SPEC HOUSE

[TAXMAN]

TP A buys real estate or puts up $ to acquire the real-estate. No further involvement. TP B a general contractor builds house. They sell house with TP A getting his original investment back. TP B gets his building cost back. A & B pays closing cost. Remainder split 50/50. No valid ptrship agreement exists. I have TP A. Since TP A Is not involved in the build does he pay SS tax on the profit he gets? TP A does not have a contractors license to build houses. What do you think?

[Lee B]

Legally a partnership agreement can be a hand shake, signed documents are not required.

Doesn't matter whether it's a 1065 or a Schedule C (Joint Venture), it's SE income for both A & B.

[BulldogTom]

26 minutes ago, cbslee said:

Legally a partnership agreement can be a hand shake, signed documents are not required.

Doesn't matter whether it's a 1065 or a Schedule C (Joint Venture), it's SE income for both A & B.

Totally agree with the first sentence.

I am not sure about the second sentence.   I think you have to do a lot more discovery to come to the correct answer.  Is this the only time this TP ever entered a JV to build a spec home.   What was his intention when he purchased the property.   How long after the purchase until he made the agreement to contribute the land to the JV.   When you say he "buys real estate or puts up $" I get leary of the taxpayer's intent.  But if the answers to your discovery come out the right way, I could be comfortable saying TP A just turned a cap gain on his investment.

Tom
Longview

[Lee B]

2 hours ago, TAXMAN said:

. . .  Remainder split 50/50. . . . 

 I think it's clear that taxpayer B has SE Income.  For me saying that Taxpayer B has SE Income and taxpayer A has investment property and Capital Gains

would be a difficult position to support.

[Sara EA]

TP A is a limited partner and is subject to SE tax only for services he provides to the partnership.  He doesn't provide any services, just money.  Hey, if hedge fund managers pay cap gains tax on their enormous earnings (really derived from services), TP A should get the same treatment.

[Lee B]

12 hours ago, Sara EA said:

TP A is a limited partner and is subject to SE tax only for services he provides to the partnership.  He doesn't provide any services, just money.  Hey, if hedge fund managers pay cap gains tax on their enormous earnings (really derived from services), TP A should get the same treatment.

If PTS documents had been drawn up and signed spelling out that A was a limited partner and B was a General Partner then I would agree,

but those documents apparently don't exist. 

[TAXMAN]

I will inquire further as just what was their intentions where. Without a contractors A license TP A cannot build house.

[BulldogTom]

1 hour ago, cbslee said:

If PTS documents had been drawn up and signed spelling out that A was a limited partner and B was a General Partner then I would agree,

but those documents apparently don't exist. 

Just out of curiosity (not trying to be combative) - if the partnership can be created by a handshake and no docs, why can't they say that when they shook hands Partner A was a limited partner and Partner B was a general partner?   If a handshake agreement is good enough to create a partnership, why can't the terms also be unwritten but understood?  If they memorialized the agreement now with the intentions that they had at the time of the handshake, would you consider that to be a valid partnership agreement?

Tom
Longview, TX

[Abby Normal]

Whose name is the real estate held in?

Also, if TP A is doing this regularly, does it rise to the level of a business (Sch C) for them?

[Lee B]

2 hours ago, TAXMAN said:

 . . .  Without a contractors A license TP A cannot build house. . . 

Perhaps in your state they couldn't, but in my state they could.

[Lee B]

Tom, in theory it would be possible, but for me it would require detailed contemporaneous notes.

[Gail in Virginia]

I can see this either way.  But I don't think that whether or not Partner A can serve as general contractor would mean that he would be limited in terms of the partnership.  He seems to have exercised management responsibility by choosing the site since he bought the lot.  And he could be providing oversight of the financials, especially since he seems to be providing the money.  I am not sure how that is determined/proven after the fact. 

[Bart]

Is partner A taking QBI?

[jklcpa]

I'm mostly in agreement with everything Gail said and more information is needed.  It may be possible that TP A doesn't need to be a licensed contractor if the partnership could hire one in that capacity.  Maybe that's what this arrangement is all about.

I can see why Sara said that TP A could be a limited partner, but I am with cbslee and would want to see some sort of documentation on that especially because being a limited partner means that the partner's liability is limited to his investment. Without something in writing and in the event of a lawsuit, would partner B stand by that verbal agreement, and would partner A also be comfortable with that?  People do stupid things all the time without thinking about the risks, but I'd still want to ask the question to see if this was discussed and documented.

[mcbreck]

I've never figured out when a rehabber / flipper qualifies for capital gains versus ordinary income taxation.

 

In this scenario I think A gets capital gains and B gets ordinary income treatment. A isn't a builder but an investor IMO.

 

I have a guy who buys pieces of equipment (tractors / bull dozers / skid steer loaders), rehabs them and sells them for a profit. He claims capital gains on the items. He uses the funds to pay for his wife's graduate school tuition.

[Lee B]

1 hour ago, mcbreck said:

 

 

I have a guy who buys pieces of equipment (tractors / bull dozers / skid steer loaders), rehabs them and sells them for a profit. He claims capital gains on the items. He uses the funds to pay for his wife's graduate school tuition.

Sounds like a business

[Abby Normal]

4 hours ago, cbslee said:

Tom, in theory it would be possible, but for me it would require detailed contemporaneous notes.

State law may not agree, but if it was at least an LLC, the limited partner could avoid SE tax, but it would not be capital gains.

[mcbreck]

On 8/2/2022 at 1:53 PM, jklcpa said:

Caveat: this IS an old letter related to an issue in 2002, so it is up to the OP to research and make his own informed decision whether or not this would be helpful in his client's situation.

I've yet to see anywhere that this isn't still the case.

[jklcpa]

5 minutes ago, mcbreck said:

I've yet to see anywhere that this isn't still the case.

You are correct, and that is why many times I will not give a firm answer but am willing to share links or leads to the applicable law.  It is up to the preparers to draw their own conclusions as to how the law applies to their specific clients' cases.

In this case, I did want to point that out since the letter was from 20 yrs ago in case some reader looks at it and doesn't notice.