Amortizing sec. 197 intangibles using a sec. 754 election.

When purchasing a business that is a partnership or limited liability company (LLC), the following approach can produce benefits for the buyer. Often when a business is purchased, the buyer pays not only for the fair market value of assets received, but also for goodwill.

The use of a Sec. 754 election to step up assets in a partnership under Secs. 734 and 743 can create basis in Sec. 197 intangible assets that can then be amortized.

Although Sec. 197(e)(1)(A) specifically excludes corporate stock and partnership interests from being considered "Sec. 197 intangibles," Temp. Regs. Sec. 1.197-1T(b)(8) allows any increase in the basis of partnership property under Secs. 734(b) and 743(b) to be considered an increase in the proportionate underlying property on the date of the distribution or transfer. Any increased basis in an intangible asset will be considered a newly acquired intangible asset On the date the transaction occurs.

As long as the buyer is not related to the seller, there should be no problems with the anti-churning rules, since Sec. 197(f)(9)(E) states that the anti-churning rules can be applied at the partner level when a basis adjustment has been made under Sec. 734 or 743. Each partner will be treated as having owned and used his proportionate share of the partnership assets.

Example: Buyer B would like to purchase a business from corporation X and would like the ability to amortize the goodwill purchased. B does not want to directly purchase the assets of the business; because the state in which the transaction will occur does not have a bulk sale exemption, the sales tax consequences will be costly

Step 1: X drops down the assets (including intangibles) of the business B wants to purchase to a newly formed partnership or LLC. There will be no gain recognized on this transaction under Sec. 721. For the entity to be taxed as a partnership, another party must simultaneously contribute a nominal amount to the entity for an interest.

Step 2: B purchases the partnership or LLC interest. B makes an election under Sec. 754 and his basis in the assets is adjusted under Sec. 743(b). If the purchase causes a technical termination of the partnership under Sec. 708(b)(1)(B), a Sec. 754 election can still be made on the final partnership return prior to the deemed distribution and recontribution of assets (Rev. Rul. 88-42).

Step 3: B benefits from amortization of the stepped-up basis in any Sec. 197 intangible over 15 years by virtue of Sec. 197(f)(9)(E) end Temp. Regs. Sec. 1.197-1T(b)(8).