Ali, a contractor, builds an office building for a construction partnership in exchange for a capital and profits interest in the partnership worth $500,000. Which of the following statements is correct?
A)Ali recognizes $500,000 of ordinary income and the partnership can deduct $500,000 in the current year.
B)Ali recognizes no income and the partnership can deduct nothing in the current year.
C)Ali recognizes $500,000 ordinary income and the partnership deducts the $500,000 over the building's MACRS recovery period as a depreciation expense.
D)Ali recognizes ordinary income in the current year in an amount equal to the depreciation deduction the partnership claims this year for the $500,000 capitalized amount.

Question

Quizplus · Accepted Answer

When Ali receives a capital and profits interest in a partnership for the construction of an office building, they are considered to have received compensation for their services. Therefore, Ali must recognize $500,000 of ordinary income, which is the fair market value of the interest they received. The partnership will be able to deduct the $500,000 over the building's MACRS recovery period as a depreciation expense. Option A is incorrect because the partnership cannot deduct the entire $500,000 in the current year. Option B is incorrect because Ali did receive compensation for their services. Option D is incorrect because Ali must recognize the entire $500,000 of ordinary income in the current year, not just the amount of the depreciation deduction.

Ali, a Contractor, Builds an Office Building for a Construction