In a real estate workout involving a partnership or limited liability company (LLC) interest consideration has to be given to either (i) conveying the interest to the creditors of the entity or (ii) abandoning the interest. The tax consequences of each action are considered below.
Conveying to Creditors
An involuntary or voluntary conveyance of the interest will generally involve the same tax consequences of such a conveyance at the partnership or LLC level. Where an individual partner is personally liable with respect to any indebtedness of the partnership (i.e., in the case of recourse debt), an involuntary conveyance of his interest will produce cancellation of indebtedness income (COD Income) to the extent his relief from liability exceeds the fair market value (FMV) of his interest. The partner may, however, be able to avail himself of either the bankruptcy or insolvency exceptions to COD Income found in Section 108 to exclude all or a part of the COD Income from his gross income.
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