Washington Law Review


Taxing Selling Partners

March 31, 2019 | 94 Wash. L. Rev. 1

Abstract: When a partner sells a partnership interest, the resulting gain or loss is treated as
capital gain or loss, except to the extent that the partnership holds certain items whose sale
would result in gain or loss that was not capital. Seemingly, the purpose of this regime is to
prevent taxpayers from obtaining more favorable treatment by selling an interest in a
partnership than what would result if the partnership were to sell its underlying assets. But
given this legislative aim, the existing tax provisions produce results for taxpayers that are both
unduly favorable (in that sale of a partnership interest sometimes receives more beneficial
treatment than sale of underlying assets) and unduly unfavorable (in that, in other instances,
sale of a partnership interest triggers a less beneficial outcome than the sale of underlying

The design of the partnership tax rules also necessitates piecemeal reform as taxpayers
discover new opportunities to benefit from unduly favorable results produced by the
partnership tax regime. Most recently, in December 2017, Congress adopted legislative reform
to address one such instance involving the sale of a partnership interest by a non-U.S. person.

In addition, the method used by the partnership tax rules requires Congress to update the
statute governing sale of a partnership interest to take into account potential ripple effects of
unrelated legislative changes. As a result, the design is error prone because, inevitably,
Congress overlooks and fails to address these potential ripple effects. Changes enacted by
Congress in December 2017 provide at least one example of this phenomenon. In particular,
Congress enacted a new restriction on the deductibility of losses incurred in a trade or business.
However, Congress did not provide for a corresponding modification to the tax provisions
governing sale of an interest in a partnership—creating the potential for another way in which
the existing statutory design is unduly favorable.

Some of the problems identified by this Article existed long before the adoption of
significant tax legislation in December 2017; one of the problems was partially (but
incompletely) addressed by that legislation and one of the problems was created by that
legislation. To address each of the failings that it identifies, this Article proposes equating the
tax treatment of the sale of a partnership interest with the tax treatment of the sale of underlying
assets in all cases.

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