Reg. § 1.737-2 Exceptions and special rules.
(a) Section 708(b)(1)(B) terminations Section and this section do not apply to the deemed distribution of interests in a new partnership caused by the termination of a partnership under section . A subsequent distribution of property by the new partnership to a partner of the new partnership that was formerly a partner of the terminated partnership is subject to section to the same extent that a distribution from the terminated partnership would have been subject to section . See also for a similar rule in the context of section . This applies to terminations of partnerships under section occurring on or after May 9, 1997; however, this may be applied to terminations occurring on or after May 9, 1996, provided that the partnership and its partners apply this to the termination in a consistent manner.
(b) Transfers to another partnership
(1) Complete transfer Section and this section do not apply to a transfer by a partnership (transferor partnership) of all of its assets and liabilities to a second partnership (transferee partnership) in an exchange described in section , followed by a distribution of the interest in the transferee partnership in liquidation of the transferor partnership as part of the same plan or arrangement. See for a similar rule in the context of section .
(2) Certain divisive transactions Section and this section do not apply to a transfer by a partnership (transferor partnership) of all of the section property contributed by a partner to a second partnership (transferee partnership) in an exchange described in section , followed by a distribution as part of the same plan or arrangement of an interest in the transferee partnership (and no other property) in complete liquidation of the interest of the partner that originally contributed the section property to the transferor partnership.
(3) Subsequent distributions A subsequent distribution of property by the transferee partnership to a partner of the transferee partnership that was formerly a partner of the transferor partnership is subject to section to the same extent that a distribution from the transferor partnership would have been subject to section .
(c) Incorporation of a partnership Section and this section do not apply to an incorporation of a partnership by any method of incorporation (other than a method involving an actual distribution of partnership property to the partners followed by a contribution of that property to a corporation), provided that the partnership is liquidated as part of the incorporation transaction. See for a similar rule in the context of section .
(d) Distribution of previously contributed property
(1) General rule Any portion of the distributed property that consists of property previously contributed by the distributee partner (previously contributed property) is not taken into account in determining the amount of the excess distribution or the partner's net precontribution gain. The previous sentence applies on or after May 9, 1997. See for a special rule for determining the basis of previously contributed property in the hands of a distributee partner who contributed the property to the partnership.
(2) Limitation for distribution of previously contributed interest in an entity An interest in an entity previously contributed to the partnership is not treated as previously contributed property to the extent that the value of the interest is attributable to property contributed to the entity after the interest was contributed to the partnership. The preceding sentence does not apply to the extent that the property contributed to the entity was contributed to the partnership by the partner that also contributed the interest in the entity to the partnership.
(3) Nonrecognition transactions, installment sales, contributed contracts, and capitalized costs
(i) Nonrecognition transactions Property received by the partnership in exchange for contributed section property in a nonrecognition transaction is treated as the contributed property with regard to the contributing partner for purposes of section to the extent that the property received is treated as section property under . See for a similar rule in the context of section .
(ii) Installment sales An installment obligation received by the partnership in an installment sale (as defined in section ) of section property is treated as the contributed property with regard to the contributing partner for purposes of section to the extent that the installment obligation received is treated as section property under . See for a similar rule in the context of section .
(iii) Contributed contracts Property acquired by a partnership pursuant to a contract that is section property is treated as the contributed property with regard to the contributing partner for purposes of section to the extent that the acquired property is treated as section property under . See for a similar rule in the context of section .
(iv) Capitalized costs Property to which the cost of section property is properly capitalized is treated as section property for purposes of section to the extent that such property is treated as section property under . See for a similar rule in the context of section .
(4) Undivided interests The distribution of an undivided interest in property is treated as the distribution of previously contributed property to the extent that the undivided interest does not exceed the undivided interest, if any, contributed by the distributee partner in the same property. See for the application of section in a similar context. The portion of the undivided interest in property retained by the partnership after the distribution, if any, that is treated as contributed by the distributee partner, is reduced to the extent of the undivided interest distributed to the distributee partner.
(e) Examples The following examples illustrate the rules of this section. Unless otherwise specified, partnership income equals partnership expenses (other than depreciation deductions for contributed property) for each year of the partnership, the fair market value of partnership property does not change, all distributions by the partnership are subject to section , and all partners are unrelated.
Example 1. Distribution of previously contributed property.
(i) On January 1, 1995, A, B, and C form partnership ABC as equal partners. A contributes the following nondepreciable real property to the partnership:
| Fair market value | Adjusted tax basis | |
|---|---|---|
| Property A1 | $20,000 | $10,000 |
| Property A2 | 10,000 | 6,000 |
(ii) A's total net precontribution gain on the contributed property is $14,000 ($10,000 on Property A1 plus $4,000 on Property A2). B contributes $10,000 cash and Property B, nondepreciable real property with a fair market value and adjusted tax basis of $20,000. C contributes $30,000 cash.
(iii) On December 31, 1998, Property A2 and Property B are distributed to A in complete liquidation of A's interest in the partnership. Property A2 was previously contributed by A and is therefore not taken into account in determining the amount of the excess distribution or A's net precontribution gain. The adjusted tax basis of Property A2 in the hands of A is also determined under section as if that property were the only property distributed to A.
(iv) As a result of excluding Property A2 from these determinations, the amount of the excess distribution is $10,000 ($20,000 fair market value of distributed Property B less $10,000 adjusted tax basis in A's partnership interest). A's net precontribution gain is also $10,000 ($14,000 total net precontribution gain less $4,000 gain with respect to previously contributed Property A2). A therefore recognizes $10,000 of gain on the distribution, the lesser of the excess distribution and the net precontribution gain.
Example 2. Distribution of a previously contributed interest in an entity.
(i) On January 1, 1995, A, B, and C form partnership ABC as equal partners. A contributes Property A, nondepreciable real property with a fair market value of $10,000 and an adjusted tax basis of $5,000, and all of the stock of Corporation X with a fair market value and adjusted tax basis of $500. B contributes $500 cash and Property B, nondepreciable real property with a fair market value and adjusted tax basis of $10,000. Partner C contributes $10,500 cash. On December 31, 1996, ABC contributes Property B to Corporation X in a nonrecognition transaction under section .
(ii) On December 31, 1998, all of the stock of Corporation X is distributed to A in complete liquidation of A's interest in the partnership. The stock is treated as previously contributed property with respect to A only to the extent of the $500 fair market value of the Corporation X stock contributed by A. The fair market value of the distributed stock for purposes of determining the amount of the excess distribution is therefore $10,000 ($10,500 total fair market value of Corporation X stock less $500 portion treated as previously contributed property). The $500 fair market value and adjusted tax basis of the Corporation X stock is also not taken into account in determining the amount of the excess distribution and the net precontribution gain.
(iii) A recognizes $5,000 of gain under section , the amount of the excess distribution ($10,000 fair market value of distributed property less $5,000 adjusted tax basis in A's partnership interest) and A's net precontribution gain ($10,000 fair market value of Property A less $5,000 adjusted tax basis in Property A).
Example 3. Distribution of undivided interest in property.
(i) On January 1, 1995, A and B form partnership AB as equal partners. A contributes $500 cash and an undivided one-half interest in Property X. B contributes $500 cash and an undivided one-half interest in Property X.
(ii) On December 31, 1998, an undivided one-half interest in Property X is distributed to A in a current distribution. The distribution of the undivided one-half interest in Property X is treated as a distribution of previously contributed property because A contributed an undivided one-half interest in Property X. As a result, A does not recognize any gain under section on the distribution.
[T.D. 8642, 60 FR 66735, Dec. 26, 1995, as amended by T.D. 8717, 62 FR 25501, May 9, 1997; T.D. 9193, 70 FR 14395, Mar. 22, 2005; T.D. 9207, 70 FR 30342, May 26, 2005; T.D. 9193, 70 FR 45531, Aug. 8, 2005]