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will have “substantial economic effect” but also the manner of
determining a partner’s “interest in the partnership”.
Substantial Economic Effect
The regulations provide that a special allocation of
partnership items is deemed to have substantial economic effect,
if, in the event there is an economic benefit or burden that
corresponds to an allocation, the partner to whom the special
allocation is made receives a corresponding benefit or bears a
corresponding burden. See sec. 1.704-1(b)(2)(ii), Income Tax Regs.
Moreover, the economic effect of the special allocation must be
substantial; this requires “a reasonable possibility that the
allocation (or allocations) will affect substantially the dollar
amounts to be received by the partners from the partnership,
independent of tax consequences.” Sec. 1.704-1(b)(2)(iii)(a),
Income Tax Regs.
Determinations of substantial economic effect, as well as
determinations of a partner’s interest in the partnership, depend
upon an analysis of the partners’ capital accounts. Generally
speaking, a partner’s capital account represents the partner’s
equity investment in the partnership. The capital account balance
is determined by adding (1) the amount of money that the partner
contributes to the partnership, (2) the fair market value of
property the partner contributes (net of liabilities to which the
property is subject or which are assumed by the partnership), and
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Last modified: May 25, 2011