Complete Loss on Limited Partnership

[GLReneau]

A client experienced a complete loss on his interest in a partnership that was set up to fund a health care receivables business. There was no consideration received and he has no evidence in his files of an actual or deemed distribution (see discussion below). This begs the question how the loss should be inputted in the Lacerte program, i.e., as Income or Loss from Partnerships and S. Corporations on Schedule E Part II / Passive Income and Loss, or Sales of Business Property (Form 4797) as well as if it can be treated as an ordinary loss. Would any of the tax experts care to render an opinion? Here's a discussion on the topic from a tax attorney:

It may be difficult, however, to avoid sale treatment and capital loss (as opposed to ordinary loss) in the case of an “abandoned” partnership interest. That is because the “successful” abandonment of an interest requires that no consideration be received by the departing partner. In other words, if any consideration is received, even as a deemed distribution pursuant to the partnership liability-shifting rules, the transaction will be treated as a sale, and the realized loss will be treated as a capital loss. 

Thus, a loss from the abandonment of a partnership interest will be ordinary only if there is neither an actual nor a deemed distribution to the partner. This stringent requirement can make it very difficult for a taxpayer to secure ordinary loss treatment on what the taxpayer believes to have been the abandonment of their partnership interest.

[BobKamman]

I think what you're saying is that the managing partner left town before paying the accountant to issue final K-1s.  I have seen that happen.  The problem is, how do you know any money was spent on deductible expenses?  The final K-1 might have shown a zero basis but no pass-through loss. 

So it's a trick question.  "Do I claim this as ordinary loss, or capital loss?"  Answer:  maybe neither.  

[PhoebeRoberts]

If the prior K-1 showed any debt allocated to your guy, he's got a capital loss, because the reduction in debt counts as sales proceeds.