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partner would have received in a liquidation at the end of the
prior year. This is referred to as the comparative liquidation
test. Specifically:
the partner's interests in the partnership with respect
to the portion of the allocation that lacks economic
effect will be determined by comparing the manner in
which distributions (and contributions) would be made if
all partnership property were sold at book value and the
partnership were liquidated immediately following the end
of the taxable year to which the allocation relates with
the manner in which distributions (and contributions)
would be made if all partnership property were sold at
book value and the partnership were liquidated
immediately following the end of the prior taxable year,
and adjusting the result for the items described in (4),
(5), and (6) of paragraph (b)(2)(ii)(d) of this section.
A determination made under this paragraph (b)(3)(iii)
will have no force if the economic effect of valid
allocations made in the same manner is insubstantial
under paragraph (b)(2)(iii) of this section. * * *
Sec. 1.704-1(b)(3)(iii), Income Tax Regs.
Under the comparative liquidation test, if allocation of an
item of partnership loss or deduction is at issue, the regulation
requires that the loss or deduction be attributed to the partner
who would be required to make up a deficit in partnership assets
upon liquidation.
Both parties maintain that this comparative liquidation test
applies to show that their allocation schemes are in accordance
with the partners' interests. The manner in which each applies the
test, however, differs. Respondent's application of the
comparative liquidation test is somewhat less complex than
petitioner's. Accordingly, we consider respondent's contentions
first.
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