Bud has devoted his life to his business, the BK Partnership, in which he owns an 85% capital and profits interest. Because he has worked so hard all his life, he never married and has no children. He has decided to give a 25% capital and profits interest to Berry, a close friend, if Berry will work in the business for five years. Berry will receive guaranteed payments for his work. Bud devotes
all his time to the partnership, but he takes no salary. What tax issues should Bud and Berry consider with respect to the gift of the partnership interest and Bud's employment arrangement with the partnership?
What will be an ideal response?
• Do the family partnership rules apply when there is no family relationship?
• Does reasonable compensation need to be paid to Bud for his services?
• If so, what is reasonable compensation for Bud's services?
• Does Berry need to be recognized as a partner in the BK Partnership?
• If so, what is Berry's allocable share of the partnership income?
• What is Bud's allocable share of the partnership income?
The family partnership rules are written in terms of the donor-donee relationship. Accordingly, they apply in this situation. Both Bud and Berry would be allocated a reasonable compensation amount. Then, the remainder of the income originally allocated to Bud and Berry would be reallocated to them based on their relative capital interests.
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