2. The AB partnership is a 75% partner in the ABC partnership, in which C owns t

Question

2. The AB partnership is a 75% partner in the ABC partnership, in which C owns the other 25%. Both partnerships use the calendar year as their taxable year. The ABC partnership has a tax loss of $16,000 for the year. D becomes a one-third partner in the AB partnership (with A and B owning the other two-thirds equally) on December 1 by making a cash contribution on that date. How will ABC loss be allocated if the AB (now ABD) partnership uses the proration method? The interim closing method (assuming all income and deductions other than the $16,000 loss accrued ratably throughout the year)?

Explanation / Answer

ABC is a partnership between AB (75%) and C (25%)

Allocation of loss of 16000$ during the calender/financial year is as follows:

AB = 75% X 16000 = $ 12000

C= 25% X 16000 = $4000

D becomes a partner in AB on Dec 1 i.e. for 1 month out of 12 months i.e. 1/12

we need to calcuate allocation of loss within AB (now ABD). There are 2 methods of doing this:

Proration method:

The joining/departing partners share is based on the following:

D is 1/3 partner for 1/12 period. Hence, his percentage share based on proration method is

1/3 x 1/12 = 1/36 = 2.78%

Hence, Loss allocated to D is 12000 x 2.78% = $333.34  

<note: we had calculated above that the share of AB (or ABD) in the loss is 12000>

Loss allocated to A and B: <note: it is mentioned that A and B equally own the remaining 2/3rds, hence, 1/3 each for 1 month and equal i.e.1/2 for 11 months>

A's share based on this method = (1/2 x 11/12) + (1/3 x 1/12) = 48.61%

Hence, Loss allocated to A is 12000 x 48.61% = $5833.33

B's share based on this method = (1/2 x 11/12) + (1/3 x 1/12) = 48.61%

Hence, Loss allocated to B is 12000 x 48.61% = $5833.33

Interim closing method:

Under this method, the partners books are closed on the exit/joining date, and he is allocated normal percentage share of the total amount

Here, it is mentioned that the loss is accrued ratably throughout the year. Hence,

A's share = 1/3 x 12000 = $4000

B's share = 1/3 x 12000 = $4000

D's share = 1/3 x 12000 = $4000

Note: C's share has been calculated in the beginning as $4000 and this remains the same for both the methods

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