2023 Tax Reporting for Sale of Partnership Interest

Gain from the sale of a partnership interest is generally characterized as capital gain. However, a portion of the capital gain can be recharacterized as ordinary income (under section 751(a)) if the partnership holds certain ordinary income assets.

Common examples of these types of ordinary income assets include:

• Depreciation recapture
• Inventory
• Unrealized receivables (among others)

Traditionally, a partnership files IRS Form 8308 to report a partnership interest sale with an ordinary income component. The IRS released an updated Form 8308 for the 2023 tax year materially different from prior versions.

Updated Form 8308

The prior Form 8308 generally required the partnership to provide the names and addresses of both the selling and purchasing partners.

The new Form 8308 still requires the partnership to disclose the seller’s and buyer’s information while also asking for additional items, including:

• The so-called “beneficial owner” of the transferred partnership interest both before and after the sale. Although no definition of “beneficial owner” is provided, presumably, this means the owner of an entity disregarded from its owner for tax purposes, like a wholly owned LLC or a grantor trust.
• The type of partnership interest transferred (Capital, Preferred, Profits, or Other).
• The selling partner’s share of ordinary income (based upon the gain that would be allocated to that partner if the partnership assets were sold).

A partnership must file a separate Form 8308 for each sale of a partnership interest involving ordinary income recharacterization.

Importantly, partnerships are required to furnish a copy of Form 8308 to each transferor and transferee partner by January 31 of the year following the year of the exchange. For example, if a partnership interest sale occurred in 2023 involving ordinary income recharacterization, Form 8308 must be furnished by January 31, 2024.

This January 31 due date puts pressure on affected partners to provide the necessary information to a partnership in a timely fashion (for instance, notifying the partnership of a sales transaction and providing the names and addresses of the transferor and transferee). Penalties can apply for a failure to timely furnish correct Forms 8308.

A partnership must also include with its timely filed Form 1065 any Forms 8308.

Impacts of the New Form 8308

This new Form 8308 is part of a larger IRS initiative requiring partnerships to disclose more information when filing tax returns. The possibility of penalties, combined with the January 31, 2024, due date, should encourage any partner who sold or purchased a partnership interest to provide prompt notice to the relevant partnership to allow the partnership to timely furnish and file Form 8308.