Continuation of Partnerships and the Preservation of an Exchange - When a Partner Wants Out

One issue that comes up for our commercial clients is whether changes in a partnership during an exchange affect the outcome of the exchange.  In other words, what happens if a partner leaves the partnership or a new partner is added to the partnership during the exchange period?

 

It is a well-established rule that the same taxpayer that disposes of the relinquished property must acquire the replacement property.   Accordingly, if a partnership owns the relinquished property at the time of the exchange, the same partnership must acquire the replacement property.   There can be changes to the makeup of a partnership during the exchange period as long as the changes don’t result in the partnership being considered to be a different entity for tax purposes. 

 

Under Internal Revenue Code Section 708(b)(1)(B), a partnership is considered terminated if, within a 12 month period, there is a sale or exchange of 50% or more of partnership capital and profits. If a partner that owns less than this amount (e.g., 25% of the partnership) sells his interest in the partnership during the exchange, the partnership should remain intact and the exchange may be preserved. 

 

This rule makes it possible for taxpayers to make some changes to a partnership during an exchange.  In order to ensure a smooth and successful exchange, please contact First American Exchange and talk to your tax advisor about any partnership changes.