Question

what are the classifications of ordinary income and losses from partnerships. what does this mean? how can the classification of these figures vary based on each partner?

Answer 1

Ordinary business income from a partnership is generally subject to the self-employment tax when it is passed through to general partners. This makes sense given the rule about income maintaining its classification when allocated to a partner on his or her K-1.

If no consideration is paid to the taxpayer, the loss is generally all ordinary loss because there is no sale or exchange of the partnership interest. If the taxpayer is relieved of liabilities, the debt relief constitutes consideration in exchange for the partnership interest, and the loss is a capital loss.

Classification of Partnership Profits or Losses shall be allocated in a manner to cause the Partners' ending Capital Accounts to equal the amount they would receive if the Partnership were to sell all of its assets for Book Value and liquidate pursuant to the liquidation waterfall set forth. For example The net loss is divided according to each partner's contribution percentage. Partner A gets 50 percent of the profits and losses, Partner B gets 30 percent and Partner C gets 20 percent of the partnership's profits and losses.