Revenue Rulings 99-5 and 99-6, Similar but Different

Revenue Ruling 99-5 and Revenue Ruling 99-6 are often grouped together because they both involve the movement between a single-member limited liability company (LLC) and a partnership. Both rulings require careful consideration of the structure of the transaction and the intentions of the parties involved.

It’s essential to understand whether the transaction is intended to move from a partnership to a single member LLC or from a single member LLC to a partnership, as this will determine the applicable ruling.

Revenue Ruling 99-5

This ruling provides crucial guidance on the federal income tax consequences when a single-member LLC that is disregarded as an entity separate from its owner becomes a partnership for federal tax purposes. This ruling is particularly relevant for LLCs transitioning from a single-owner structure to a multi-owner partnership.

The ruling addresses the federal income tax implications in two specific situations where a single-member LLC transitions to a partnership.

1. Sale of ownership interest

A new member purchases a xx% ownership interest from the existing owner of a single member LLC. For example, Kevin purchases 50% of Oscar's ownership interest in the LLC for $5,000. Oscar and Kevin then operate the LLC as co-owners.

• Deemed sale — Kevin's purchase is treated as the purchase of a 50% interest in each of the LLC's assets. Keep in mind that liabilities of the LLC, if any, assumed by Kevin as part of the transaction will be considered additional consideration in addition to the cash paid.
• Formation of partnership — Immediately after the purchase, Oscar and Kevin are deemed to contribute their respective interests in the assets and liabilities to a newly formed partnership.
• Gain or loss recognition — Under Section 1001, Oscar recognizes gain or loss from the sale of the 50% interest in each asset.
• Nonrecognition of gain or loss — Under Section 721(a), no gain or loss is recognized by Oscar or Kevin on the contribution of the assets and liabilities to the partnership. If differences exist between the tax basis and the fair market value of the assets contributed to the partnership, the partnership will need to calculate the Section 704(c) pre-contribution gain and apply any necessary Section 704(c) allocations.
• Basis in partnership interest — Kevin's basis is $5,000 (the purchase price assuming no liabilities in the transaction), while Oscar's basis is the carryover adjusted basis of Oscar's 50% share of the assets.
• Holding period — Oscar's holding period for the partnership interest includes the period Oscar held the assets. Kevin's holding period starts the day after the purchase.

2. Contribution of cash

A new member contributes cash to a single member LLC in exchange for a xx% ownership interest. For example, Kevin contributes $10,000 to the LLC for a 50% ownership interest. Oscar and Kevin then operate the LLC as co-owners.

• Formation of partnership — The LLC is treated as a partnership when Kevin contributes cash. Oscar is deemed to contribute the assets and liabilities of the LLC to the partnership and Kevin is deemed to contribute the $10,000 cash.
• Nonrecognition of gain or loss — Under Section 721(a), no gain or loss is recognized by Oscar or Kevin due to the contribution of assets and cash. If differences exist between the tax basis and the fair market value of the assets contributed to the partnership, the partnership will need to calculate the Section 704(c) pre-contribution gain and apply any necessary Section 704(c) allocations.
• Basis in partnership interest — Kevin's basis is $10,000 (the cash contributed), while Oscar's basis is the carryover adjusted basis of the assets contributed.
• Holding period — Oscar's holding period for the partnership interest includes the period Oscar held the assets. Kevin's holding period starts the day after the cash contribution.

Revenue Ruling 99-6

This ruling provides essential guidance on the federal income tax consequences when a single party purchases all ownership interests in an LLC classified as a partnership. This purchase causes the LLC's status as a partnership to terminate.

The ruling addresses the federal income tax implications in two specific situations where a partnership LLC transitions to a single-member LLC taxed as a disregarded entity.

1. Purchase by an existing partner

One member buys out all of the other member's interest. This is not to be confused with the LLC purchasing all of the member’s interest, which is a partnership liquidation and not governed under this ruling.

For example, Oscar and Kevin are equal partners in OK, an LLC. Oscar sells his entire interest to Kevin for $10,000. After the sale, Kevin continues the business as the sole owner.

• Termination of partnership — The OK partnership terminates under Section 708(b)(1)(A).
• Sale of partnership interest — Oscar, the seller, must treat the transaction as the sale of a partnership interest and report any gain or loss under Section 741, as well as any gain from “hot assets” under Section 751(a). Oscar does not file a Form 8594, as he has sold a partnership interest.
• Deemed liquidation — From Kevin’s perspective, the partnership is deemed to make a pro-rata liquidating distribution of all its assets to Oscar and Kevin.
• Acquisition of assets — Kevin is treated as acquiring the assets distributed to Oscar in liquidation of Oscar's partnership interest. Kevin would file a Form 8594 outlining the allocation of purchase price amongst the assets purchased.

• Basis and holding period:

  • Kevin's basis in the assets purchased from Oscar is $10,000 (the purchase price).

  • Kevin's holding period for these assets begins the day after the sale.

  • Kevin's basis in the assets attributable to Kevin's former interest is determined under Section 732(b), and the holding period generally includes the partnership's holding period for these assets.

 2. Purchase by an outside party

An unrelated person buys out all existing members' interests. For example, Oscar and Kevin are equal partners in OK, LLC. Oscar and Kevin sell their entire interests to Angela, an unrelated person, for $10,000 each. After the sale, Angela continues the business as the sole owner.

• Termination of partnership — The OK partnership terminates under Section 708(b)(1)(A).
• Sale of partnership interests — Oscar and Kevin, the sellers, must report any gain or loss from the sale of their partnership interests under Section 741, as well as any gain from “hot assets” under Section 751(a). Oscar and Kevin do not file a Form 8594, as they have sold partnership interests.
• Deemed liquidation — From Angela’s perspective, the partnership is deemed to make a pro-rata liquidating distribution of its assets to Oscar and Kevin.
• Acquisition of assets — Angela is treated as acquiring all the former partnership's assets by purchase from Oscar and Kevin. Angela would file a Form 8594 outlining the allocation of purchase price amongst the assets purchased.
• Basis and holding period:

• Angela's basis in the assets is $20,000 (the total purchase price).
• Angela's holding period for these assets begins the day after the sale.

How we can help with partnership transactions

CLA can help you navigate Revenue Rulings 99-5 and 99-6 and strategize ways to enhance tax outcomes. Our team uses deep industry knowledge to identify financial, tax, operational, and strategic opportunities across all phases of the real estate investment life cycle.