Tired of making those capital call payments on an investment partnership that may never recover its value? Consider abandoning it. If the value is depressed and recovery is nowhere in sight, why continue to throw money at it. By abandoning the investment, not only do you get the tax loss now, but it may be treated as an ordinary loss rather than capital.
In tax planning, we try as much as possible to classify gains as capital and losses as ordinary. If you were to sell your partnership interest or if the partnership were to sell the underlying assets, the losses would be treated as capital losses. The deductibility of capital losses is limited to the amount of your capital gains plus $3,000. Depending on your tax position, it may take a long time to realize the entire loss.
Revenue Ruling 93-80 confirms that a loss from the abandonment of a partnership interest will be treated as an ordinary loss so long as no actual or deemed distribution is made to the partner. Ordinary losses are used to offset ordinary gains which are taxed at a much higher tax rate.
Be careful about the “deemed distribution”. Being relieved of any debt you may be responsible for within the partnership is considered a payment to you. This means you didn’t abandon the interest but sold it for the amount of the debt. You are now back to having a capital loss.
There are many factors to consider before you abandon a partnership interest:
- Future capital contribution requirements
- Future sale value of the partnership interest or underlying assets
- Current value and marketability of partnership interest
- Time value of money
- Your current tax position
- Your future tax position
- And others
Like anything with the IRS, there are hoops to jump through and pitfalls to avoid. Before abandonment be sure to review all of your options and consult your tax advisor.
By Rick Schultz, CPA