The AB partnership agreement satisfies the three basic requirements of the economic effect test. The AB partnership owns a portfolio of municipal bonds and a AAA Corporate bond with a variable rate of interest. At the beginning of last year, each investment had a value of $1,000 and each was expected to yield an approximate income of $60. The partnership had net operating income from its business of $300 for the year.

A and B share equally in aggregate partnership income, but A's share is deemed to consist first of interest on the municipal bonds. Assume that the bonds generate the expected amount of income of $60 each.

(a) What is net impact on these transactions on A and Bs capital accounts for the year? Would this turn out differently if there was no special allocation of municipal bonds?

(b) Does this allocation meet the requirements of substantiality in the substantial economic effect rules under Sec. 704(b)?