

Therefore, the combined recognized gain of Mr. and Ms. Smith is $110,000 ordinary income ($45,000 § 1245 recapture + $65,000 gain on the sale attributable to depreciation recapture) and $90,000 capital gain ($90,000 gain on the sale attributable to the difference between the amount realized and the adjusted basis).

The closest answer choice to this is D, which states that the recognized gain is $110,000 ordinary income and $120,000 capital gain. However, the correct split is $110,000 ordinary income and $90,000 capital gain. Therefore, the correct answer is D.

Mr and Ms Smith's Partnership Owns the Following Assets: * Potential