Please Help with this Hypothetical 1065 Tax Return.. Form 1065 Due Thursday, November 12 by 5:00 PM CST US Check Figures - Form 1065 Page 1, Line 22 (Ordinary Business Income) - $156,275 Page 5, Line 1 (Analysis of Net Income) - $177,300 Armstrong Schedule K-1, Line L, Ending Capital - $18,200 Other Instructions - Complete all schedules and applicable questions for 2013 Form 1065 (Pages 1-5). Do not leave any questions blank. Assume all amounts given are for 2013, not 2010. - Complete Schedule K-1 for all partners (not just Armstrong). Make sure to properly identify the items using the codes from Schedule K-1, Page 2. - Attach Form 1125-A (referred to as "Schedule A" in the Facts). - Attach supplemental schedule for Page 1, Line 20-Other Deductions. - Do not attach schedule for Additional 263A Costs or Other Costs (Form 1125-A). - For the Section 199 Deduction, see page 32 of the Form 1065 Instructions. - Make sure to adjust cash disbursements to an accrual basis. - Do not attach schedule for Schedule L, Line 8, Other Investments. - Assume Tile Doctors prepared Forms 1099 for certain payments (Form 1065, Schedule B). - Use the worksheet on page 34 of the Form 1065 Instructions to calculate Sch K, Line 14a, Net earnings from self-employment. - Tyler Armstrong's phone number is 619-885-9200. - Ryan Marshall's address is 100 Seaport Drive, San Diego, California 92101. - Samantha Evan's address is 100 Beach Drive, San Diego, California 92101. - List your name and the name of your firm in the paid preparer section. List the address as 80 Fort Brown, Brownsville, Texas 78520 and the phone number as 956-882-8200. Use your Student ID as the PTIN and EIN for your firm. Sign your name and date the return. - Check "Yes" for preparer to discuss return with IRS.

2013 Department of the Treasury Internal Revenue Service Instructions for Form 1065 U.S. Return of Partnership Income Section references are to the Internal Revenue Code unless otherwise noted. Contents What's New . . . . . . . . . . . . . Contacting Your Taxpayer Advocate . . . . . . . . . . . How To Get Forms and Publications . . . . . . . . . General Instructions . . . . . . . Purpose of Form . . . . . . Definitions . . . . . . . . . . Who Must File . . . . . . . . Termination of the Partnership . . . . . . . . Electronic Filing . . . . . . . When To File . . . . . . . . . Who Must Sign . . . . . . . Penalties . . . . . . . . . . . Accounting Methods . . . . Accounting Periods . . . . . Rounding Off to Whole Dollars . . . . . . . . . . . Recordkeeping . . . . . . . Amended Return . . . . . . Assembling the Return . . Entity Classification Election . . . . . . . . . . Elections Made by the Partnership . . . . . . . . Elections Made by Each Partner . . . . . . . . . . . Partner's Dealings With Partnership . . . . . . . . Contributions to the Partnership . . . . . . . . Dispositions of Contributed Property . . . . . . . . . . Recognition of Precontribution Gain on Certain Partnership Distributions . . . . . . . Unrealized Receivables and Inventory Items . . . . . Passive Activity Limitations Extraterritorial Income Exclusion . . . . . . . . . Specific Instructions . . . . . . . Income . . . . . . . . . . . . . Deductions . . . . . . . . . . Schedule B. Other Information . . . . . . . . Designation of Tax Matters Partner (TMP) . . . . . . Schedules K and K-1. Partners' Distributive Share Items . . . . . . . . Specific Instructions (Schedule K-1 Only) . . Part I. Information About the Partnership . . . . . . . . Feb 12, 2014 Page ..... 1 ..... 1 . . . . . . . . . . . . . . . . . . . . . . . . . 1 2 2 2 2 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 3 3 4 4 5 5 . . . . . . . . . . . . . . . . . . . . 6 6 6 8 ..... 8 ..... 8 ..... 9 ..... 9 ..... 9 ..... 9 . . . . 10 . . . . 10 . . . . 10 . . . . . . . . . . . . . . . . 14 15 15 17 . . . . 21 . . . . 23 . . . . 23 . . . . 24 Contents Page Part II. Information About the Partner . . . . . . . . . . . . Specific Instructions (Schedules K and K-1, Part III, Except as Noted) . . . . . . . . . . . . Analysis of Net Income (Loss) . . . . . . . . . . . . Schedule L. Balance Sheets per Books . . . . . . . . . . Schedule M-1. Reconciliation of Income (Loss) per Books With Income (Loss) per Return . . . . . . . . . . . . Schedule M-2. Analysis of Partners' Capital Accounts . . . . . . . . . . Codes for Principal Business Activity and Principal Product or Service . . . . . . . . . . . . Index . . . . . . . . . . . . . . . . . . . . . 25 . . . 26 . . . 43 . . . 43 . . . 44 . . . 44 . . . 46 . . . 49 Future Developments For the latest information about developments related to Form 1065 and its instructions, such as legislation enacted after they were published, go to www.irs.gov/ form1065. What's New Schedule K-1 (Form 1065). New code Y has been added to box 20 of Schedule K-1. Code Y is used to report information related to the net investment income tax. Former Code Y (Other information) is now code Z. Regulations section 1.1411-10(g) election. The partnership can elect to include section 951 inclusions and section 1293 inclusions in net investment income for purposes of section 1411 in the same tax year as the amounts are included in income for chapter 1 purposes. See Regulations section 1.1411-10(g) under Elections Made by the Partnership for more information. Photographs of Missing Children The Internal Revenue Service is a proud partner with the National Center for Missing and Exploited Children. Photographs of missing children selected by the Center may appear in instructions on pages that would otherwise be blank. You can help bring these children home by looking at the photographs and calling 1-800-THE-LOST (1-800-843-5678) if you recognize a child. . . . . 25 Cat. No. 11392V Contacting Your Taxpayer Advocate The Taxpayer Advocate Service (TAS) is your voice at the IRS. TAS job is to ensure that every taxpayer is treated fairly and that you know and understand your rights. TAS offers free help to guide you through the often-confusing process of resolving tax problems that you haven't been able to solve on your own. Remember, the worst thing you can do is nothing at all. As a taxpayer, you have rights that the IRS must abide by in its dealings with you. TAS online tax toolkit at www.TaxpayerAdvocate.irs.gov can help you understand these rights. If you think TAS might be able to help you, call your local advocate, whose number is in your phone book and on our website at www.irs.gov/advocate. You can also call our toll-free number at 1-877-777-4778. If you have access to TTY/TDD equipment, you can call 1-800-829-4059. You can also access IRS through relay services such as the Federal Relay Service at www.gsa.gov/ fedrelay. TAS also handles large-scale or systemic problems that affect many taxpayers. If you know of one of these broad issues, please report it to us through our Systemic Advocacy Management System at www.irs.gov/advocate. How To Get Forms and Publications Internet. You can access the IRS website at IRS.gov 24 hours a day, 7 days a week to: E-file your return. Find out about commercial tax preparation and e-file services available free to eligible taxpayers; Download forms, including talking tax forms, instructions, and publications; Use the online Internal Revenue Code, regulations, or other official guidance; Get information on starting and operating a small business; Order IRS products online; Research your tax questions online; Search publications online by topic or keyword; View Internal Revenue Bulletins (IRBs) published in the last few years; and Sign up to receive local and national tax news by email. By phone and in person. You can order forms and publications by calling 1-800-TAX-FORM (1-800-829-3676). If you have access to TTY/TDD equipment, you can call 1-800-829-4059 to ask tax questions or to order forms and publications. You can also access the IRS through relay services such as the Federal Relay Service at www.gsa.gov/fedrelay. Additionally, you can get most forms and publications at your local IRS office. General Instructions Purpose of Form Form 1065 is an information return used to report the income, gains, losses, deductions, credits, etc., from the operation of a partnership. A partnership does not pay tax on its income but \"passes through\" any profits or losses to its partners. Partners must include partnership items on their tax or information returns. Definitions Partnership A partnership is the relationship between two or more persons who join to carry on a trade or business, with each person contributing money, property, labor, or skill and each expecting to share in the profits and losses of the business whether or not a formal partnership agreement is made. The term \"partnership\" includes a limited partnership, syndicate, group, pool, joint venture, or other unincorporated organization, through or by which any business, financial operation, or venture is carried on, that is not, within the meaning of the regulations under section 7701, a corporation, trust, estate, or sole proprietorship. A joint undertaking merely to share expenses is not a partnership. Mere co-ownership of property that is maintained and leased or rented is not a partnership. However, if the co-owners provide services to the tenants, a partnership exists. Business owned and operated by spouses. Generally, if you and your spouse jointly own and operate an unincorporated business and share in the profits and losses, you are partners in a partnership and you must file Form 1065. ExceptionQualified joint venture. If you and your spouse materially participate as the only members of a jointly owned and operated business, and you file a joint return for the tax year, you can make an election to be treated as a qualified joint venture instead of a partnership. By making the election, you will not be required to file Form 1065 for any year the election is in effect and will instead report the income and deductions directly on your joint return. A qualified joint venture conducts a trade or business where: the only members of the joint venture are a married couple who file a joint return; both spouses materially participate in the trade or business, as mere joint ownership of property is not enough; both spouses elect not be treated as a partnership; and the business is co-owned by both spouses and is not held in the name of a state law entity such as a partnership or limited liability company. To make this election, you must divide all items of income, gain, loss, deduction, and credit between you and your spouse in accordance with your respective interests in the venture. Each of you must file a separate Schedule C, C-EZ, or F. On each line of your separate Schedule C, C-EZ, or F, you must enter your share of the applicable income, deduction, or loss. Each of you also must file a separate Schedule SE to pay self-employment tax, as applicable. If you and your spouse make the election for your rental real estate business, you each must report your share of income and deductions on Schedule E. Rental real estate income generally is not included in net earnings from self-employment subject to self-employment tax and generally is subject to the passive loss limitation rules. Electing qualified joint venture status does not alter the application of the self-employment tax or the passive loss limitation rules. To make the qualified joint venture election for 2013, jointly file the 2013 Form 1040, with the required schedules. This generally does not increase the total tax on the return, but it does give each spouse credit for social security earnings on which retirement benefits are based, provided neither spouse exceeds the social security tax limitation. Once made, the election cannot be revoked without IRS consent. If you and your spouse filed a Form 1065 for the year prior to the election, you do not need to amend that return or file a final Form 1065 for the year the election takes effect. For more information on qualified joint ventures, go to IRS.gov and enter \"Qualified Joint Venture\" in the search box. Foreign Partnership A foreign partnership is a partnership that is not created or organized in the United States or under the law of the United States or of any state. See Notice 2010-41 for information on when a domestic partnership will be classified as foreign. General Partner A general partner is a partner who is personally liable for partnership debts. General Partnership A general partnership is composed only of general partners. Limited Partner A limited partner is a partner in a partnership formed under a state limited partnership law, whose personal liability for partnership debts is limited to the amount of money or other property that the partner contributed or is required to contribute to the partnership. Some members of other entities, such as domestic or foreign business trusts or limited liability companies that are classified as partnerships, may be treated as limited partners for certain purposes. -2- Limited Partnership A limited partnership is formed under a state limited partnership law and composed of at least one general partner and one or more limited partners. Limited Liability Partnership A limited liability partnership (LLP) is formed under a state limited liability partnership law. Generally, a partner in an LLP is not personally liable for the debts of the LLP or any other partner, nor is a partner liable for the acts or omissions of any other partner, solely by reason of being a partner. Limited Liability Company A limited liability company (LLC) is an entity formed under state law by filing articles of organization as an LLC. Unlike a partnership, none of the members of an LLC are personally liable for its debts. An LLC may be classified for federal income tax purposes as a partnership, a corporation, or an entity disregarded as an entity separate from its owner by applying the rules in Regulations section 301.7701-3. See Form 8832, Entity Classification Election, for more details. Note. A domestic LLC with at least two members that does not file Form 8832 is classified as a partnership for federal income tax purposes. Nonrecourse Loans Nonrecourse loans are those liabilities of the partnership for which no partner or related person bears the economic risk of loss. Who Must File Domestic Partnerships Except as provided below, every domestic partnership must file Form 1065, unless it neither receives income nor incurs any expenditures treated as deductions or credits for federal income tax purposes. Entities formed as LLCs that are classified as partnerships for federal income tax purposes have the same filing requirements as domestic partnerships. A religious or apostolic organization exempt from income tax under section 501(d) must file Form 1065 to report its taxable income, which must be allocated to its members as a dividend, whether distributed or not. Such an organization must figure its taxable income on an attached statement to Form 1065 in the same manner as a corporation. The organization may use Form 1120, U.S. Corporation Income Tax Return, for this purpose. Enter the organization's taxable income, if any, on line 6a of Schedule K and each member's pro rata share in box 6a of Schedule K-1. Net operating losses are not deductible by the members but may be carried back or forward by the organization under the rules of section 172. The religious or apostolic organization also must make its annual information return available for public inspection. For this purpose, \"annual information return\" includes an exact copy of Form 1065 and all Instructions for Form 1065 accompanying schedules and attached statements, except Schedules K-1. For more details, see Regulations section 301.6104(d)-1. A qualifying syndicate, pool, joint venture, or similar organization may elect under section 761(a) not to be treated as a partnership for federal income tax purposes and will not be required to file Form 1065 except for the year of election. For details, see section 761(a) and Regulations section 1.761-2. An electing large partnership (as defined in section 775) must file Form 1065-B, U.S. Return of Income for Electing Large Partnerships. Real estate mortgage investment conduits (REMICs) must file Form 1066, U.S. Real Estate Mortgage Investment Conduit (REMIC) Income Tax Return. Certain publicly traded partnerships treated as corporations under section 7704 must file Form 1120. Foreign Partnerships Generally, a foreign partnership that has gross income effectively connected with the conduct of a trade or business within the United States or has gross income derived from sources in the United States must file Form 1065, even if its principal place of business is outside the United States or all its members are foreign persons. A foreign partnership required to file a return generally must report all of its foreign and U.S. source income. A foreign partnership with U.S. source income is not required to file Form 1065 if it qualifies for either of the following two exceptions. Exception for foreign partnerships with U.S. partners. A return is not required if: The partnership had no effectively connected income (ECI) during its tax year, The partnership had U.S. source income of $20,000 or less during its tax year, Less than 1% of any partnership item of income, gain, loss, deduction, or credit was allocable in the aggregate to direct U.S. partners at any time during its tax year, and The partnership is not a withholding foreign partnership as defined in Regulations section 1.1441-5(c)(2)(i). Exception for foreign partnerships with no U.S. partners. A return is not required if: The partnership had no ECI during its tax year, The partnership had no U.S. partners at any time during its tax year, All required Forms 1042 and 1042-S were filed by the partnership or another withholding agent as required by Regulations section 1.1461-1(b) and (c), The tax liability of each partner for amounts reportable under Regulations sections 1.1461-1(b) and (c) has been fully satisfied by the withholding of tax at the source, and Instructions for Form 1065 The partnership is not a withholding foreign partnership as defined in Regulations section 1.1441-5(c)(2)(i). A foreign partnership filing Form 1065 solely to make an election (such as an election to amortize organization expenses) need only provide its name, address, and employer identification number (EIN) on page one of the form and attach a statement citing \"Regulations section 1.6031(a)-1(b) (5)\" and identifying the election being made. A foreign partnership filing Form 1065 solely to make an election must obtain an EIN if it does not already have one. Termination of the Partnership A partnership terminates when: 1. All its operations are discontinued and no part of any business, financial operation, or venture is continued by any of its partners in a partnership, or 2. At least 50% of the total interest in partnership capital and profits is sold or exchanged within a 12-month period, including a sale or exchange to another partner. See Regulations section 1.708-1(b) (1) and (2) for more details. The partnership's tax year ends on the date of termination. For purposes of 1, above, the date of termination is the date the partnership winds up its affairs. For purposes of 2, above, the date of termination is the date the partnership interest is sold or exchanged that, of itself or together with other sales or exchanges in the preceding 12 months, transfers an interest of 50% or more in both partnership capital and profits. Special rules apply in the case of a merger, consolidation, or division of a partnership. See Regulations sections 1.708-1(c) and (d) for details. Electronic Filing Certain partnerships with more than 100 partners are required to file Form 1065, Schedules K-1, and related forms and schedules electronically. Other partnerships generally have the option to file electronically. See Rev. Proc. 2012-17, at www.irs.gov/ pub/irs-irbs/irb12-10.pdf, for the requirements for furnishing substitute Schedule K-1 in electronic format. The option to file electronically does not apply to certain returns, including: Bankruptcy returns, and Returns with pre-computed penalty and interest. For more details on electronic filing using the Modernized e-file system, see: Pub. 3112, IRS e-file Application and Participation; Pub. 4163, Modernized e-File (MeF) Information for Authorized IRS e-file Providers for Business Returns; Pub. 4164, Modernized e-File (MeF) Guide for Software Developers And Transmitters; -3- Form 8453-PE, U.S. Partnership Declaration for an IRS e-file Return; and Form 8879-PE, IRS e-file Signature Authorization for Form 1065. For More Information on Filing Electronically Call the Electronic Filing Section at the Ogden Service Center at 1-866-255-0654 or Visit www.irs.gov/efile. Electronic Filing Waiver The IRS may waive the electronic filing rules if the partnership demonstrates that a hardship would result if it were required to file its return electronically. A partnership interested in requesting a waiver of the mandatory electronic filing requirement must file a written request, and request one in the manner prescribed by the Ogden Submission Processing Center (OSPC). All written requests for waivers should be mailed to: Internal Revenue Service, Ogden Submission Processing Center, Mail Stop 1057, Ogden, UT 84201, Attn: Form 1065 e-file Waiver Request. Waiver requests can also be faxed to 1-877-477-0575. Contact OSPC at 1-866-255-0654 for questions regarding the waiver procedures or process. When To File Generally, a domestic partnership must file Form 1065 by the 15th day of the 4th month following the date its tax year ended as shown at the top of Form 1065. For partnerships that keep their records and books of account outside the United States and Puerto Rico, an extension of time to file and pay is granted to the 15th day of the 6th month following the close of the tax year. Do not file Form 7004, Application for Automatic Extension of Time To File Certain Business Income Tax, Information, and Other Returns, if the partnership is taking this 2-month extension of time to file and pay. Attach a statement to the partnership's tax return stating that the partnership qualifies for the extension of time to file and pay. If the partnership is unable to file its return within the 2-month period, use Form 7004 to request an additional 3-month extension. If the due date falls on a Saturday, Sunday, or legal holiday, file by the next day that is not a Saturday, Sunday, or legal holiday. Private Delivery Services Partnerships can use certain private delivery services designated by the IRS to meet the \"timely mailing as timely filing/paying\" rule for Form 1065. These private delivery services include only the following. DHL Express (DHL): DHL Same Day Service. Federal Express (FedEx): FedEx Priority Overnight, FedEx Standard Overnight, FedEx 2Day, FedEx International Priority, and FedEx International First. Where To File File Form 1065 at the applicable IRS address listed below. If Schedule M-3 is filed, Form 1065 must be filed at the Ogden Internal Revenue Service Center as shown below. And the total assets at If the partnership's principal the end of the tax year business, office, or agency (Form 1065, page 1, item is located in: F) are: Connecticut, Delaware, District of Columbia, Florida, Georgia, Illinois, Indiana, Kentucky, Maine, Maryland, Massachusetts, Michigan, New Hampshire, New Jersey, New York, North Carolina, Ohio, Pennsylvania, Rhode Island, South Carolina, Tennessee, Vermont, Virginia, West Virginia, Wisconsin Use the following address: Less than $10 million and Schedule M-3 is not filed Department of the Treasury Internal Revenue Service Center Cincinnati, OH 45999-0011 $10 million or more or less than $10 million and Schedule M-3 is filed Department of the Treasury Internal Revenue Service Center Ogden, UT 84201-0011 Any amount Department of the Treasury Internal Revenue Service Center Ogden, UT 84201-0011 Any amount Internal Revenue Service Center P.O. Box 409101 Ogden, UT 84409 Alabama, Alaska, Arizona, Arkansas, California, Colorado, Hawaii, Idaho, Iowa, Kansas, Louisiana, Minnesota, Mississippi, Missouri, Montana, Nebraska, Nevada, New Mexico, North Dakota, Oklahoma, Oregon, South Dakota, Texas, Utah, Washington, Wyoming A foreign country or U.S. possession United Parcel Service (UPS): UPS Next Day Air, UPS Next Day Air Saver, UPS 2nd Day Air, UPS 2nd Day Air A.M., UPS Worldwide Express Plus, and UPS Worldwide Express. For the IRS mailing address to use if you are using a private delivery service, go to IRS.gov and enter \"private delivery service\" in the search box. The private delivery service can tell you how to get written proof of the mailing date. Private delivery services cannot deliver items to P.O. boxes. You CAUTION must use the U.S. Postal Service to mail any item to an IRS P.O. box address. ! Extension of Time To File File Form 7004 to request a 5-month extension of time to file. File Form 7004 by the regular due date of the partnership return. Form 7004 can be electronically filed. This extension runs concurrently with the 2-month extension granted to partnerships that keep their records and books of account outside the United States and Puerto Rico. Period Covered The 2013 Form 1065 is an information return for calendar year 2013 and fiscal years that begin in 2013 and end in 2014. For a fiscal year or a short tax year, fill in the tax year space at the top of Form 1065 and each Schedule K-1. The 2013 Form 1065 may also be used if: 1. The partnership has a tax year of less than 12 months that begins and ends in 2014 and 2. The 2014 Form 1065 is not available by the time the partnership is required to file its return. However, the partnership must show its 2014 tax year on the 2013 Form 1065 and incorporate any tax law changes that are effective for tax years beginning after 2013. Who Must Sign General Partner or LLC Member Manager Form 1065 is not considered to be a return unless it is signed by a general partner or LLC member manager. When a return is made for a partnership by a receiver, trustee, or assignee, the fiduciary must sign the return, instead of the general partner or LLC member manager. Returns and forms signed by a receiver or trustee in bankruptcy on behalf of a partnership must be accompanied by a copy of the order or instructions of the court authorizing signing of the return or form. Paid Preparer's Information If a partner, member, or employee of the partnership completes Form 1065, the paid preparer's space should remain blank. In addition, anyone who prepares Form 1065 but does not charge the partnership should not complete this section. -4- Generally, anyone who is paid to prepare the partnership return must do the following. Sign the return in the space provided for the preparer's signature. Fill in the other blanks in the \"Paid Preparer Use Only\" area of the return. A paid preparer cannot use a social security number in the \"Paid Preparer Use Only\" box. The paid preparer must use a preparer tax identification number (PTIN). Give the partnership a copy of the return in addition to the copy to be filed with the IRS. Note. A paid preparer may sign original or amended returns by rubber stamp, mechanical device, or computer software program. Paid Preparer Authorization If the partnership wants to allow the paid preparer to discuss its 2013 Form 1065 with the IRS, check the \"Yes\" box in the signature area of the return. The authorization applies only to the individual whose signature appears in the \"Paid Preparer Use Only\" section of its return. It does not apply to the firm, if any, shown in the section. If the \"Yes\" box is checked, the partnership is authorizing the IRS to call the paid preparer to answer any questions that may arise during the processing of its return. The partnership is also authorizing the paid preparer to: Give the IRS any information that is missing from its return, Call the IRS for information about the processing of its return, and Respond to certain IRS notices about math errors and return preparation. The partnership is not authorizing the paid preparer to bind the partnership to anything or otherwise represent the partnership before the IRS. If the partnership wants to expand the paid preparer's authorization, see Pub. 947, Practice Before the IRS and Power of Attorney. The authorization cannot be revoked. However, the authorization will automatically end no later than the due date (excluding extensions) for filing the 2014 return. Penalties Late Filing of Return A penalty is assessed against the partnership if it is required to file a partnership return and it (a) fails to file the return by the due date, including extensions or (b) files a return that fails to show all the information required, unless such failure is due to reasonable cause. The penalty is $195 for each month or part of a month (for a maximum of 12 months) the failure continues, multiplied by the total number of persons who were partners in the partnership during any part of the partnership's tax year for which the return is due. If the partnership receives a notice about a penalty after it files the return, the partnership may send the IRS an explanation and the Service will determine if the Instructions for Form 1065 explanation meets reasonable-cause criteria. Do not attach an explanation when filing the return. Failure To Furnish Information Timely For each failure to furnish Schedule K-1 to a partner when due and each failure to include on Schedule K-1 all the information required to be shown (or the inclusion of incorrect information), a $100 penalty may be imposed with respect to each Schedule K-1 for which a failure occurs. The maximum penalty is $1.5 million for all such failures during a calendar year. If the requirement to report correct information is intentionally disregarded, each $100 penalty is increased to $250 or, if greater, 10% of the aggregate amount of items required to be reported, and the $1.5 million maximum does not apply. Trust Fund Recovery Penalty This penalty may apply if certain excise, income, social security, and Medicare taxes that must be collected or withheld are not collected or withheld, or these taxes are not paid. These taxes are generally reported on: Form 720, Quarterly Federal Excise Tax Return; Form 941, Employer's QUARTERLY Federal Tax Return; Form 943, Employer's Annual Federal Tax Return for Agricultural Employees; Form 944, Employer's Annual Federal Tax Return; and Form 945, Annual Return of Withheld Federal Income Tax. The trust fund recovery penalty may be imposed on all persons who are determined by the IRS to have been responsible for collecting, accounting for, and paying over these taxes, and who acted willfully in not doing so. The penalty is equal to the unpaid trust fund tax. See the Instructions for Form 720; Pub. 15, (Circular E), Employer's Tax Guide; or Pub. 51, (Circular A), Agricultural Employer's Tax Guide, for more details, including the definition of a responsible person. Accounting Methods An accounting method is a set of rules used to determine when and how income and expenditures are reported. Figure ordinary business income using the method of accounting regularly used in keeping the partnership's books and records. In all cases, the method used must clearly reflect income. Generally, permissible methods include: Cash, Accrual, or Any other method authorized by the Internal Revenue Code. Generally, a partnership may not use the cash method of accounting if (a) it has at least one corporate partner, average annual gross receipts of more than $5 million, and it is not a farming business or (b) it is a tax shelter (as defined in section 448(d)(3)). See section 448 for details. Instructions for Form 1065 Accrual method. If inventories are required, an accrual method of accounting must be used for sales and purchases of merchandise. However, qualifying taxpayers and eligible businesses of qualifying small business taxpayers are excepted from using an accrual method and may account for inventoriable items as materials and supplies that are not incidental. For more details, see Form 1125-A and its instructions. Under the accrual method, an amount is includible in income when: 1. All the events have occurred that fix the right to receive the income, which is the earliest of the date: Payment is earned through the required performance, Payment is due to the taxpayer, or Payment is received by the taxpayer and 2. The amount can be determined with reasonable accuracy. See Regulations section 1.451-1(a) for details. Generally, an accrual basis taxpayer can deduct accrued expenses in the tax year in which: All events that determine the liability have occurred, The amount of the liability can be figured with reasonable accuracy, and Economic performance takes place with respect to the expense. For property and service liabilities, for example, economic performance occurs as the property or service is provided. There are special economic performance rules for certain items, including recurring expenses. See section 461(h) and the related regulations for the rules for determining when economic performance takes place. Nonaccrual-experience method. Accrual method partnerships are not required to accrue certain amounts to be received from the performance of services that, on the basis of their experience, will not be collected, if: The services are in the fields of health, law, engineering, architecture, accounting, actuarial science, performing arts, or consulting or The partnership's average annual gross receipts for the 3 prior tax years does not exceed $5 million. This provision does not apply to any amount if interest is required to be paid on the amount or if there is any penalty for failure to timely pay the amount. For information, see section 448(d)(5) and Regulations section 1.448-2. For reporting requirements, see the instructions for line 1a. Percentage of completion method. Long-term contracts (except for certain real property construction contracts) must generally be accounted for using the percentage of completion method described in section 460. See section 460 and the underlying regulations for rules on long-term contracts. -5- Mark-to-market accounting method. Dealers in securities must use the mark-to-market accounting method described in section 475. Under this method, any security that is inventory to the dealer must be included in inventory at its fair market value (FMV). Any security that is not inventory and that is held at the close of the tax year is treated as sold at its FMV on the last business day of the tax year, and any gain or loss must be taken into account in determining gross income. The gain or loss taken into account is generally treated as ordinary gain or loss. For details, including exceptions, see section 475, the related regulations, and Rev. Rul. 97-39, 1997-39 I.R.B. 4. Dealers in commodities and traders in securities and commodities can elect to use the mark-to-market accounting method. To make the election, the partnership must file a statement describing the election, the first tax year the election is to be effective, and, in the case of an election for traders in securities or commodities, the trade or business for which the election is made. Except for new taxpayers, the statement must be filed by the due date (not including extensions) of the return for the tax year immediately preceding the election year and attached to that return, or, if applicable, to a request for an extension of time to file that return. For more details, see Rev. Proc. 99-17, 1999-7 I.R.B. 52, as superseded in part by Rev. Proc. 99-49, and sections 475(e) and (f). Change in accounting method. Generally, the partnership must get IRS consent to change its method of accounting used to report income (for income as a whole or for any material item). To do so, it must file Form 3115, Application for Change in Accounting Method. See Form 3115. Section 481(a) adjustment. The partnership may have to make an adjustment to prevent amounts of income or expenses from being duplicated. This is called a section 481(a) adjustment. The section 481(a) adjustment period is generally 1 year for a net negative adjustment and 4 years for a net positive adjustment. However, in some instances, a partnership can elect to modify the section 481(a) adjustment period. The partnership must complete the appropriate lines of Form 3115 to make the election. See the Instructions for Form 3115. Include any net positive section 481(a) adjustment on page 1 of Form 1065, line 7. If the net section 481(a) adjustment is negative, report it on page 1, line 20. There are some instances when the partnership can obtain automatic consent from the IRS to change to certain accounting methods. See Rev. Proc. 2011-14, 2011-4 I.R.B. 330, as modified, or its successor. Accounting Periods A partnership is generally required to have one of the following tax years. 1. The tax year of a majority of its partners (majority tax year). 2. If there is no majority tax year, then the tax year common to all of the partnership's principal partners (partners with an interest of 5% or more in the partnership profits or capital). 3. If there is neither a majority tax year nor a tax year common to all principal partners, then the tax year that results in the least aggregate deferral of income. Note. In determining the tax year of a partnership under 1, 2, or 3, above, the tax years of certain tax-exempt and foreign partners are disregarded. See Regulations section 1.706-1(b) for more details. 4. Some other tax year, if: The partnership can establish that there is a business purpose for the tax year; or The partnership elects under section 444 to have a tax year other than a required tax year by filing Form 8716, Election To Have a Tax Year Other Than a Required Tax Year. For a partnership to have this election in effect, it must make the payments required by section 7519 and file Form 8752, Required Payment or Refund Under Section 7519. A section 444 election ends if a partnership changes its accounting period to its required tax year or some other permitted year or it is penalized for willfully failing to comply with the requirements of section 7519. If the termination results in a short tax year, type or legibly print at the top of the first page of Form 1065 for the short tax year, \"SECTION 444 ELECTION TERMINATED\"; or The partnership elects to use a 52-53 week tax year that ends with reference to either its required tax year or a tax year elected under section 444. Change of tax year. To change its tax year or to adopt or retain a tax year other than its required tax year, the partnership must file Form 1128, Application To Adopt, Change, or Retain a Tax Year, unless the partnership is making an election under section 444. Note. The tax year of a common trust fund must be the calendar year. Rounding Off to Whole Dollars The partnership can round off cents to whole dollars on its return and schedules. If the partnership does round to whole dollars, it must round all amounts. To round, drop amounts under 50 cents and increase amounts from 50 to 99 cents to the next dollar. For example, $1.39 becomes $1 and $2.50 becomes $3. If two or more amounts must be added to figure the amount to enter on a line, include cents when adding the amounts and round off only the total. Recordkeeping The partnership must keep its records as long as they may be needed for the administration of any provision of the Internal Revenue Code. If the consolidated audit procedures of sections 6221 through 6234 apply, the partnership usually must keep records that support an item of income, deduction, or credit on the partnership return for 3 years from the date the return is due or is filed, whichever is later. If the consolidated audit procedures do not apply, these records usually must be kept for 3 years from the date each partner's return is due or is filed, whichever is later. It must also keep records that verify the partnership's basis in property for as long as they are needed to figure the basis of the original or replacement property. The partnership should also keep copies of all returns it has filed. They help in preparing future returns and in making computations when filing an amended return. Amended Return The procedures to follow when filing an amended partnership return depend on whether the amended return is filed electronically or on paper. The rules for determining when a return must be filed electronically (see Electronic Filing, earlier) also apply to amended returns. Electronically filed amended returns. If the amended return will be filed electronically, complete Form 1065 and check box G(5) to indicate that you are filing an amended return. Attach a statement that identifies the line number of each amended item, the corrected amount or treatment of the item, and an explanation of the reason(s) for each change. If the income, deductions, credits, or other information provided to any partner on Schedule K-1 is incorrect, file an amended Schedule K-1 (Form 1065) for that partner with the amended Form 1065. Also give a copy of the amended Schedule K-1 to that partner. Check the \"Amended K-1\" box at the top of the Schedule K-1 to indicate that it is an amended Schedule K-1. Exception. If the partnership is filing an amended partnership return and the partnership is subject to the consolidated audit proceedings of sections 6221 through 6234, the tax matters partner must file Form 8082, Notice of Inconsistent Treatment or Administrative Adjustment Request (AAR). Paper filed amended returns. If the amended return will not be filed electronically, complete Form 1065X, Amended Return or Administrative Adjustment Request (AAR), to file the amended return or administrative adjustment request. See Form 1065X, and its separate instructions, for information on completing and filing the form. When a partnership's federal return is amended or changed for any reason, it may affect the partnership's state tax return. For more information, contact the state tax agency for the state in which the partnership return was filed. TIP Other Forms, Returns, And Statements That May Be Required Form, Return, or Statement Use this to W-2 and W-3Wage and Tax Statement; and Transmittal of Wage and Tax Statements Report wages, tips, other compensation, and withheld income, social security and Medicare taxes for employees. 720Quarterly Federal Excise Tax Return Report and pay environmental excise taxes, communications and air transportation taxes, fuel taxes, manufacturers taxes, ship passenger tax, and certain other excise taxes. Also see Trust Fund Recovery Penalty, earlier. 940Employer's Annual Federal Unemployment (FUTA) Tax Return Report and pay FUTA tax. 941Employer's QUARTERLY Federal Tax Return Report quarterly income tax withheld on wages and employer and employee social security and Medicare taxes. Also see Trust Fund Recovery Penalty, earlier. 943Employer's Annual Federal Tax Return for Agricultural Employees Report income tax withheld and employer and employee social security and Medicare taxes on farmworkers. Also see Trust Fund Recovery Penalty, earlier. 944Employer's Annual Federal Tax Return File annual Form 944 instead of filing quarterly Forms 941 if the IRS notified you in writing. 945Annual Return of Withheld Federal Income Tax Report income tax withheld from nonpayroll payments, including pensions, annuities, individual retirement accounts (IRAs), gambling winnings, and backup withholding. Also see Trust Fund Recovery Penalty, earlier. -6- Instructions for Form 1065 Form, Return, or Statement Use this to 1042 and 1042-SAnnual Withholding Tax Return for U.S. Source Income of Foreign Persons; and Foreign Person's U.S. Source Income Subject to Withholding Report and send withheld tax on payments or distributions made to nonresident alien individuals, foreign partnerships, or foreign corporations to the extent these payments or distributions constitute gross income from sources within the United States that is not effectively connected with a U.S. trade or business. A domestic partnership must also withhold tax on a foreign partner's distributive share of such income, including amounts that are not actually distributed. Withholding on amounts not previously distributed to a foreign partner must be made and paid over by the earlier of: The date on which Schedule K-1 is sent to that partner or The 15th day of the 3rd month after the end of the partnership's tax year. For more details, see sections 1441 and 1442 and Pub. 515, Withholding of Tax on Nonresident Aliens and Foreign Entities. 1042-TAnnual Summary and Transmittal of Forms 1042-S Transmit paper Forms 1042-S to the IRS. 1065XAmended Return or Administrative Adjustment Request (AAR) Use Form 1065X to correct a previously filed partnership return or to make an Administrative Adjustment Request for a previously filed return. 1096Annual Summary and Transmittal of U.S. Information Returns Transmit paper Forms 1097, 1098, 1099, 3921, 3922, 5498, and W-2G to the IRS. 1097-BTCBond Tax Credit Report tax credits to bond holders and tax credits passed to another person. 1098Mortgage Interest Statement Report the receipt from any individual of $600 or more of mortgage interest (including certain points) in the course of the partnership's trade or business. 1099-A, B, C, INT, K, LTC, MISC, OID, R, S, and SA. Report the following: Important. Every partnership must file Forms 1099-MISC if, in the course of its trade or business, it makes payments of rents, commissions, or other fixed or determinable income (see section 6041) totaling $600 or more to any one person during the calendar year. Acquisitions or abandonments of secured property; Proceeds from broker and barter exchange transactions; Cancellation of debts; Interest payments; Payment card and third-party network payments; Payments of long-term care and accelerated death benefits; Miscellaneous income payments; Original issue discount; Distributions from pensions, annuities, retirement or profit-sharing plans, IRAs, insurance contracts, etc.; Proceeds from real estate transactions; and Distributions from an HSA, Archer MSA, or Medicare Advantage MSA. 5471Information Return of U.S. Persons With Respect To Certain Foreign Corporations A partnership may have to file Form 5471 if it: Controls a foreign corporation; or Acquires, disposes of, or owns 10% or more in value of the outstanding stock of a foreign corporation; or Owns stock in a corporation that is a controlled foreign corporation for an uninterrupted period of 30 days or more during any tax year of the foreign corporation, and it owned that stock on the last day of that year. 5713International Boycott Report Report operations in, or related to, a \"boycotting\" country, company, or national of a country and to figure the loss of certain tax benefits. The partnership must give each partner a copy of the Form 5713 filed by the partnership if there has been participation in, or cooperation with, an international boycott. 8275Disclosure Statement Disclose items or positions, except those contrary to a regulation, that are not otherwise adequately disclosed on a tax return. The disclosure is made to avoid the parts of the accuracy-related penalty imposed for disregard of rules or substantial understatement of tax. Also use Form 8275 for disclosures relating to preparer penalties for understatements due to unrealistic positions or disregard of rules. 8275-RRegulation Disclosure Statement Disclose any item on a tax return for which a position has been taken that is contrary to Treasury regulations. 8288 and 8288-AU.S. Withholding Tax Return for Dispositions by Foreign Persons of U.S. Real Property Interests; and Statement of Withholding on Dispositions by Foreign Persons of U.S. Real Property Interests Report and send withheld tax on the sale of U.S. real property by a foreign person. See section 1445 and the related regulations for additional information. 8300Report of Cash Payments Over $10,000 Received in a Trade or Business Report the receipt of more than $10,000 in cash or foreign currency in one transaction or a series of related transactions. 8308Report of a Sale or Exchange of Certain Partnership Interests Report the sale or exchange by a partner of all or part of a partnership interest where any money or other property received in exchange for the interest is attributable to unrealized receivables or inventory items. 8594Asset Acquisition Statement Under Section 1060 Report a sale of assets if goodwill or going concern value attaches, or could attach, to such assets. Both the seller and buyer of a group of assets that makes up a trade or business must use this form. 8621Information Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund Report ownership interest in a passive foreign investment company. 8697Interest Computation Under the Look-Back Method for Completed Long-Term Contracts Figure the interest due or to be refunded under the look-back method of section 460(b)(2) on certain long-term contracts that are accounted for under either the percentage of completion-capitalized cost method or the percentage of completion method. Partnerships that are not closely held use this form. Closely held partnerships should see the instructions for line 20c, Look-back interestcompleted long-term contracts (code J), later, for details on the Form 8697 information they must provide to their partners. Instructions for Form 1065 -7- Form, Return, or Statement Use this to 8804, 8805, and 8813Annual Return for Partnership Withholding Tax (Section 1446); Foreign Partner's Information Statement of Section 1446 Withholding Tax; and Partnership Withholding Tax Payment Voucher (Section 1446) Figure and report the withholding tax on the distributive shares of any effectively connected gross income for foreign partners. This is done on Forms 8804 and 8805. Use Form 8813 to send installment payments of withheld tax based on effectively connected taxable income allocable to foreign partners. Exception. Publicly traded partnerships do not file these forms. They must instead withhold tax on distributions to foreign partners and report and send payments using Forms 1042 and 1042-S. See Regulations section 1.1446-4 for more information. 8832Entity Classification Election See Entity Classification Election, later. 8865Return of U.S. Persons With Respect to Certain Foreign Partnerships Report the information required under section 6038 (reporting with respect to controlled foreign partnerships), section 6038B (reporting of transfers to foreign partnerships), or section 6046A (reporting of acquisitions, dispositions, and changes in foreign partnership interests). See Form 8865 and its instructions for more details. 8866Interest Computation Under the Look-Back Method for Property Depreciated Under the Income Forecast Method Figure the interest due or to be refunded under the look-back method of section 167(g)(2) for certain property placed in service after September 13, 1995, depreciated under the income forecast method. Partnerships that are not closely held use this form. Closely held partnerships should see the instructions for line 20c, Look-back interestincome forecast method (code K), later, for details on the Form 8866 information they must provide to their partners. 8876Excise Tax on Structured Settlement Factoring Transactions Report and pay the 40% excise tax imposed under section 5891. 8886Reportable Transaction Disclosure Statement Disclose information for each reportable transaction in which the partnership participated. Form 8886 must be filed for each tax year the partnership participated in the reportable transaction. The partnership may have to pay a penalty if it's required to file Form 8886 and does not do so. The following are reportable transactions. 1. Any listed transaction, which is a transaction that is the same as or substantially similar to one of the types of transactions that the IRS has determined to be a tax avoidance transaction and identified by notice, regulation, or other published guidance as a listed transaction. 2. Any transaction offered under conditions of confidentiality for which the partnership (or a related party) paid an adviser a fee of at least $50,000 ($250,000 for partnerships if all partners are corporations). 3. Certain transactions for which the partnership (or a related party) has contractual protection against disallowance of the tax benefits. 4. Certain transactions resulting in a loss of at least $2 million in any single year or $4 million in any combination of years. 5. Any transaction identified by the IRS by notice, regulation, or other published guidance as a \"transaction of interest.\" See Notice 2009-55, 2009-31 I.R.B. 170. See Regulations section 1.6011-4, the Instructions for Form 8886, and the instructions for line 20c, Other information (code Z), later, for more information. 8918Material Advisor Disclosure Statement Material advisors to any reportable transaction must disclose certain information about the reportable transaction by filing a Form 8918 with the IRS. See Form 8918 and its instructions for more details. 8925Report of Employer-Owned Life Insurance Contracts Report the number of employees covered by employer-owned life insurance contracts issued after August 17, 2006, and the total amount of employer-owned life insurance in force on those employees at the end of the tax year. Assembling the Return When submitting Form 1065, organize the pages of the return in the following order: Pages 1-5, Schedule F (Form 1040), Profit or Loss From Farming (if required), Form 8825, Rental Real Estate Income and Expenses of a Partnership or an S Corporation (if required), Form 1125-A, Cost of Goods Sold (if required), Form 8941, Credit For Small Employer Health Insurance Premiums (if required), Any other schedules in alphabetical order, and Any other forms in numerical order. Complete every applicable entry space on Form 1065 and Schedule K-1. Do not enter \"See attached\" instead of completing the entry spaces. Penalties may be assessed if the partnership files an incomplete return. If you need more space on the forms or schedules, attach separate sheets and place them at the end of the return using the same size and format as on the printed forms. Show the totals on the printed forms. Also be sure to put the partnership's name and EIN on each supporting statement. Entity Classification Election Use Form 8832, Entity Classification Election, to make a change in classification. Except for certain business entities always classified as a corporation, a business entity with at least two members may choose to be classified either as a partnership or an association taxable as a corporation. A domestic eligible entity with at least two members that does not file Form 8832 is classified under the default rules as a partnership. However, a foreign eligible entity with at least two members is classified under the default rules as a partnership only if the entity does not provide limited liability to at least one member. File Form 8832 only if the entity does not want to be classified under these default rules or if it wants to change its classification. ! CAUTION Attach a copy of Form 8832 to the partnership's federal tax return for the tax year of the election. -8- Elections Made by the Partnership Generally, the partnership decides how to figure income from its operations. For example, it chooses the accounting method and depreciation methods it will use. The partnership also makes elections under the following sections: 1. Section 179 (election to expense certain property). 2. Section 614 (definition of propertymines, wells, and other natural deposits). This election must be made before the partners figure their individual depletion allowances under section 613A(c)(7)(D). 3. Section 1033 (involuntary conversions). 4. Section 754 (manner of electing optional adjustment to basis of partnership property). Under section 754, a partnership may elect to adjust the basis of partnership property when property is distributed or when a partnership interest is transferred. If the election is made with respect to a transfer of a partnership interest (section 743(b)) and the assets of the partnership Instructions for Form 1065 constitute a trade or business for purposes of section 1060(c), then the value of any goodwill transferred must be determined in the manner provided in Regulations section 1.1060-1. Once an election is made under section 754, it applies both to all distributions and to all transfers made during the tax year and in all subsequent tax years unless the election is revoked. See Regulations section 1.754-1(c). This election must be made in a statement that is filed with the partnership's timely filed return (including any extension) for the tax year during which the distribution or transfer occurs. The statement must include: The name and address of the partnership, A declaration that the partnership elects under section 754 to apply the provisions of section 734(b) and section 743(b), and The signature of a partner authorized to sign the partnership return. The partnership can get an automatic 12-month extension to make the section 754 election provided corrective action is taken within 12 months of the original deadline for making the election. For details, see Regulations section 301.9100-2. See section 754 and the related regulations for more information. If there is a distribution of property consisting of an interest in another partnership, see section 734(b). The partnership is required to attach a statement for any section 743(b) basis adjustments. See below for details. 5. Section 743(e) (electing investment partnership). 6. Regulations section 1.1411-10(g) (section 1411 election with respect to CFCs and QEFs). A domestic partnership that directly or indirectly owns stock of a controlled foreign corporation (CFC) (within the meaning of section 953(c)(1)(B) or section 957(a)) or a passive foreign investment company (within the meaning of section 1297(a)) that the domestic partnership treats as a qualified electing fund (QEF) under section 1293 may make the election provided in Regulations section 1.1411-10(g) for a tax year that begins before January 1, 2014, if all of its partners consent to the election. This election must be made on an entity-by-entity basis, and applies only to the particular CFCs and QEFs for which an election is made. In general, for purposes of section 1411, if an election is in effect for a CFC or QEF, the amounts included in income under section 951 and section 1293 derived from the CFC or QEF are included in net investment income, and distributions described in section 959(d) or section 1293(c) are excluded from net investment income. An election that is made under Regulations section 1.1411-10(g) cannot be revoked. For more information regarding this election, see Regulations section 1.1411-10(g). Instructions for Form 1065 The election must be made in a statement that is filed with the partnership's original or amended return for the tax year in which the election is made. An election can be made on an amended return only if the tax year for which the election is made, and all tax years affected by the election, are not closed by the period of limitations on assessments under section 6501. The statement must include: The name and EIN of the partnership making the election, A declaration that all of its partners consent to each election made in the statement, A declaration that the partnership elects under Regulations section 1.1411-10(g) to apply the rules in Regulations section 1.1411-10(g) to the CFCs and QEFs identified in the statement, and The following information with respect to each CFC and QEF for which an election is made: (i) the name of the CFC or QEF; and (ii) either the EIN of the CFC or QEF, or, if the CFC or QEF does not have an EIN, the reference ID number of the CFC or QEF. Effect of Section 743(b) Basis Adjustment on Partnership Items If the basis of partnership property has been adjusted for a transferee partner under section 743(b), the partnership must adjust the transferee's distributive share of the items of partnership income, deduction, gain, or loss in accordance with Regulations section 1.743-1(j)(3) and (4). These adjustments (other than adjustments to depletable oil and gas property allocable to the partner under section 613A(c)(7)(D)) must be reported on Schedule K and the transferee partner's Schedule K-1. Report the adjustments on an attached statement to Schedule K-1 using the codes for Other Income or Other Deductions. Identify the partnership item being adjusted and the amount of the adjustment. If the adjustments are to partnership items from more than one trade or business, report the adjustments separately for each activity. Section 743(b) adjustments do not affect the transferee's capital account. Elections Made by Each Partner Elections under the following sections are made by each partner separately on the partner's tax return. 1. Section 59(e) (election to deduct ratably certain qualified expenditures such as intangible drilling costs, mining exploration expenses, or research and experimental expenditures). 2. Section 108 (income from discharge of indebtedness). This does not include the section 108(i) election. 3. Section 617 (deduction and recapture of certain mining exploration expenditures paid or incurred). 4. Section 901 (foreign tax credit). -9- Partner's Dealings With Partnership If a partner engages in a transaction with his or her partnership, other than in his or her capacity as a partner, the partner is treated as not being a member of the partnership for that transaction. Special rules apply to sales or exchanges of property between partnerships and certain persons, as explained in Pub. 541, Partnerships. Contributions to the Partnership Generally, no gain (loss) is recognized to the partnership or any of the partners when property is contributed to the partnership in exchange for an interest in the partnership. This rule does not apply to any gain realized on a transfer of property to a partnership that would be treated as an investment company (within the meaning of section 351) if the partnership were incorporated. If, as a result of a transfer of property to a partnership, there is a direct or indirect transfer of money or other property to the transferring partner, the partner may have to recognize gain on the exchange. The basis to the partnership of property contributed by a partner is the adjusted basis in the hands of the partner at the time it was contributed, plus any gain recognized (under section 721(b)) by the partner at that time. See section 723 for more information. Dispositions of Contributed Property Generally, if the partnership disposes of property contributed to the partnership by a partner, income, gain, loss, and deductions from that property must be allocated among the partners to take into account the difference between the property's basis and its FMV at the time of the contribution. However, if the adjusted basis of the contributed property exceeds its fair market value at the time of the contribution, the built-in loss can only be taken into account by the contributing partner. For all other partners, the basis of the property in the hands of the partnership is treated as equal to its fair market value at the time of the contribution (see section 704(c)(1)(C)). For property contributed to the partnership, the contributing partner must recognize gain or loss on a distribution of the property to another partner within 7 years of being contributed. The gain or loss is equal to the amount that the contributing partner should have recognized if the property had been sold for its FMV when distributed, because of the difference between the property's basis and its FMV at the time of contribution. See section 704(c) for details and other rules on dispositions of contributed property. See section 724 for the character of any gain or loss recognized on the disposition of unrealized receivables, inventory items, or capital loss property contributed to the partnership by a partner. Recognition of Precontribution Gain on Certain Partnership Distributions A partner who contributes appreciated property to the partnership must include in income any precontribution gain to the extent the FMV of other property (other than money) distributed to the partner by the partnership exceeds the adjusted basis of his or her partnership interest just before the distribution. Precontribution gain is the net gain, if any, that would have been recognized under section 704(c)(1)(B) if the partnership had distributed to another partner all the property that had been contributed to the partnership by the distributee partner within 7 years of the distribution and that was held