How to calculate step-up basis for a 50/50 partnership when one partner dies

I'm sorry about your partner's passing. For a 50/50 partnership with a step-up in basis election, you'll need to apply Section 754 and Section 743 of the tax code. Here's how it typically works: First, calculate the difference between the fair market value ($680,000) and the current basis ($350,000), which is $330,000. Since the deceased partner owned 50%, their portion of this increase would be $165,000 (50% of $330,000). This $165,000 is the step-up adjustment that applies only to the deceased partner's interest, which is now held by their estate or heirs. The partnership's "inside basis" for the property remains $350,000 for partnership purposes, but the deceased partner's successor gets a "special basis adjustment" of $165,000. This means when the property is sold or depreciated, the successor will have different tax consequences than you will.

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To add to what others have said about the step-up calculation, don't forget to consider state tax implications! Depending on your state, the rules for step-up basis in partnerships might not perfectly align with federal treatment. For example, California has some specific provisions regarding step-up basis that can differ from federal rules. In my experience, this is something many accountants overlook until it's time to file state returns, and by then it can be too late to plan properly.

One practical thing to consider - are you planning to continue the business with Tony's heirs? If they inherited his 50% interest, you should review your operating agreement ASAP. Many partnership agreements have buy/sell provisions that trigger upon death. This could impact whether you even need to worry about the step-up basis if you're required to buy out their interest at the agreed value.

I'm sorry for your loss, Chris. This is a complex situation that requires careful planning beyond just the tax implications. One important point that hasn't been mentioned yet - you'll want to determine Tony's basis in his partnership interest at the time of death. His heirs will receive a stepped-up basis in their inherited partnership interest equal to the fair market value of that interest ($340,000 based on the 50% share of the $680,000 property value). However, this is separate from the partnership's election under Section 754. The stepped-up basis for the heirs applies to their partnership interest, while the Section 754 election creates a special basis adjustment for the partnership's assets. Also, consider the timing carefully. You have until the due date of the partnership return (including extensions) for the year of Tony's death to make the Section 754 election. But as others mentioned, check your operating agreement first - there may be mandatory buyout provisions that could change your entire approach. Given the complexity and the significant dollar amounts involved, I'd strongly recommend consulting with a tax professional who specializes in partnership taxation before making any elections or decisions.