The Rams Real Estate Limited Partnership (Rams) was formed on January 1, 2000 to purchase, construct, and manage residential real estate. Cash in the amount of $500,000 was initially contributed to the partnership by the partners -5% by the general partner and 95% by the limited partners. The partnership adopted the accrual method of accounting and a calendar year for Federal income tax purposes. On February 2, 2000, Rams purchased the Lexington House apartment complex for a total price of $5,000,000. $1,000,000 of the purchase price was allocated to the land and $4,000,000 was allocated to the buildings. Rams financed the acquisition by obtaining an interest only fifteen-year $4,500,000 mortgage from a bank that is unrelated to any of the Rams partners. The mortgage is secured by the apartment complex, but is fully recourse to the partnership. No other properties were purchased during 2000. A summary of partnership operating revenues and expenses for 2000 is as follows:

Ram's Real Estate Limited Partnership
Operating Revenues and Expenses
For the Calendar Year 2000
Gross rental revenues	$2,100,000
Monthly Operating expenses**	$1,675,000
Repairs and maintenance	212,000
Interest expense	562,000
Property taxes	188,000
Total	$2,637,000
Net cash flow from operations*	($537,000)

* Rams financed the negative cash flow from operation by fully recourse short-term borrowing. The management fee has not been included in expenses.

** Does not include depreciation

The Rams partnership agreement provides that the corporate general partner, Raiders Properties Inc. (Raiders), will receive an annual management fee equal to 5 percent of the gross rental income earned by the partnership. This fee is reasonable by local industry standards. In return for the fee, Raiders will provide all necessary services so that Rams will not have to hire any partnership employees. All partnership taxable income, gain, or loss will be allocated 5 percent to Raiders and 95 percent to the limited partners based on each limited partner's specified percentage interest. The agreement provides that partners capital accounts will be determined and maintained in accordance with the Section 704(b) regulations, and that liquidating distributions will be made in accordance with capital account balances. As general partner, Raiders is required to restore any deficit balance in its capital account upon liquidation. Limited partners are not subject to this deficit restoration requirement. However, the partnership agreement does contain a "qualified income offset" to satisfy the alternate test for economic effect of Reg. Sec. 1.704-1 (b)(2)(ii)(d).

On January 20, 2000, Dr. Randy Smith contributed undeveloped land to Rams in exchange for a 38 percent limited partnership interest (i.e., Dr. Smith will receive 40 percent of the 95 percent allocation to the limited partners). Raiders, as general partner, agreed to this exchange because the land is ideally situated for future development as residential rental property. Dr. Smith inherited the land a number of years ago and his tax basis in the property is only $125,000. The appraised value of the land at the date of contribution to the partnership was $275,000. The entry to Dr. Smith's partnership capital account properly reflected this contributed value. The partnership agreement provides that limited partners cannot be called upon to make additional capital contributions in the future.

Randy Smith is a radiation oncologist employed by a medical professional corporation. During 2000, he received a salary of $230,000. He also received a total of $19,400 of dividend and interest income from his investment portfolio, and an allocation of $13,200 of operating business income from an oil and gas partnership in which he has a 3 percent limited partnership interest.

Prepare a memorandum for the files covering the following:

Compute Ram's taxable loss for 2000, and determine the amount of the loss that is (1) allocable to and (2) deductible by Randy Smith on his 2000 Federal individual income tax return. Please discuss in narrative form your authority for your allocation and limitations to the deductible loss.

NOTE: If the allocation of the loss to Dr. Smith has economic effect, you may assume that such allocation is substantial.