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restore any deficits in their capital accounts upon
liquidation of the partnership.
In 1985, D agreed to invest $19.8 million in IHCL in
exchange for a 15-percent interest in IHCL. D received
a non-pro rata (special) allocation of 99 percent of
IHCL’s income and losses. Upon D’s entry as a partner in
IHCL, M withdrew as a partner, and THEI’s interest in
IHCL was reduced.
D encountered financial difficulties and defaulted
on its contribution payment obligation. In 1987, the
special allocation of IHCL’s gains and losses to D was
terminated. Thereafter, the gains and losses of IHCL
were allocated to THEI and D pro rata in accordance with
their respective partnership interests. Under this new
allocation, 85 percent of the losses went to THEI,
creating a substantial deficit balance in THEI’s
partnership capital account.
On June 20, 1991, M purchased D’s interest in IHCL
and thereafter succeeded to D’s then-positive $14.8
million partnership capital account. At the time, THEI
had a negative $5.9 million partnership capital account
balance.
Upon M’s reentry into IHCL, the IHCL partnership
agreement was amended to provide that IHCL’s income would
be allocated first to partners having negative capital
account balances and thereafter to the partners pro rata.
IHCL’s 1991 information return reported an
allocation of 99 percent of IHCL’s income to D through
June 20, 1991, and thereafter an allocation of 100
percent of the income to THEI. Respondent determined
that 99 percent of IHCL’s income after June 20, 1991,
should be allocated to M.
In our original opinion in this case, we sustained
respondent’s position. On appeal, the parties agreed
that a minimum gain chargeback should be included in the
Court’s calculations for purposes of the comparative
liquidation test of the partners’ interests under sec.
1.704-1(b)(3)(iii), Income Tax Regs.
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