Gifts of Partnership Interests
As with gifts of closely held stock, gifts of partnership interests (and interests in limited liability companies taxed as partnerships) raise special considerations for both the donor and the donee charity.
In essence, a partner owns an undivided interest in each asset of the partnership, and may share in the liability for partnership debts. As a result, the determination of a donor's charitable contribution income tax deduction is more problematic with gifts of partnership interests than with gifts of stock. A shareholder's interest in a corporation (regular corporation or an S corporation) is an intangible investment asset. As a result, the shareholder's sale corporate of stock held for more than one year produces long-term capital gain. Therefore, the gift of such an interest produces a contribution deduction based on fair market value of the stock. A sale of a partnership interest, however, produces a far different result. The partner is considered to have sold his proportionate share of every asset of the partnership. Many partnership assets are ordinary income assets (inventory, depreciation recapture, etc. that produce ordinary income upon sale) which, if given, produce a charitable contribution deduction limited to the donor's basis of those assets. It is necessary, therefore, to determine how the sale of a partnership interest would be taxed to the selling partner to determine how much may be deducted at fair market value subject to a thirty-percent limitation, and how much may be deducted in an amount equal to the donor's basis, subject to a fifty-percent limitation.
Partnership interests are more difficult and expensive to value than publicly traded or closely held stock and an independent appraisal is typically necessary to substantiate the donor's income, gift, or estate tax deduction. The appraisal generally must consider the underlying value of each partnership asset and the partner's interest therein. Both the type of partner (general or limited) and the type of debt (recourse or non-recourse) affect a partner's risk of liability for partnership debts and the value of the partner's holding. Partnership agreements frequently specify different interests for each partner, or class of partner, in capital, income, expenses, gain, loss, and credits which affect the value of the interest. In addition, lack of marketability and minority interest discounts all combine to require that partnership interest valuations must be done by highly qualified experts.
Like closely held stock, partnership interests are commonly subject to ownership restrictions within the partnership agreement and buy-sell agreements among all partners. Therefore, it is imperative to review those agreements to ensure that the donor has the power to gift such an interest to a charity.
Gifts of partnership interests to private foundations must be carefully reviewed to comply with the self-dealing and excess business holdings limitations applicable to private foundations. Partnership interest gifts to private foundations may raise the additional question of investments that jeopardize the charitable purpose of the foundation. Gifts of partnership interests to a public charity may be subject to excess benefit transaction requirements if the donor or a related party is a "disqualified person" with respect to the donee organization.
From the standpoint the donee charity, the organization becomes a general or limited partner subject to the many risks of being a partner. In all cases of a potential gift of a partnership interest, legal counsel for the donee organization must be consulted to ensure receipt of the gift is in the best interest of the organization considering the risks the organization will assume. Further, each partner is in the trade or business of the partnership. If the partnership is in a trade or business that would be unrelated to the charitable purpose of the organization, the charitable partner's allocable income from the venture will be subject to the unrelated business income tax, without regard to whether that income is distributed. Even if the charitable partner's allocable income is only from passive sources (interest, dividends, rents, royalties), debt within the partnership may subject otherwise non-taxable income to tax as unrelated debt-financed income.
Partnerships (and limited liability companies taxed as partnerships) are complex tax entities, and frequently produce unintended and unexpected tax results. Gifts of interests in these entities require thoughtful planning by legal counsel and tax advisors knowledgeable in both partnership and charitable giving tax law. We have helped numerous donors and charitable donees structure gifts of partnership interests that have been mutually beneficial to all parties.
©2008 Ronnie C. McClure, PhD, CPA