LLC filing as Partnership

[WhiteOleander]

I took on a client yesterday that has me a little confused. He and two other people formed an LLC and purchased a piece of property to update and sell. They bought the property in '06 and sold it this year. There really is no problem with that part. It's pretty straight forward as to the sale and basis in property etc.

But, in '08 one of the prtnr's wanted out. So, the other two prtr's wrote him a check for his investment. But, they did not take him off as a member. I will get to go over the prtnshp check book today when he brings it in. If the other two prtns wrote personal checks to buy out the third, it would increase their share of the prtnshp right? I'm worried that the check was written from the prtnshp check book. If so, how is that dealt with? The prtnshp didn't actually have any income until this year with the sale of the property.

Also, since the 3rd person wasn't removed as a member, his name was on the closing stmt's and he had to sign at closing also. But, he took no money. The proceeds were split 50/50 between the other two.

So, I'm a little confused. Thanks for y'alls help. I do more S-Corps than partnerships so I get rusty with 1065's.

[Bees Knees]

Partnerships are pretty much flexible to do it anyway they want, as long as it makes sense economically, unlike S corporations.

The two remaining partners can write out checks to the retiring partner, or the partnership can write out the check to the retiring partner. Either way, the end result will be the same.

Example 1: Partnership ABC owns $9,000 worth of cash and property (FMV). Assume Partner A’s basis = $1,000, Partner B’s basis = $1,000, and Partner C’s basis = $1,000. Partner A and Partner B each write separate checks for $1,500 each and pay to Partner C to buy out his one third share of the $9,000. Partner A’s basis now equals $2,500 and Partner B’s basis now equals $2,500. ABC then sells its assets including cash for $9,000 and distributes the proceeds to the remaining partners. Partner A recognizes a $2,000 gain ($4,500 proceeds minus $2,500 basis) and Partner B recognizes a $2,000 gain ($4,500 proceeds minus $2,500 basis).

Example 2: Assume same facts except Partnership ABC pays Partner C $3,000 out of its cash to retire Partner C’s interest. Then Partnership ABC sells its remaining assets for $6,000 (the $9,000 it had prior to the sale minus $3,000 paid to Partner C), and then it distributes the proceeds to the remaining partners. Partner A recognizes a $2,000 gain ($3,000 proceeds minus $1,000 basis), and Partner B recognizes a $2,000 gain ($3,000 proceeds minus $1,000 basis).

Under either situation, the two remaining partners recognize the same gain upon the sale and liquidation of all partnership assets.

As for not removing the third partner’s name on the title to the property, that is sort of a technicality that probably is irrelevant. I suppose it was just easier not to transfer title to the property when the other two partners bought out the third. They all just agreed that after being bought out, the third partner was no longer entitled to any income earned by the partnership, including any sale of partnership property. Personally, I would have wanted to see the third partner’s name get taken off the title, but it still all works out the same in the end.

[WhiteOleander]

Thanks so much Bees. It makes sense now.

[ChEAr$]

Please

le'ts not refer to the LLC members as partners.

[Bees Knees]

For federal tax purposes, they are called partners. They each get a K-1 entitled: Partner’s Share of Income, Deductions, Credits, etc.

The LLC "member" term is a state law thing.

[Gretel]

Shouldn't have the title been in the name of the LLC and not it's individual members? The LLC did not own the property then, right?

I mean forming the LLC and then not transferring the title of the property to the LLC defeats the purpose. I know the limited liability is jeopardized but don't know how the IRS views this and if they even care.

[WhiteOleander]

The property was titled in the name of the LLC.

[Gretel]

Sorry, I should have asked questions instead of drawing conclusions. Is this a normal procedure that all managing members have to sign closing papers?

[WhiteOleander]

Sorry, I should have asked questions instead of drawing conclusions. Is this a normal procedure that all managing members have to sign closing papers?

I don't know. I asked about that too. On the closing stmt, the sellers names were all listed. It looked something liked this (names ficticious)

Not Necessary, LLC.
"Mr. No Clue" member
"Mr. We're Incorporated So We're Protected" member
"Mr. All I Want Is Out" member.

The title company required them to all sign. But, I don't put too much stock in this company. I seen them do some pretty loopy stuff.

[ChEAr$]

Now, now;

For federal tax purposes, they are called partners. They each get a K-1 entitled: Partner’s Share of Income, Deductions, Credits, etc.

The LLC "member" term is a state law thing.

You must know that i know all that.

Correct title of any "participant" is still "member", and the managing member signs returns as such; not as partner.

The 1065 is used only because IRS is too lazy to come up with an LLC form. (grin