shift from qualified nonrecourse financing to non recourse

[rip131]

Client bought a real estate limited partnership in 1984. Partnership invested in residential rental units. 2011 K-1 shows $137,000 in qualified nonrecourse financing, ($136,000) ending capital account. 2012 K-1 shows $22,000 sec. 1250 gain, $5,000 other income, ($109,000) ending capital account and $97,500 in nonrecourse financing ($0 qualified nonrecourse financing). It seems that the real estate was sold for considerably less than the outstanding loans, hence the shift from qualified nonrecourse financing to nonrecourse. Due to the loss of basis previously provided by the qualified nonrecourse financing, it looks like the client has $109,000 in reportable excess distribution capital gain. Client died in late December, 2012 and his wife inherited all assets. Does this have any bearing on the gain (step-up, etc.). How does this affect the current basis for the spouse?

Became my client in 2010, no significant information on prior year tax returns or K-1's available.

[buzzardbreath]

What happened?

I believe in a typical tenancy-by-the-entirety, passage to the wife doesn't really change anything. We can concoct exceptions to this, but it will only make the discussion more cumbersome.

If the numbers you cite are true, this gentleman held a substantial investment in this LLP/REMIC [whatever it is now].
People who bought into these things prior to the 1986 Tax Act were, in general, stuck with these things and couldn't get rid of them without taking a beating. They had a history of liquidating every few years, but when the nonrecourse rules of the new law came into effect, the developers couldn't find new money so they postponed liquidation ad infinitum, as the case with this gentleman. He probably didn't know he was going to be stuck with this thing for 30 years.

Obviously, something happened to the debt which changed its status. It is suspicious to me that in 2011 ALL of the debt was qualified and in 2012 NONE of the debt was qualified (if I have read your post correctly). Either the K-1 is wrong, or else something dramatic happened. A large entity rarely has ALL their financing with only one creditor, so whatever happened affected ALL debts of the entity. Consider what makes this kind of debt "qualified":
**debt is guaranteed by a federal, state, local govt or commercial lender not receiving a fee.
**secured by real estate
**debt is not convertible into ownership.
If the K-1 is correct, one or more of the factors above has changed.

I think if you ask the question "What happened" and get to the bottom of it with the entity, it is likely that none of the above factors really changed and the K-1 for either 2011 or 2012 is incorrect.

Obviously, you are on the right track: if both K-1s are correct, there will be a ghastly effect on basis.

"The rich man writes the book of laws the poor man must defend
But the highest laws are written on the hearts of honest men." - George M Green