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in that partner's capital account. Consequently, the alternative
test for economic effect provides that allocations of a limited
partnership may have economic effect even in the absence of an
unlimited deficit restoration requirement.
The alternative test begins by incorporating the first two
parts of the basic test. As with the basic test, the partnership
agreement must provide for properly maintained capital accounts.
It must also provide that the proceeds of liquidation are to be
distributed in accordance with the partners' positive capital
account balances. However, instead of a negative capital account
makeup requirement, the alternative test mandates a hypothetical
reduction of the partners' capital accounts. Specifically, the
alternative test requires that capital accounts must be reduced for
any distributions that, as of the end of the year, "reasonably are
expected" to be made, to the extent that such distributions exceed
reasonably expected increases to the partner's capital account.
Sec. 1.704-1(b)(2)(ii)(d), Income Tax Regs. By requiring a
prospective reduction of capital accounts, the alternative test
serves to preclude a limited partner from timing the receipt of
deductible partnership expenses in a way that permits the partner
to accumulate negative capital accounts that the partner is not
required to repay.
Additionally, under the alternative test, the partnership
agreement must provide for a "qualified income offset" (QIO). A
QIO provision automatically allocates income, including gross
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