Question 1

Which of the following statements regarding partnerships losses suspended by the tax basis limitation is true?
A) Partnership losses must be used only in the year the losses are created
B) Partnership losses may be carried back 2 years and carried forward 5 years
C) Partnership losses may be carried forward indefinitely
D)Partnership losses may be carried back 2 years and carried forward 20 years

Accepted Answer

Partnership losses that are suspended by the tax basis limitation may be carried forward indefinitely. This means that they may be used in future years when the partnership generates taxable income, subject to further limitations. The other options are incorrect: partnership losses may not be carried back, and the carryforward period is not limited to 5 or 20 years.

Question 2

John, a limited partner of Candy Apple, LP, is allocated $30,000 of ordinary business loss from the partnership. Before the loss allocation, his tax basis is $20,000 and at-risk amount is $10,000. John also has ordinary business income of $20,000 from Sweet Pea, LP as a general partner and ordinary business income of $5,000 from Red Tomato, as a limited partner. How much of the $30,000 loss from Candy Apple can John deduct currently?
A) $5,000
B) $10,000
C) $25,000
D)$30,000

Accepted Answer

John would first compare the $30,000 loss to his tax basis of $20,000. As a result, John would have $10,000 of this loss suspended due to the tax basis limitation. Next, John would compare the remaining $20,000 loss with his $10,000 at-risk amount. Thus, an additional $10,000 of loss would be suspended due to the at-risk limitation leaving $10,000 of loss. Because John is a limited partner in Candy Apple, this loss is a passive activity loss. $5,000 of John's $10,000 passive activity loss from Candy Apple can be used currently to offset his passive income from Red Tomato. The remaining $(5,000) is suspended as a passive activity loss.

Question 3

What type of debt is not included in calculating a partner's at-risk amount?
A) Recourse debt
B) Qualified nonrecourse debt
C) Nonrecourse debt
D)All of these types of debt are included in the at-risk amount

Accepted Answer

Nonrecourse debt is not included in calculating a partner's at-risk amount because the partner is not personally liable for the debt.

Question 4

Styling Shoes, LLC filed its 20X8 Form 1065 on March 15, 20X9. Styling had three members with the following ownership interests and tax basis at the beginning of the 20X8: (1) Jane, a member with a 25% profits and capital interest and a $5,000 outside basis, (2) Joe, a member with a 45% profits and capital interest and a $10,000 outside basis, and (3) Jack, a member with a 30% profits and capital interest and a $2,000 outside basis. The following items were reported on Styling's Schedule K for the year: ordinary income of $100,000, Section 1231 gain of $15,000, charitable contributions of $25,000, and tax-exempt income of $3,000. In addition, Styling received an additional bank loan of $12,000 during 20X8. What is Jane's tax basis after adjustment for her share of these items?
A) $28,250
B) $31,250
C) $33,500
D)$57,250

Accepted Answer

First, we need to determine the total taxable income of Styling. This is calculated as follows:
Ordinary Income: $100,000
Section 1231 Gain: $15,000
Charitable Contributions: ($25,000)
Tax-Exempt Income: ($3,000)
Total Taxable Income: $87,000

Next, we need to determine each member's share of taxable income and tax-exempt income. Since Jane has a 25% interest in Styling, her share of taxable income is $21,750 ($87,000 x 0.25) and her share of tax-exempt income is $750 ($3,000 x 0.25).

Based on the information given, we don't know whether any of the taxable income is separately stated, so we'll assume it's not. Therefore, Jane's K-1 would show ordinary income of $21,750 and a share of the charitable contributions of $6,250 (since her charitable contributions percentage is the same as her profit and capital percentages). We also need to add Jane's share of the additional loan taken out during the year, which is $3,000 ($12,000 x 0.25).

Jane's total income for the year is now $31,000 ($21,750 + $6,250 + $3,000). Her tax basis has increased by her share of Styling's income, so her tax basis at the end of the year is $36,000 ($5,000 + $21,750 + $6,250 + $3,000).

Question 5

Jay has a tax basis of $14,000 in his partnership interest at the beginning of the partnership tax year. The following amounts of partnership debt were allocated to Jay and are included in his beginning of the year tax basis: (1) recourse debt - $3,000, (2) qualified nonrecourse debt - $1,000, and (3) nonrecourse debt - $500. If Jay is allocated a $15,000 loss for the current year, how much of the loss will be suspended under the tax basis and at-risk limitations?
A) $500, $1,000
B) $1,000, $500
C) $0, $0
D)$14,000, $1,000

Accepted Answer

The answer of Jay has a tax basis of $14,000...

Question 6

If partnership debt is reduced and a partner is deemed to receive a cash distribution, what impact does the deemed distribution have on the partner if it is in excess of her tax basis?
A) The partner will treat the distribution in excess of her basis as ordinary income
B) The partner will treat the distribution in excess of her basis as capital gain
C) The partner will not ever be taxed on the distribution in excess of her basis
D)The partner will not be taxed on the distribution in excess of her basis until she sells her partnership interest

Accepted Answer

The partner will treat the distribution in excess of her basis as capital gain. This is because distributions from a partnership to a partner that exceed the partner's basis in the partnership are treated as a sale or exchange of the partnership interest, which generally results in capital gain.

Question 7

In what order are the loss limitations for partnerships applied?
A) Tax Basis - At-Risk Amount - Passive Activity Loss
B) Passive Activity Loss - Tax Basis - At-Risk Amount
C) Tax Basis - Passive Activity Loss - At-Risk Amount
D)At-Risk Amount - Tax Basis - Passive Activity Loss

Accepted Answer

Partnership losses are first limited by the partner's tax basis, then by the partner's at-risk amount. Any remaining passive loss may only be deducted if the partner also has passive income. Any suspended losses are carried forward indefinitely.

Question 8

Which of the following would not be classified as a material participant in an activity?
A) An individual who participates more than 100 hours a year and the person's participation is not less than any other individual's participation
B) An individual who participated in the activity for at least one of the preceding five taxable years
C) An individual who participates in an activity regularly, continuously, and substantially
D)An individual who participates in an activity for more than 500 hours a year

Accepted Answer

An individual who participated in the activity for at least one of the preceding five taxable years would not be classified as a material participant in an activity. The other options provided would classify the individual as a material participant.

Question 9

Does adjusting a partner's basis for tax-exempt income prevent double taxation?
A) Yes, if this basis adjustment is not made the partner will be taxed once when the income is allocated to him and a second time when he sells his partnership interest
B) Yes, if this basis adjustment is not made the partner will be taxed on the tax-exempt income twice when he sells his partnership interest because he was not taxed on this income when it was earned
C) No, making this adjustment to the partner's basis prevents the tax-exempt income from being converted to taxable income
D)No, the partner should not adjust his tax basis by his share of tax-exempt income

Accepted Answer

The answer of Does adjusting a partner's basis for tax-exempt...

Question 10

Hilary had an outside basis in LTL, General Partnership of $10,000 at the beginning of the year. LTL reported the following items on Hilary's K-1 for the year: ordinary business income of $5,000, a $10,000 reduction in Hilary's share of partnership debt, a cash distribution of $20,000, and tax-exempt income of $3,000. What is Hilary's adjusted basis at the end of the year?
A) ($12,000)
B) ($9,000)
C) $0
D)$15,000
E)$18,000

Accepted Answer

Hilary's adjusted basis calculation: Starting basis of $10,000 + $5,000 ordinary business income + $3,000 tax-exempt income - $10,000 reduction in share of partnership debt - $20,000 cash distribution = $0. The basis cannot go below zero, so the correct answer is $0.

Question 11

How does additional debt or relief of debt affect a partner's basis?
A) Debt has no effect on a partner's basis
B) Relief of debt increases a partner's basis
C) Both additional debt and relief of debt increase a partner's basis
D)Additional debt increases a partner's basis

Accepted Answer

Additional debt allocated to a partner increases the partner's basis in the partnership. This is because the partner is considered to be at economic risk for the repayment of the partnership's liabilities, which increases their investment in the partnership. Relief of debt, on the other hand, would decrease a partner's basis, as it reduces the partner's economic risk in the partnership.

Question 12

Which of the following statements regarding the rationale for adjusting a partner's basis is false?
A) To prevent partners from being double taxed when they sell their partnership interests
B) To ensure that partnership tax-exempt income is not ultimately taxed
C) To prevent partners from being double taxed when they receive cash distributions
D)To ensure that partnership non-deductible expenses are never deductible
E)None of these

Accepted Answer

All the statements provided are true regarding the rationale for adjusting a partner's basis. Adjustments are made to prevent double taxation, ensure tax-exempt income remains untaxed, and ensure non-deductible expenses are not deducted.

Question 13

J&J, LLC was in its third year of operations when J&J decided to expand the number of members from two, A & B, with equal profits and capital interests to three members, A, B, and
C. The third member, C, will contribute her financial expertise to the LLC in exchange for a 1/3 capital interest in J&J. Given the balance sheet below reflecting the financial position of J&J on the date member C is admitted, what are the tax consequences to members A, B, and C, and to J&J when C receives her capital interest? If, instead, member C receives a 1/3 profit interest, what would be the tax consequences to members A, B, and C, and to J&J?

Accepted Answer

The answer of J&J, LLC was in its third year...

Question 14

What is the difference between the aggregate and entity theory of partnership taxation? Provide two examples of how partnership tax rules reflect the aggregate theory and two examples of how they reflect the entity theory.

Accepted Answer

The answer of What is the difference between the aggregate...

Question 15

Which of the following items will affect a partner's tax basis?
A) Share of ordinary business income (loss)
B) Share of nonrecourse debt
C) Share of recourse debt
D)Share of qualified nonrecourse debt
E)All of these will affect a partner's tax basis

Accepted Answer

All of the listed items will affect a partner's tax basis. 
- Share of ordinary business income (loss) will increase or decrease the partner's tax basis depending on whether the partnership had a net income or loss during the period. 
- Share of nonrecourse debt will increase the partner's tax basis, as they are not personally liable for the debt. 
- Share of recourse debt will increase the partner's tax basis only to the extent that they are personally liable for the debt. 
- Share of qualified nonrecourse debt will increase the partner's tax basis, but only up to the amount that the partner is at risk for.

Question 16

Which person would generally be treated as a material participant in an activity?
A) A participant in a rental activity
B) A limited partner
C) A LLC member not involved with management of the LLC
D)A general partner

Accepted Answer

Limited partners and participants in rental activities are generally deemed to be passive participants. In addition, non-managing LLC members would typically not be treated under the regulations as having a level of involvement that is "regular, continuous, and substantial." However, general partners are likely to satisfy this definition of material participation.

Question 17

Jerry, a partner with 30% capital and profit interest, received his Schedule K-1 from Plush Pillows, LP. At the beginning of the year, Jerry's tax basis in his partnership interest was $50,000. His current year Schedule K-1 reported an ordinary loss of $15,000, long-term capital gain of $3,000, qualified dividends of $2,000, $500 of non-deductible expenses, a $10,000 cash contribution, and a reduction of $4,000 in his share of partnership debt. What is Jerry's adjusted basis in his partnership interest at the end of the year?
A) $35,000
B) $40,000
C) $45,500
D)$49,500

Accepted Answer

Jerry's initial tax basis is increased by his cash contribution and share of separately stated items (long-term capital gain and qualified dividends). His basis is then reduced by his share of the reduction in partnership debt, non-deductible expenses, and ordinary loss ($50,000 + $10,000 + $3,000 + $2,000 − $4,000 − $500 − $15,000 = $45,500).

Question 18

If a taxpayer sells a passive activity with suspended passive activity losses from prior years, what type of income can be offset by the suspended passive losses in the year of sale?
A) Passive activity income
B) Portfolio income
C) Active business income
D)Any of these types of income can be offset.
E)None of these

Accepted Answer

In the year of sale, suspended passive activity losses can offset any type of income, including passive, portfolio, and active business income.

Question 19

On January 1, X9, Gerald received his 50% profits and capital interest in High Air, LLC in exchange for $2,000 in cash and real property with a $3,000 tax basis secured by a $2,000 nonrecourse mortgage. High Air reported a $15,000 loss for its X9 calendar year. How much loss can Gerald deduct, and how much loss must he suspend if he only applies the tax basis loss limitation?
A) $0, $4,000
B) $0, $7,500
C) $0, $15,000
D)$4,000, $0
E)None of these

Accepted Answer

The answer of On January 1, X9, Gerald received his...

Question 20

On March 15, 20X9, Troy, Peter, and Sarah formed Picture Perfect general partnership. This partnership was created to sell a variety of cameras, picture frames, and other photography accessories. When it was formed, the partners received equal profits and capital interests and the following items were contributed by each partner:
• Troy - cash of $3,000, inventory with a FMV and tax basis of $5,000, and a building with a FMV of $22,000 and adjusted basis of $10,000. Additionally, the building was secured by a $10,000 nonrecourse mortgage.
• Peter - cash of $5,000, accounts payable of $12,000 (recourse debt for which each partner becomes equally responsible), and land with a FMV of $27,000 and tax basis of $20,000.
• Sarah - cash of $2,000, accounts receivable with a FMV and tax basis of $1,000, and equipment with a FMV of $40,000 and adjusted basis of $3,500. Sarah also contributed a $23,000 nonrecourse note payable secured by the equipment.
What is each partner's outside basis and how much gain (loss) must the partners recognize in 20X9 when Picture Perfect was formed?

Accepted Answer

The answer of On March 15, 20X9, Troy, Peter, and...

Quiz 9: Forming and Operating Partnerships

Which of the following statements regarding partnerships losses suspended by the tax basis limitation is true?

What type of debt is not included in calculating a partner's at-risk amount?

If partnership debt is reduced and a partner is deemed to receive a cash distribution, what impact does the deemed distribution have on the partner if it is in excess of her tax basis?

In what order are the loss limitations for partnerships applied?

Which of the following would not be classified as a material participant in an activity?

Does adjusting a partner's basis for tax-exempt income prevent double taxation?

How does additional debt or relief of debt affect a partner's basis?

Which of the following statements regarding the rationale for adjusting a partner's basis is false?

What is the difference between the aggregate and entity theory of partnership taxation? Provide two examples of how partnership tax rules reflect the aggregate theory and two examples of how they reflect the entity theory.

Which of the following items will affect a partner's tax basis?

Which person would generally be treated as a material participant in an activity?

If a taxpayer sells a passive activity with suspended passive activity losses from prior years, what type of income can be offset by the suspended passive losses in the year of sale?