United States

Partnership interest abandonment or worthlessness

Assessing the potential for an ordinary loss


A partner may own a partnership interest that becomes worthless (or nearly worthless). In these situations, it may be impossible to find someone to purchase or take the interest, and the partner is tempted to just “walk away” from the partnership. To the extent the partner has remaining adjusted basis in his partnership interest, he may be allowed a loss under section 165(a) for an abandonment or because the interest is worthless. Several factors must be considered in order for the taxpayer to properly deduct such a loss, including the following:

  • Establishing the abandonment or worthlessness of the interest
  • Identifying the proper year of deduction
  • Determining the character of the loss as ordinary or capital

Claiming a deduction

Section 165(a) allows a loss that is not recovered through insurance or some other means of compensation to be deducted in the year sustained. Reg. section 1.165-1 indicates that a loss is treated as sustained during the year that the loss occurs “… as evidenced by closed and completed transactions and as fixed by identifiable events occurring in such taxable year.” Reg. section 1.165-2 allows a deduction for the obsolescence of non-depreciable property. The loss incurred must 1) relate to a business or a transaction entered into for profit, 2) arise from a sudden termination of the usefulness of the property, and 3) be associated with either the discontinuance of the business or transaction or the permanent discarding of the property (e.g., abandonment) from use in the business. This provision does not apply to losses that are sustained upon the sale or exchange of the property.

Establishing partnership interest abandonment

In order for a taxpayer to establish the abandonment of an asset, he must show intent to abandon the asset and overtly act to abandon it. The partner should claim an abandonment loss in the year that he has intent to abandon the partnership interest and overtly communicates his intent to interested third parties (the other partners) his decision to walk away.1 In some states withdrawal from a partnership is allowed only where provided in the partnership agreement. 

Establishing partnership interest worthlessness

Although certain steps must be taken to establish an abandonment loss, there is some support that these steps are not necessary for establishing a deduction for a worthless asset. In Echols v. Commissioner, the court of appeals looked to the taxpayer’s subjective determination of worthlessness as “largely a judgment call by a taxpayer based on his own particular, highly personal set of economic factors, including tax effects.”2 The fact that other investors might have determined that the partnership interest was worthless in an earlier year or that other investors might be willing to hold on to the interest and infuse cash were not factors in determining the worthlessness of the partnership interest specific to the taxpayer. Nevertheless, it is prudent to do as much as possible to establish the worthlessness of the partnership interest.

Characterizing the loss

A loss is realized when a partner receives less than his basis in the partnership interest. Rev. Rul. 93-80 addresses the loss incurred on the abandonment of a partnership interest.3 The ruling refers to Reg. section 1.165-2 and states that absent a sale or exchange, a loss from the abandonment or worthlessness of non-depreciable property is an ordinary loss even if the abandoned or worthless asset is a capital asset (such as a partnership interest).4

The ruling focuses on two situations in which partners abandon their interests in insolvent partnerships. In the first situation, the general partner abandons his partnership interest in which there are nonrecourse liabilities in which he shares. Section 752 treats the decrease in the partner’s liabilities as a distribution of money such that the loss is governed by section 731. This results in the loss being considered a loss on the disposition of the partnership interest, which is deemed to be a sale or exchange of a capital asset under section 741. Therefore, ordinary loss treatment is unavailable if the partner is relieved of any liabilities as a result of his abandonment. Even a de minimis actual or deemed distribution makes the entire loss a capital loss. Additionally, payments made to the partner from other partners would be viewed as consideration and cause the abandonment to be treated as a sale or exchange.

The second situation involves a limited partner who properly abandons his partnership interest. At the time of the abandonment, the limited partner did not share in any liabilities of the partnership. Therefore, the limited partner did not receive any money or property upon leaving the partnership. In this instance, section 731 does not apply, and an ordinary loss under section 165(a) was allowed as no sale or exchange occurred.

Passive losses triggered

Section 469(g) provides that suspended passive losses are triggered upon the ultimate disposition of the taxpayer’s entire interest in a passive activity. The Conference Committee Report for the 1986 Act treats abandonment as a sale for this purpose. However, it is silent as to the worthlessness of an asset other than a security issued by a corporation. Therefore, the date of disposition for section 469(g) purposes, regarding the worthlessness of a partnership interest, is not clear. In Echols, the worthlessness of a partnership interest resulted in a sale or exchange in the same manner as an abandonment. Thus, the situations appear to be analogous such that suspended passive losses would be triggered upon the establishment of the worthlessness of a partnership interest.


Careful consideration must be taken by a partner to establish a worthlessness or abandonment loss on a partnership interest. Overt steps must be taken to establish abandonment, and detailed documentation must be provided to establish worthlessness. To the extent the partner receives any consideration for his partnership in the form of monies or relief from liabilities, the abandonment or worthlessness will be treated as a sale or exchange subject to capital loss treatment. It appears the absence of these factors should result in an ordinary loss under section 165(a).

1 Echols v. Commissioner, 935 F2d 703 (5th Cir. 1991). See also Citron v. Commissioner, 97 TC 200 (1991).2 Echols v. Commissioner, 935 F2d 703 (5th Cir. 1991).3 1993-2 C.B. 239.4 Initial concerns that section 1234A (enacted after Rev. Rul. 93-80) might require a contrary conclusion were recently laid to rest. Pilgrim’s Pride v. Commissioner, 690 F3d 650(5th Cir 2015).


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