Rev. Rul. 60-352

Advice has been requested with respect to the treatment, for Federal income tax purposes, of a contribution of an interest in a partnership to a charitable organization under the circumstances described below.

During the taxable years 1955 through 1958, the taxpayer was both a general and a limited partner in a partnership which was engaged in the purchase, subdivision, and sale of tracts of land. The partnership has consistently employed the installment method of accounting in reporting its gains on sales of subdivided property in accordance with the provisions of section 453(a) of the Internal Revenue Code of 1954.

In 1959, the taxpaper transferred, without receipt of consideration, all of his interest as a limited partner in the partnership to a charitable organization contributions to which are deductible under section 170 of the Code.

The specific question in this case is whether the taxpayer realized taxable income as a result of the transfer of his partnership interest to the charitable organization and, if so, whether it is taxable as capital gain or ordinary income.

Section 741 of the Code provides that in the case of a sale or exchange of an interest in a partnership, gain or loss shall be recognized to the transferor partner. Such gain or loss shall be considered as gain or loss from the sale or exchange of a capital asset, except as otherwise provided in section 751 (relating to unrealized receivables and inventory items which have appreciated substantially in value).

Section 751(a) of the Code provides, in part, that the amount of any money or the fair market value of any property received by a transferor partner in exchange for all or part of his interest in the partnership attributable to unrealized receivables, or inventory items of the partnership which have appreciated substantially in value, shall be considered as an amount realized from the sale or exchange of property other than a capital asset.

Section 453(d) of the Code provides, in part, that if an installment obligation is distributed, transmitted, or disposed of, otherwise than by sale or exchange, gain or loss shall result to the extent of the difference between the basis of the obligation and the fair market value of the obligation at the time of the distribution, transmission, or disposition.

A transfer of an installment obligation by gift constitutes a `disposition' of such obligation resulting in a realization of gain by the donor to the extent of the difference between the basis of the obligation and its fair market at the time of such disposition. See I.T. 3293, C.B. 1939-1, 183; and Rev. Rul. 55-157, C.B. 1955-1, 293.

In G.C.M. 26379, C.B. 1950-1, 58, the Internal Revenue Service accepted the view of prevailing court decisions that, with stated qualifications, the sale of a partnership interest should be treated as a sale of a capital asset for Federal income tax purposes, rather than as a sale of the partner's undivided interest in each and every asset owned by the firm. This does not mean, however, that a partnership was thereafter treated as an entity for income tax purposes as is a corporation. On the contrary, it is still held that the members of a partnership, whether general or limited partners, jointly own all of the partnership assets, including items of gross income, even though the provisions of the Code enabling the partnership to adopt its own accounting period and accounting method for information return purposes might cause such items of partnership income to be reflected in the individual tax returns of the partners in years other than those in which they would have been reported if the partnership had not intervened.

Thus, while the partnership interest generally may be regarded as constituting a partner's interest in the profits and surplus of the partnership, the fundamental principles of Federal income taxation require that an interest in income earned by the partnership which has not been realized, or has not yet been subjected to taxation, be treated as distinct from any `partnership interest' which is recognized as a capital asset for income tax purposes. Therefore, unrealized or untaxed rights to partnership income may be transferred with, but not as a part of, the partnership interest which constitutes a capital asset.

In the case of James M. Tunnell, Jr. et ux. v. United States , 148 Fed.Supp. 689, affirmed, 259 Fed.(2d) 916, the taxpayer sold his one-half interest in a law partnership to the remaining partners. At the time of the sale, the partnership books showed accounts receivable in a substantial amount. It was the taxpayer's contention that the entire proceeds of the sale represented proceeds from the sale of a capital asset, his partnership interest. The United States District Court held that the portion of the sale proceeds attributable to the taxpayer's share of the accounts receivable of the partnership was taxable as ordinary income, since it was in reality only a substitute for ordinary income which he would have received in the future. In affirming the decision of the District Court, the United States Court of Appeals for the Third Circuit stated, in part as follows:

The payment of the purchase price, for which a part of the quid pro quo was taxpayer's right to receive this income, was as to that part essentially a substitute for what would otherwise be received at a future time as ordinary income. And as to that part, it was not appreciation in value of the capital assets, which would be capital gain, but income produced by the capital asset, which is ordinary income.

Based on the foregoing, it is held that a transfer of a limited partner's interest in a partnership appurtenant to which is a right to share in unrealized partnership income reflected in installment obligations receivable by the partnership constitutes a transfer of a capital asset coupled with a disposition of such installment obligations subject to the provisions of section 453(d) of the Code. To the extent that the transaction constitutes a disposition of installment obligations receivable, the gain is taxable to the transferor as ordinary income.

Therefore, the taxpayer realized ordinary income, includible in his gross income for the year 1959, to the extent of the difference between the basis of the installment obligations appertaining to his limited interest in the partnership and the fair market value of that portion of the obligations at the time of the transfer to the charitable organization. Insofar as the transfer to charity is attributable to the taxpayer's limited partnership interest, as such , exclusive of his share of the partnership's installment obligations receivable, no gain or loss is recognized since there was not a sale or exchange of such interest within the meaning of section 741 of the Code.

It is further held that, subject to the limitations prescribed by section 170 of the Code with respect to charitable contributions deductible by individuals, the fair market value, as of the date of the transfer, of that portion of the limited partnership interest which is regarded as a capital asset and the fair market value, as of such date, of the partnership installment obligations regarded as disposed of in the transfer constitute an allowable deduction, as a charitable contribution, to the taxpayer.