26 U.S.C. § 736 — Payments to a retiring partner or a de-

Page 1882 TITLE 26—INTERNAL REVENUE CODE § 735 Subsec. (b). Pub. L. 109–135, § 403(bb)(2), reenacted heading without change and amended introductory pro- visions generally. Prior to amendment, introductory provisions read as follows: ‘‘In the case of a distribu- tion of property to a partner, a partnership, with re- spect to which the election provided in section 754 is in effect or unless there is a substantial basis reduction, shall—’’. 2004—Pub. L. 108–357, § 833(c)(5)(A), substituted ‘‘Ad- justment to basis of undistributed partnership property where section 754 election or substantial basis reduc- tion’’ for ‘‘Optional adjustment to basis of undistrib- uted partnership property’’ in section catchline. Subsec. (a). Pub. L. 108–357, § 833(c)(1), inserted ‘‘or unless there is a substantial basis reduction’’ before pe- riod at end. Subsec. (b). Pub. L. 108–357, § 833(c)(2), inserted ‘‘or unless there is a substantial basis reduction’’ after ‘‘section 754 is in effect’’ in introductory provisions. Subsec. (d). Pub. L. 108–357, § 833(c)(3), added subsec. (d). Subsec. (e). Pub. L. 108–357, § 833(c)(4), added subsec. (e). 1984—Subsec. (b). Pub. L. 98–369 inserted at end ‘‘Paragraph (1)(B) shall not apply to any distributed property which is an interest in another partnership with respect to which the election provided in section 754 is not in effect.’’ Statutory Notes and Related Subsidiaries EFFECTIVE DATE OF 2005 AMENDMENT Amendment by Pub. L. 109–135 effective as if included in the provision of the American Jobs Creation Act of 2004, Pub. L. 108–357, to which such amendment relates, see section 403(nn) of Pub. L. 109–135, set out as a note under section 26 of this title. EFFECTIVE DATE OF 2004 AMENDMENT Pub. L. 108–357, title VIII, § 833(d)(3), Oct. 22, 2004, 118 Stat. 1592, provided that: ‘‘The amendments made by subsection (c) [amending this section] shall apply to distributions after the date of the enactment of this Act [Oct. 22, 2004].’’ EFFECTIVE DATE OF 1984 AMENDMENT Pub. L. 98–369, div. A, title I, § 78(b), July 18, 1984, 98 Stat. 597, provided that: ‘‘The amendment made by sub- section (a) [amending this section] shall apply to dis- tributions after March 1, 1984, in taxable years ending after such date.’’ § 735. Character of gain or loss on disposition of distributed property (a) Sale or exchange of certain distributed prop- erty (1) Unrealized receivables Gain or loss on the disposition by a dis- tributee partner of unrealized receivables (as defined in section 751(c)) distributed by a part- nership, shall be considered as ordinary in- come or as ordinary loss, as the case may be. (2) Inventory items Gain or loss on the sale or exchange by a dis- tributee partner of inventory items (as defined in section 751(d)) distributed by a partnership shall, if sold or exchanged within 5 years from the date of the distribution, be considered as ordinary income or as ordinary loss, as the case may be. (b) Holding period for distributed property In determining the period for which a partner has held property received in a distribution from a partnership (other than for purposes of sub- section (a)(2)), there shall be included the hold- ing period of the partnership, as determined under section 1223, with respect to such prop- erty. (c) Special rules (1) Waiver of holding periods contained in sec- tion 1231 For purposes of this section, section 751(d) (defining inventory item) shall be applied without regard to any holding period in sec- tion 1231(b). (2) Substituted basis property (A) In general If any property described in subsection (a) is disposed of in a nonrecognition trans- action, the tax treatment which applies to such property under such subsection shall also apply to any substituted basis property resulting from such transaction. A similar rule shall also apply in the case of a series of nonrecognition transactions. (B) Exception for stock in C corporation Subparagraph (A) shall not apply to any stock in a C corporation received in an ex- change described in section 351. (Aug. 16, 1954, ch. 763, 68A Stat. 247; Pub. L. 94–455, title XIX, § 1901(b)(3)(D), Oct. 4, 1976, 90 Stat. 1792; Pub. L. 98–369, div. A, title I, § 74(b), July 18, 1984, 98 Stat. 593; Pub. L. 105–34, title X, § 1062(b)(3), Aug. 5, 1997, 111 Stat. 947.) Editorial Notes AMENDMENTS 1997—Subsecs. (a)(2), (c)(1). Pub. L. 105–34 substituted ‘‘section 751(d)’’ for ‘‘section 751(d)(2)’’. 1984—Subsec. (c). Pub. L. 98–369 added subsec. (c). 1976—Subsec. (a)(1), (2). Pub. L. 94–455 substituted ‘‘as ordinary income or as ordinary loss, as the case may be’’ for ‘‘gain or loss from the sale or exchange of prop- erty other than a capital asset’’. Statutory Notes and Related Subsidiaries EFFECTIVE DATE OF 1997 AMENDMENT Amendment by Pub. L. 105–34 applicable to sales, ex- changes, and distributions after Aug. 5, 1997, but not applicable to any sale or exchange pursuant to a writ- ten binding contract in effect on June 8, 1997, and at all times thereafter before such sale or exchange, see sec- tion 1062(c) of Pub. L. 105–34, set out as a note under section 724 of this title. EFFECTIVE DATE OF 1984 AMENDMENT Pub. L. 98–369, div. A, title I, § 74(d)(2), July 18, 1984, 98 Stat. 594, provided that: ‘‘The amendment made by subsection (b) [amending this section] shall apply to property distributed after March 31, 1984, in taxable years ending after such date.’’ EFFECTIVE DATE OF 1976 AMENDMENT Amendment by Pub. L. 94–455 effective for taxable years beginning after Dec. 31, 1976, see section 1901(d) of Pub. L. 94–455, set out as a note under section 2 of this title. § 736. Payments to a retiring partner or a de- ceased partner’s successor in interest (a) Payments considered as distributive share or guaranteed payment Payments made in liquidation of the interest of a retiring partner or a deceased partner shall, Page 1883 TITLE 26—INTERNAL REVENUE CODE § 737 except as provided in subsection (b), be consid- ered— (1) as a distributive share to the recipient of partnership income if the amount thereof is determined with regard to the income of the partnership, or (2) as a guaranteed payment described in section 707(c) if the amount thereof is deter- mined without regard to the income of the partnership. (b) Payments for interest in partnership (1) General rule Payments made in liquidation of the inter- est of a retiring partner or a deceased partner shall, to the extent such payments (other than payments described in paragraph (2)) are de- termined, under regulations prescribed by the Secretary, to be made in exchange for the in- terest of such partner in partnership property, be considered as a distribution by the partner- ship and not as a distributive share or guaran- teed payment under subsection (a). (2) Special rules For purposes of this subsection, payments in exchange for an interest in partnership prop- erty shall not include amounts paid for— (A) unrealized receivables of the partner- ship (as defined in section 751(c)), or (B) good will of the partnership, except to the extent that the partnership agreement provides for a payment with respect to good will. (3) Limitation on application of paragraph (2) Paragraph (2) shall apply only if— (A) capital is not a material income-pro- ducing factor for the partnership, and (B) the retiring or deceased partner was a general partner in the partnership. (Aug. 16, 1954, ch. 736, 68A Stat. 248; Pub. L. 94–455, title XIX, § 1906(b)(13)(A), Oct. 4, 1976, 90 Stat. 1834; Pub. L. 95–600, title VII, § 701(u)(13)(B), Nov. 6, 1978, 92 Stat. 2918; Pub. L. 103–66, title XIII, § 13262(a), (b)(2)(B), Aug. 10, 1993, 107 Stat. 541.) Editorial Notes AMENDMENTS 1993—Subsec. (b)(3). Pub. L. 103–66, § 13262(a), added par. (3). Subsec. (c). Pub. L. 103–66, § 13262(b)(2)(B), struck out heading and text of subsec. (c). Text read as follows: ‘‘For limitation on the tax attributable to certain gain connected with section 1248 stock, see section 751(e).’’ 1978—Subsec. (c). Pub. L. 95–600 added subsec. (c). 1976—Subsec. (b)(1). Pub. L. 94–455 struck out ‘‘or his delegate’’ after ‘‘Secretary’’. Statutory Notes and Related Subsidiaries EFFECTIVE DATE OF 1993 AMENDMENT Pub. L. 103–66, title XIII, § 13262(c), Aug. 10, 1993, 107 Stat. 541, provided that: ‘‘(1) IN GENERAL.—The amendments made by this sec- tion [amending this section and section 751 of this title] shall apply in the case of partners retiring or dying on or after January 5, 1993. ‘‘(2) BINDING CONTRACT EXCEPTION.—The amendments made by this section shall not apply to any partner re- tiring on or after January 5, 1993, if a written contract to purchase such partner’s interest in the partnership was binding on January 4, 1993, and at all times there- after before such purchase.’’ EFFECTIVE DATE OF 1978 AMENDMENT Amendment by Pub. L. 95–600 applicable to transfers beginning after Oct. 9, 1975, and to sales, exchanges, and distributions taking place after Oct. 9, 1975, see sec- tion 701(u)(13)(C) of Pub. L. 95–600, set out as a note under section 751 of this title. § 737. Recognition of precontribution gain in case of certain distributions to contributing partner (a) General rule In the case of any distribution by a partner- ship to a partner, such partner shall be treated as recognizing gain in an amount equal to the lesser of— (1) the excess (if any) of (A) the fair market value of property (other than money) received in the distribution over (B) the adjusted basis of such partner’s interest in the partnership immediately before the distribution reduced (but not below zero) by the amount of money received in the distribution, or (2) the net precontribution gain of the part- ner. Gain recognized under the preceding sentence shall be in addition to any gain recognized under section 731. The character of such gain shall be determined by reference to the proportionate character of the net precontribution gain. (b) Net precontribution gain For purposes of this section, the term ‘‘net precontribution gain’’ means the net gain (if any) which would have been recognized by the distributee partner under section 704(c)(1)(B) if all property which— (1) had been contributed to the partnership by the distributee partner within 7 years of the distribution, and (2) is held by such partnership immediately before the distribution, had been distributed by such partnership to an- other partner. (c) Basis rules (1) Partner’s interest The adjusted basis of a partner’s interest in a partnership shall be increased by the amount of any gain recognized by such partner under subsection (a). For purposes of determining the basis of the distributed property (other than money), such increase shall be treated as occurring immediately before the distribution. (2) Partnership’s basis in contributed property Appropriate adjustments shall be made to the adjusted basis of the partnership in the contributed property referred to in subsection (b) to reflect gain recognized under subsection (a). (d) Exceptions (1) Distributions of previously contributed property If any portion of the property distributed consists of property which had been contrib- uted by the distributee partner to the partner-