Adjusting the Ins & Outs of Partnership Basis.

On Dec. 15, 1999, the IRS published final regulations in the Federal Register that updated the rules for partnership basis adjustments to reflect changes made during the past 41 years. These new regulations are complex and daunting for various reasons, including detailed record-keeping burdens that require complex calculations and related reporting requirements. Consequently, a partnership that has an IRC Sec. 754 election in effect should reevaluate the advisability of such an election. If this election is no longer desirable, its revocation should be considered.

PARTNERSHIP BASIS

Generally, a partnership does not adjust its basis in these situations:

* Situation I: The transfer of a partnership interest to a new partner because of a sale or exchange, or the death of the old partner; or

* Situation II: The distribution of appreciated or declined in value property to a partner.

However, under Sec. 754, a partnership may elect in Situation I to adjust the basis of the partnership's assets with respect to the new partner only (Sec. 743(b)). Similarly, Sec. 754 allows a partnership in Situation II to elect to adjust the basis of its remaining assets (Sec. 734(b)). If the Sec. 754 election is made, it applies to both Situations I and II.

ONE-TIME OPPORTUNITY TO REVOKE ELECTION

This election is irrevocable, but can be revoked with approval of the IRS district director where the partnership return is required to be filed. Revocation requests must be filed within 30 days after the end of the partnership's tax year for which the revocation is desired.

However, under Regs. Sec. 1.754-1 (c) (2), a partnership that has a Sec. 754 election in effect for a tax year that includes Dec. 15, 1999, such as a calendar-year partnership, may revoke that election for transfers or distributions after Dec. 14, 1999 by attaching a statement to the partnership's return for that tax year. This revocation statement must be filed by the due date of the partnership's return, including extensions, and must: disclose the partnership's name and address; declare that the partnership revokes its Sec. 754 election to apply the provisions of Secs. 734(b) and 743(b); and be signed by a partner authorized to sign the partnership's federal income tax return.

In addition, the first page of the partnership's return for that year must prominently display the following: RETURN FILED PURSUANT TO SEC. 1.754-1(c)(2).

SPECIAL RELIEF FOR LATE REVOCATIONS

Regs. Sec. 301.9100-2(b) grants an automatic extension of six months from a return's due date, excluding extensions, to make a regulatory or statutory election if the election's original deadline is the return's due date, including extensions, provided that the taxpayer timely filed a return for the year that the election should have been made and takes "corrective action" (described below) within this six-month extension period.

Thus, for example, under Regs. Sec. 301.9100-2(b), a calendar year partnership that filed its 1999 return by April 17 still should be able to revoke its Sec. 754 election, if advisable, by Oct. 16. The principal author of these recent regulations unofficially and informally confirmed this view May 30.

CORRECTIVE ACTION

Corrective action means filing an original or amended return for the year the election should have been made and attaching the appropriate form or statement for making the election. Taxpayers who make an election under an automatic extension, or whose tax liability would be affected by the election, must report their income in a manner that is consistent with the election. They also must comply with all requirements for making the election for the year the election should have been made and for all affected years.

PROCEDURAL REQUIREMENTS

Any return, election statement, or other form of filing that must be made to obtain an automatic extension must contain the following legend at the top of the document: FILED PURSUANT TO SEC. 301.9100-2. Any filing made to obtain an automatic extension must be sent to the same address that the filing to make the election would have been sent had the filing been timely made.

A letter ruling request is not required to obtain an automatic extension. Therefore, there are no user fees for taxpayers taking corrective action to obtain automatic extensions.

Stuart R. Josephs, CPA, has a San Diego-based Tax Assistance Practice (TAP) that specializes in assisting practitioners in resolving their clients' tax problems. Josephs, chair of the Federal Subcommittee of CalCPA's Committee on Taxation and a member of the California CPA Editorial Advisory Board