March Edition
CAN PARTNERSHIP INTERESTS BE EXCHANGED?


March Edition
1
Partnerships, trusts, corporations and limited liability companies may Exchange real property held for the productive use in a trade or business or for investment for other like kind real property to be held by the same entity for the productive use in a trade or business or for investment under IRC §1031.
2
A tenant in common interest may be exchanged for a fee interest in qualifying like kind property.
3
With very limited exception a partnership interest or beneficial interest in a trust may not be exchanged under IRC §1031.
Taxpayers have tried several ways to circumvent the prohibition against Exchanges of partnership and beneficial interests. The most common being, electing to convert their non-qualifying interests into a qualifying interest such as a tenant in common interest.
For example, assume Jack and Jill are partners in a general partnership. The partnership is selling its sole real estate asset. Jack wants to Exchange his interest for other qualifying property under IRC§1031 while Jill desires to sell for cash.
Prior to the sale, Jack and Jill elect to dissolve the partnership and distribute the real estate to themselves as tenants in common. Their intent is that their tenant in common interest will now qualify for individual treatment. Jack can Exchange his interest and Jill can sell her interest in a concurrent transfer to a buyer.
Is Jack’s transaction valid? Can Jack Exchange his undivided tenant in common interest? In general, the disillusionment of the partnership and distribution of the partnership assets to Jack and Jill individually as tenants in common does not constitute a taxable transfer. However, has Jack held his tenant in common interest in the property in such a manner that it will qualify for an Exchange?
The real issue to consider is whether or not the transfer of the property to the partners as tenants in common and the subsequent Exchange by Jack will be deemed to be a step transaction which, if applicable, would certainly amount to an Exchange of a partnership interest for a fee interest by Jack and not qualify for non-recognition treatment under IRC §1031.