Commissioner v. Tufts

461 U.S. 300 (1983)

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Nature of the Case

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Facts

Pelt, was a builder and his wholly owned corporation, Clark, Inc. formed a general partnership to construct a 120 unit apartment complex in a suburb of Dallas. Neither Pelt nor Clark made any capital contributions to the partnership. The partnership then entered into a mortgage of $1,851,500 in return for a deed of trust in favor of the lender. The loan was obtained on a nonrecourse basis meaning that neither the partnership nor its partners assumed personal liability for repayment. Pelt later got four general partners, Tufts, Steger, Stephens, and Austin. None of them contributed any capital upon entering the partnership. Construction was completed in 1971, and the total capital contribution by the partners was $44,212. In each tax year, all partners claimed income tax deductions for their allocable share of ordinary losses and depreciation. The deductions taken in 1971 and 72 totaled $439,972. This made the adjusted basis for the property at $1,455,740. Things went sour in the rental market because of major layoffs and each general partner sold his share to Fred Bayles. As consideration, Bayles agreed to reimburse each partner's sale expenses up to $250, and he also assumed the nonrecourse mortgage. The fair market value of the property did not exceed $1,400,000. Each partner reported the sale and indicated that the partnership had lost $55,740. The IRS determined that the gain was $400,000 under the theory that the partnership had realized the full amount of the nonrecourse obligation. The tax court upheld, the Court of Appeals reversed.