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Taxlink                       08/14 15:23

   Breaking Up Is Hard to Do

   Farming in a partnership or S corporation may add complexity (and tax) when 
you transition out. Here are some things to consider.

Rod Mauszycki
DTN Tax Columnist

   I've had conversations with several clients recently. Because of the stress 
and uncertainty, they would like to transition out of farming.

   Sometimes, this means transitioning to the next generation, and sometimes, 
it means selling off inventory/equipment and collecting rent checks. If you 
farm as a sole proprietor, it's relatively easy. However, in many cases, family 
members farm together. Farming in a partnership or S corporation may add 
complexity (and tax) when you transition out. Although this is a very complex 
topic, I will briefly touch upon four scenarios to illustrate potential issues.


   In some instances, only one member of an LLC may want to exit. There are 
multiple ways to structure the exit, including distribution of assets, purchase 
of LLC interest or redemption of LLC interest. The trap goes back to debt and 
the dreaded negative capital account. If the exiting member is relieved of 
debt, he or she may experience forgiveness of debt income.

   If the exiting member had a negative capital account, it may trigger 
unexpected (and substantial) taxable income.


   When liquidating, the LLC may distribute certain assets to members or sell 
all assets and distribute the proceeds. In some cases, because of debt or 
inaccurate accounting, the members may be left with a negative capital account. 
In that case, they must contribute cash to the LLC or pick up phantom income in 
order to get the negative capital account back to $0. There also is the issue 
of liquidating distributions that must be in accordance with capital accounts. 
Therefore, one member may get more money from liquidating distributions.


   S corporations are more restrictive than LLCs and may cause more issues. If 
there are assets the exiting shareholder wants, the S corp can either sell them 
to the shareholder or distribute the assets. In either case, the S corp must 
treat it as a sale of assets at fair market value (however, a loss would not be 
realized), and shareholders must recognize the gain. Also, remember that in an 
S corp, there must be proportionate distributions. So, distributions of cash or 
assets to the exiting shareholder must be closely examined.


   Sometimes, the best solution is to liquidate the S corp and part ways. If 
liquidation includes distribution of certain assets to shareholders, the 
distribution is treated as a sale, and gain must be recognized. It is important 
to liquidate and dissolve the S corp in the same year. That way, if there is 
any basis remaining, the shareholders could take a capital loss on their tax 
return to hopefully offset some gain.

   I just skimmed the surface and avoided discussing C corp spin or splits. 
Exiting or liquidating an LLC or S corp is not as easy as most people think. 
With a little time and planning, your CPA can help you mitigate the tax issues.


   DTN Tax Columnist Rod Mauszycki, J.D., MBT, is a tax principal with CLA 
(CliftonLarsonAllen) in Minneapolis, Minnesota. Read Rod's "Ask the Taxman" 
column at You may email Rod at

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