What does built-in loss mean on the CPA exam?
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Built-in loss. Loss that already existed in property before it changed hands, measured at the transfer date. Special rules stop it being shifted to a different taxpayer.
Defined against Sec. 704(c)(1)(C).
Worked example
Ana puts land into a new partnership: her basis is $120,000, but it is worth only $80,000 on the day she contributes it. Ben puts in $80,000 of cash, and the two split every item 50/50. In Year 4 the partnership finds an unrelated buyer and takes $70,000 for the land.
How is the partnership's tax loss on the sale divided between Ana and Ben?
| Total tax loss on the sale120,000 - 70,000 | 50,000 |
| Built-in loss at contribution, which belongs to Ana alone120,000 - 80,000 | 40,000 |
| Loss that arose inside the partnership, measured from the land's $80,000 value80,000 - 70,000 | 10,000 |
| Each partner's half of the post-contribution loss10,000 / 2 | 5,000 |
| Ana's total loss40,000 + 5,000 | 45,000 |
Answer: Ana is allocated $45,000 of the loss and Ben $5,000. For every partner except Ana, the land is treated as having a basis equal to its $80,000 value at contribution.
The trap: Splitting the whole $50,000 equally, which would hand Ben $20,000 of a loss Ana suffered before the partnership owned the land. A built-in loss can benefit only the partner who contributed the property.
Based on IRC Sec. 704(c)(1)(C).
Which CPA exam sections use built-in loss?
Built-in loss appears in the TCP section of the CPA exam.
Related terms
- excess business loss: The amount by which a noncorporate taxpayer's aggregate business deductions exceed business income plus a threshold.
- acquisition-date fair value: What something was worth on the day control changed hands.
- capital loss: Loss on the sale of a capital asset.
- disallowed loss: A loss the Code refuses to let you deduct, typically on a sale to a related person or a wash sale.
- ordinary loss: A loss deductible against ordinary income without the capital loss limits.
- balance sheet date: The last day of the reporting period.