1966 U.S. Tax Ct. LEXIS 101">*101
Petitioner husband and one Forsythe terminated their partnership. All of the partnership's assets were distributed to Forsythe, who assumed all of its liabilities.
46 T.C. 247">*247 Respondent determined a deficiency in the income tax of the petitioners for the calendar year 1962 in the amount of $ 3,549.06. Petitioners have conceded the inclusion of certain additional items of income. The sole remaining issue is whether petitioner husband suffered a capital loss or ordinary loss from his failure to recover his capital account upon the dissolution of a partnership during the taxable year.
46 T.C. 247">*248 FINDINGS OF FACT
This is a fully stipulated case. The stipulation of facts, together with the exhibits attached thereto, is incorporated herein by this reference.
Andrew O. Stilwell and Charlotte C. Stilwell are husband and wife and filed a joint Federal income tax return for the calendar year 1962 with the district director of internal revenue, Buffalo, N.Y. Charlotte C. Stilwell is a party to this proceeding only because she signed the joint return. 1966 U.S. Tax Ct. LEXIS 101">*104 Any reference to the petitioner herein shall be deemed to refer to Andrew O. Stilwell.
On September 1, 1954, petitioner entered into an agreement in writing with one Salem Forsythe (hereinafter referred to as Forsythe), whereby they formed a partnership under the name of Forsythe & Stilwell Co. The business of the partnership was to distribute fabricated building materials, represent various companies as selling agents, and act as wholesalers.
Petitioner's $ 10,000 capital contribution represented the partnership's total initial capital. Forsythe contributed no cash or other assets. Forsythe was to be paid, from the annual profits of the business, the sum of $ 9,600 a year at the rate of $ 800 per month, "which shall be in the nature of a drawing account against Forsythe's share of the profits." In the event that the annual profits were insufficient, the "drawing account shall be paid out of the capital of the partnership." The agreement further provided that the balance of profits in excess of Forsythe's drawing account, after certain adjusting distributions, was to be paid two-thirds to Forsythe and one-third to petitioner.
The partnership agreement was amended on January 1, 1966 U.S. Tax Ct. LEXIS 101">*105 1958, and on January 1, 1959, to provide an increased drawing account to Forsythe and a drawing account to petitioner. The January 1, 1958, amendment modified the provisions governing dissolution so as to provide that, after the $ 10,000 had been repaid to Stilwell, any unpaid balance of the weekly drawing accounts for the year in which dissolution takes place was to be distributed to each partner. Any remaining profits were to be distributed in accordance with the basic ratio, which was changed by the amendment of January 1, 1959, to 75 percent to Forsythe and 25 percent to petitioner. The provision changing the ratio contained the following sentence: "As provided in the preceding paragraph, the drawing account paid a partner shall be charged against his share of the profits or his share in the partnership assets."
Neither the agreement nor any of the amendments thereto contained any provision expressly dealing with excess withdrawals by either of the partners.
46 T.C. 247">*249 In January 1962, Forsythe and petitioner in fact ceased doing business together as partners. By agreement dated October 1, 1962, they mutually agreed to terminate and dissolve the partnership. In accordance 1966 U.S. Tax Ct. LEXIS 101">*106 with the agreement, all partnership assets were distributed to Forsythe. Forsythe assumed and agreed to pay all of the debts of the partnership and to indemnify, defend, and hold petitioner harmless from any payments or claims as a result of any indebtedness of the partnership.
The balance sheet of the partnership immediately prior to dissolution on October 1, 1962, showed the following:
| Assets | Liabilities | ||
| Cash | $ 24.59 | Accounts payable | $ 32,703.74 |
| Notes and accounts | Mortgages, notes | 19,087.00 | |
| receivable | 10,785.70 | Partners' capital accounts | (37,566.35) |
| Inventory | 900.00 | ||
| Fixed depreciable assets | |||
| (furniture and fixtures) | 2,514.10 | ||
| Total | 14,224.39 | Total | 14,224.39 |
The item of $ 37,566.35 listed on the balance sheet as a deficit in the partners' capital accounts consisted of a debit balance against Forsythe of $ 61,483.49 and a credit balance in favor of petitioner of $ 23,917.14.
At the time of the execution of the dissolution agreement, petitioner executed and delivered to Forsythe a general release in standard form.
Petitioner held his interest in the partnership for more than 6 months. On October 1, 1962, immediately prior to dissolution, 1966 U.S. Tax Ct. LEXIS 101">*107 the basis of petitioner's interest was $ 23,917.14 plus his share of the partnership liabilities.
OPINION
Respondent has conceded that petitioner suffered a deductible loss from the termination of the partnership in 1962. 11966 U.S. Tax Ct. LEXIS 101">*109 Respondent takes the position, however, that the 1962 transaction between petitioner and Forsythe constituted a sale by petitioner of his partnership interest rather than a distribution in liquidation of the partnership and that, consequently, petitioner is limited to a capital loss under
Nor does the fact that petitioner received "consideration" by being relieved of his share of the partnership liabilities require a different result. Such "consideration" may be equally present when a partnership is liquidated. Carried to its logical conclusion, respondent's argument would require us to hold that there was a sale in almost every situation involving the liquidation of a two-man partnership. Respondent's own regulations under
Such a conclusion does not, however, dispose of the matter.
(a) Partners. -- In the case of a distribution by a partnership to a partner -- (1) gain shall not be recognized to such partner, except to the extent that any money distributed exceeds the adjusted basis of such partner's interest in the partnership immediately before the distribution, and (2) loss shall not be recognized to such partner, except that upon a distribution in liquidation of a partner's interest in a partnership where no 46 T.C. 247">*251 property other than that described in subparagraph (A) or (B) is distributed to such partner, loss shall be1966 U.S. Tax Ct. LEXIS 101">*111 recognized to the extent of the excess of the adjusted basis of such partner's interest in the partnership over the sum of -- (A) any money distributed, and (B) the basis to the distributee, as determined under
If the transaction herein is covered by the last paragraph of
Respondent argues that Forsythe's assumption of petitioner's share of the partnership liabilities constituted a "distribution" within the meaning of
Petitioner's reliance on
1. It is not entirely clear from the record that petitioner in fact suffered such a loss. It would appear that the loss resulted from Forsythe's excess withdrawals. Absent any agreement to the contrary between the partners, Forsythe would be obligated to refund such excess. See 1 Rowley, Partnerships 465 (2d ed. 1960). Any such repayment would have provided sufficient funds to pay the debts of the partnership and to restore petitioner's capital account, with the possible exception of the unpaid drawing account of Forsythe for the month of January 1962. Furthermore, Forsythe's excess withdrawals occurred in prior taxable years. If he had no obligation of repayment, they would appear to be guaranteed payments properly chargeable as an expense of the partnership in those years, thereby decreasing petitioner's share of the profits or giving rise to a loss on the part of petitioner during those years. See
2. All references are to the Internal Revenue Code of 1954.
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
3. We expressly refrain from deciding whether an absolute forfeiture would give rise to a capital or ordinary loss under the 1954 Code. Cf.
