club_cafe: Time Based Accounting

iras1 on

In a message dated 1/29/2007 4:02:13 P.M. Eastern Standard Time, nycpartners@bivio.com writes:

Can anyone recommend where I can get more information
regarding time-based accounting? I have read info on the
following link -
http://www.bivio.com/hp/tax-allocation-methods.html - but I
am trying to figure out the accounting treatment for certain
scenarios:

I'm not sure about where you can get more information, but here are the differences between time-based and snapshot. Most partnerships are cash-basis entities which means that they recognize income and expense when the transaction occurs. So, if your club has an expense this month, it is allocated to the members who are in the club this month. If you have income this month, your current members split the income. Generally, the allocation of income and expense is proportional to the percentage ownership of the club. (We can ignore the issue of proportional vs. equal allocation for now). This is the what the IRS expects you will do, in the absence of specific language in your Partnership Agreement that says otherwise. With snapshot accounting, you add up all the income and expense for the year and allocate it all on the basis of the percentage ownership on a single date, usually 12/31. So, a member who joins in December gets a share of all of the items from the beginning of the year. There are special calculations for withdrawals. A full discussion of the calculations goes beyond the scope of this reply.

(1) Let's say a new member joins in January and invests.
The club member then resigns in July. Excess cash is used
to redeem the partner - nothing is sold. Then a capital
gain is realized later in the year. Under time-based
accounting, since that member was not current as of the
record date, they are not liable for taxes. My point is
this seems to penalize the remaining members because they
are saddled with absorbing that person gains.

No, that's not true. The withdrawn member paid his share of the taxes based on the change in value of his investment in the club during his period of membership. If the remaining members seem to be paying more tax because they each absorb a bigger piece of the gain, they get an equal benefit because their tax basis in the club increased by a larger amount. Therefore, they will pay less tax when they withdraw.

(2) Let's say a new member joins in January and invests. In
January a long-term capital gain is realized because it was
purchased over one year ago. The member is responsible for
their portion of the taxes, but is it LT or ST?

Long-term. A member's share of any income or expense item retains the same character as it does for the club as the entity. When a member withdraws, his gain on withdrawal (separate from the K-1 reported club items) is long-term or short-term based on the length of time between his initial investment and his withdrawal.

Any thoughts on the above or recommended reading would be
appreciated.

You have my thoughts. There may be some useful articles in the old trez_talk archives here. Search the site for "time based" and/or "snapshot".

Ira Smilovitz

Rip West on

Ira has answered your questions about time-based allocation. I would differ only with his choice of wording, in one instance. In your example 1, you said........

My point is this seems to penalize the remaining members because they are saddled with absorbing that person gains.

And Ira responded...........

Ira's description of what happens is factually correct. Where I differ with him is when he says it is not true that the remaining members are penalized. They are penalized. Paying additional taxes now, and getting those taxes back 20 years down the road is a penalty, no matter what value you put on use of money. Fortunately, that 'penalty' is overcome if you will pay members off with appreciated stock.

Rip West
Saint Paul, MN

Mail