How Income Is Shared Among
Partners
Allocate shares of income, gain, loss,
deduction, or credit among the partners
according to the partnership agreement for
sharing income or loss generally. Partners
may agree to allocate specific items in a ratio
different from the ratio for sharing income or
loss. For instance, if the net income
exclusive of specially allocated items is
divided evenly among three partners but
some special items are allocated 50% to
one, 30% to another, and 20% to the third
partner, report the specially allocated items
on the appropriate line of the applicable
partner's Schedule K-1 and the total on the
appropriate line of Schedule K, instead of on
the numbered lines on page 1 of Form 1065,
Form 1125-A, or Schedule D.
If a partner's interest changed during the
year (such as the entrance of a new partner,
the exit of a partner, an increase to a
partner's interest through an additional
capital contribution, or a decrease in a
partner's interest through a distribution), see
section 706(d) and Regulations section
1.706-4 before determining each partner's
distributive share of any item of income,
gain, loss, and deduction, and other items.
Partnership items are allocated to a partner
only for the part of the year in which that
person is a member of the partnership.
Generally, for each change in a partner’s
interest, the partnership will either allocate its
items using a proration method or a
closing-of-the-books method. Special rules
apply to certain partnerships, certain
variations, and certain items. See
Regulations section 1.706-4 for additional
rules and procedures for making elections. In
addition, special rules in section 706(d)(2)
apply to certain items of partnerships that
report their income on the cash basis, and
special rules in section 706(d)(3) apply to
tiered partnerships.
Special rules on the allocation of income,
gain, loss, and deductions generally apply if
a partner contributes property to the
partnership and the FMV of that property at
the time of contribution differs from the
contributing partner's adjusted tax basis.
Under these rules, the partnership must use
a reasonable method of making allocations
of income, gain, loss, and deductions from
the property so that the contributing partner
receives the tax burdens and benefits of an
built-in gain or loss (that is, precontribution
appreciation or diminution of value of the
contributed property). See Regulations
section 1.704-3 for details on how to make
these allocations, including a description of
specific allocation methods that are generally
reasonable.
See Dispositions of Contributed Property,
earlier, for special rules on the allocation of
income, gain, loss, and deductions on the
disposition of property contributed to the
partnership by a partner.
If the partnership agreement doesn't
provide for the partner's share of income,
gain, loss, deduction, or credit, or if the
allocation under the agreement doesn't have
substantial economic effect, the partner's
share is determined according to the
partner's interest in the partnership. See
Regulations section 1.704-1 for more
information.
