Business Tax Policy: Partnership Basis Adjustments
For both the City of Portland Business License Tax and the Multnomah County Business Income Tax, the tax is assessed at the entity level per Portland City Code 7.02.110 (A) and Multnomah County Code 12.110 (A). Partnerships that acquire assets have basis in the assets (inside basis), while the partners have basis in their individual interest in the partnership (outside basis). Sales of partnership interests can create disparity between inside and outside basis. IRS Section 754 allows some remedy for this disparity at the partnership level by allowing the partnership to increase its basis and related depreciation. However, this allowance is allocated (through Schedule K and K-1) to only the involved partner(s). While the form of the Section 754 election is a partnership transaction, in substance it is deemed to be a partner-level transaction because it relates directly to the calculation of outside basis.
A deduction for the step up in basis for partnership assets related to an Internal Revenue Code (IRC) Section 754 election (which allows IRC Section 743 adjustments) is not allowed for the City of Portland Business License Tax or the Multnomah County Business Income Tax. The stepped up basis applies to an individual partner only and is reflected on the partner’s Schedule K-1, regardless of the fact that it may have also been reported on Schedule K of the partnership’s return.
Example: Individuals A, B, and C form Partnership Z as equal partners (each owning 33.3%). The partnership purchases a building for $600,000. Over the next five years, the partnership has depreciated the building by $60,000 and now has a remaining basis of $540,000. This depreciation deduction was used to reduce the City/County taxable income of Partnership Z. Each of the three partners now has a basis of $180,000.
Individual A then sells their interest in Partnership Z to Individual D for $500,000. The gain on the sale of the partnership interest recognized by Individual A of $320,000 would generally not be subject to the City of Portland Business License Tax or the Multnomah County Business Income Tax as it is the investment income of an individual. Individual D now has a $500,000 depreciable basis in the building through their partnership interest. If Partnership Z makes an IRC Section 754 election, Individual D may take an additional depreciation deduction on their federal tax return based on the increase in the “outside basis” of Individual D’s purchased asset. However, this deduction is not allowed on the City/County tax return of Partnership Z.
10-11-2017 Thomas Lannom
Date Director, Revenue Division