Entity Tax Approach

Section 702(b) Character of items constituting distributive share.

The character of any item of income, gain, loss, deduction, or credit included in a partner’s distributive share under paragraphs (1) through (7) of subsection (a) shall be determined as if such item were realized directly from the source from which realized by the partnership, or incurred in the same manner as incurred by the partnership.

Section 702 provides that the character of items of income, deduction or credit are determined at the partnership, rather than at the partner level. So, for example, if the partnership sells property and realizes a gain of $500, the character of that gain (ordinary, capital, Section 1231) is determined at the partnership level.

Section 703 provides information on computations of income and deductions. The taxable income of a partnership shall be computed in the same manner as in the case of an individual except that -

(1) the items described in section 702(a) shall be separately stated, and
(2) the following deductions shall not be allowed to the partnership (personal exemptions, foreign taxes; charitable contributions; net operating losses, other itemized deductions provided in part VII of subchapter B, and depletion for oil and gas wells).

Any election affecting the computation of taxable income derived from a partnership shall be made by the partnership, except [for certain elections under Section 108, Section 617, and Section 901, which] shall be made by each partner separately.

- Peter A. Dufour, JD, MBA & Constance Bingham, CPA, MST
Macdonald Page & Co LLC