Joint Report on IRC Section 1031
Open Issues Involving Partnerships

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Endnotes

¹ All references are to the Internal Revenue Code of 1986, as amended. References in this report to a “partnership” refer to any unincorporated organization that is treated as a partnership for income tax purposes, including a limited liability company that does not elect to be treated as an association taxable as a corporation.

² Section 1031(a)(1) provides for nonrecognition of gain or loss when property held for productive use in a trade or business or for investment is exchanged solely for like-kind property to be held for either productive use in a trade or business or for investment. The statutory phrase “held either for productive use in a trade or business or for investment” is referred to in this Report as the “qualified use” requirement.

³ Bolker and Maloney involved corporate liquidations. A corporation is always considered an entity separate from its shareholders. A partnership, however, is a pass-through entity and in many contexts is considered an aggregation of individual partners rather than an entity separate from its partners. For example, the partners of a general partnership may elect under Section 761(a) to be taxed as owners of undivided interests in the underlying assets of the partnership. No such election is available to a corporation or its shareholders. Under Section 701, "persons carrying on business as partners shall be liable for income tax only in their separate or individual capacities." Certain elections under Section 703 are also made at the individual partner level, rather than at the partnership level. Section 731 generally allows tax free distributions from a partnership; no similar provision exists for corporations. Given the aggregate nature of a partnership, the rationale that the taxpayer is merely continuing its investment in another form is more convincing in the partnership context than in the corporate context.

⁴ For example, in Fred S. Wagensen v. Commissioner, 74 T.C. 653 (1980), a valid Section 1031 exchange was recognized where the taxpayer had no "current plans" to make a gift, which occurred approximately 9 months after the exchange. In contrast, in Click v. Commissioner, 78 T.C. 253 at 234 (1982), a gift made soon after an exchange invalidated the exchange because the Tax Court held that the taxpayer had acquired the replacement property to convert it to a personal use. In 124 Front Street, Inc. v. Commission, 65 TC 6 (1975), the taxpayer borrowed funds from an unrelated corporation and used the loan proceeds to acquire a property upon exercise of an option. The taxpayer transferred the recently acquired property to the unrelated corporation, which had provided the loan, in an exchange for like-kind real property within approximately six months after the option property was acquired. The Tax Court rejected the government's argument that the exchange was not governed by Section 1031.

⁵ For the reasons stated in the first section of this Report, the "new" partnership should be viewed as continuing the entity level investment in the like-kind property. The fact that A and B "cashed out" in a taxable sale should not affect the partnership level treatment.

⁶ In Long v. Commissioner, 77 TC 1045 (1981), the court stated in footnote 25 that a termination under Sec. 708 prior to an exchange should not cause the exchange to fall outside of Section 1031. The court stated that "we consider this to be the correct result especially in view of the statement contained in sec. 1.708-1(b)(1)(iv), Income Tax Regs."

⁷ This Report refers to the partner contributing Section 704(c) property as the "704(c) Partner."

⁸ The classification of activities under Section 469 may be different than their classification under Section 465.

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