§ 1.358-7 Transfers by partners and partnerships to corporations.
(a) Transfers by partners of partnership interests. For purposes of section 358(h), a transfer of a partnership interest to a corporation is treated as a transfer of the partner's share of each of the partnership's assets and an assumption by the corporation of the partner's share of partnership liabilities (including section 358(h) liabilities, as defined in paragraph (d) of this section). See paragraph (e) Example 2 of this section.
(b) Transfers by partnerships. If a corporation assumes a section 358(h) liability from a partnership in an exchange to which section 358(a) applies, then, for purposes of applying section 705 (determination of basis of partner's interest) and § 1.704-1(b), any reduction, under section 358(h)(1), in the partnership's basis in corporate stock received in the transaction is treated as an expenditure of the partnership described in section 705(a)(2)(B). See paragraph (e) Example 1 of this section. This expenditure must be allocated among the partners in accordance with section 704(b) and (c) and § 1.752-7(c). If a partner's share of the reduction, under section 358(h)(1), in the partnership's basis in corporate stock exceeds the partner's basis in the partnership interest, then the partner recognizes gain equal to the excess, which is treated as gain from the sale or exchange of a partnership interest. This paragraph does not apply to the extent that § 1.752-7(j)(4) applies to the assumption of the § 1.752-7 liability by the corporation.
(c) Assumption of section 358(h) liability by partnership followed by transfer of partnership interest or partnership property to a corporation—trade or business exception. Where a partnership assumes a section 358(h) liability from a partner and, subsequently, the partner transfers all or part of the partner's partnership interest to a corporation in an exchange to which section 358(a) applies, then, for purposes of applying section 358(h)(2), the section 358(h) liability is treated as associated only with the contribution made to the partnership by that partner. See paragraph (e) Example 2 of this section. Similar rules apply where a partnership assumes a section 358(h) liability of a partner and a corporation subsequently assumes that section 358(h) liability from the partnership in an exchange to which section 358(a) applies.
(d) Section 358(h) liabilities defined. For purposes of this section, section 358(h) liabilities are liabilities described in section 358(h)(3).
(e) Examples. The following examples illustrate the provisions of this section. Assume, for purposes of these examples, that the obligation assumed by the corporation does not reduce the shareholder's basis in the corporate stock under section 358(d). The examples are as follows:
Example 1. Transfer of partnership property to corporation.
In 2004, in an exchange to which section 351(a) applies, PRS, a
cash basis taxpayer,
transfers $2,000,000 cash to
Corporation X, also a
cash basis taxpayer, in
exchange for
Corporation X shares and
the assumption by
Corporation X of $1,000,000 of
accounts payable incurred by PRS. At
the time of
the exchange, PRS has
two partners, A, a 90%
partner, who has a $2,000,000
basis in
the PRS
interest, and B, a 10%
partner, who has a $50,000
basis in
the PRS
interest. Assume that, under section 358(h)(1), PRS's
basis in
the Corporation X
stock is reduced by
the accounts payable assumed by
Corporation X ($1,000,000). Under
paragraph (b) of this section, A's and B's
bases in PRS must be reduced, but not below zero, by their respective shares of
the section 358(h)(1)
basis reduction. If either
partner's share of
the section 358(h)(1)
basis reduction exceeds
the partner's
basis in
the partnership interest, then
the partner recognizes
gain equal to
the excess. A's share of
the section 358(h)
basis reduction is $900,000 (90% of $1,000,000). Therefore, A's
basis in
the PRS
interest is reduced to $1,100,000 ($2,000,000 − $900,000). B's share of
the section 358(h)
basis reduction is $100,000 (10% of $1,000,000). Because B's share of
the section 358(h)
basis reduction ($100,000) exceeds B's
basis in
the PRS
interest ($50,000), B's
basis in
the PRS
interest is reduced to $0 and B recognizes $50,000 of
gain. This
gain is treated as
gain from
the sale of
the PRS
interest.
Example 2. Transfer of partnership interest to corporation.
In 2004, A contributes undeveloped
land with a
value and
basis of $4,000,000 in
exchange for a 50%
interest in PRS and an
assumption by PRS of $2,000,000 of pension
liabilities from a separate
business that A conducts. A's
basis in
the PRS
interest immediately after
the contribution is A's
basis in
the land, $4,000,000, unreduced by
the amount of
the pension
liabilities. PRS develops
the land as a landfill. Before PRS has economically performed with respect to
the pension
liabilities, A
transfers A's
interest in PRS to
Corporation X, in an exchange to which section 351 applies. At
the time of
the exchange,
the value of A's PRS
interest is $2,000,000, A's
basis in PRS is $4,000,000, and A has no share of
partnership liabilities other than
the pension
liabilities. For purposes of applying section 358(h),
the transfer of
the PRS interest to
Corporation X is treated as a transfer to
Corporation X of A's share of PRS assets and an
assumption by
Corporation X of A's share of
the pension
liabilities of PRS ($2,000,000). Because
the pension
liabilities were not assumed by PRS from A in an
exchange in which
the trade or business associated with
the liability was transferred to PRS,
the transfer of
the PRS interest to
Corporation X is not excepted from section 358(h) under section 358(h)(2). See
paragraph (c) of this section. Under section 358(h), A's
basis in
the Corporation X
stock is reduced by
the $2,000,000 of pension
liabilities.
(f) Effective date. This section applies to assumptions of liabilities by a corporation occurring on or after June 24, 2003.
