An Overview of the §754 Election
Understanding the §754 election is essential for practitioners working with partnerships
When a partner in a partnership dies, the successor’s outside basis in the partnership interest resets to the fair market value (FMV) on the date of death under §1014(a). Similarly, when a partner in a partnership sells their partnership interest, the new owner’s outside basis in the partnership interest is the purchase price under §1012(a), plus the new partner's share of partnership liabilities under §752(a).
These changes typically result in a basis disconnect, since the partnership’s inside basis in its assets remains unchanged when these events occur. The §754 election exists to align the inside and outside basis amounts in these circumstances.
Consequences of the §754 Election
A §754 election triggers two basis adjustment regimes:
§743(b) applies to transfers of a partnership interest by sale or exchange or upon the death of a partner. This adjustment is partner-specific: it adjusts the basis of partnership property only with respect to the transferee partner, so the buyer or estate benefits (or is burdened) without affecting the other partners.
§734(b) applies to all remaining partnership property following certain distributions to a partner. Unlike §743(b), this adjustment changes the common basis of partnership property for all partners. A distribution triggers a §734(b) adjustment only if a partner recognizes gain or loss under §731(a) (e.g., a cash distribution in excess of outside basis) or if distributed property takes a basis in the partner's hands different from the partnership's basis in that property.
Typically, the goal of a §754 election is to increase the partnership’s inside basis in its assets to their FMV; however, the partnership’s inside basis in those assets can also decrease as a result of the election.
There is an often-overlooked opportunity here: the election can create amortizable basis in the partnership's §197 intangibles, including self-created goodwill in which the partnership has no basis. Under Treas. Reg. §1.755-1(a)(5), if the partnership's gross value exceeds the aggregate value of its assets other than §197 intangibles, the excess is treated as the value of the §197 intangibles, which is assigned first to identifiable intangibles (capped at their FMV) with any remainder assigned to goodwill and going concern value, and the basis adjustment is allocated accordingly.
A §743(b) adjustment allocated to §197 intangibles is amortizable over 15 years, subject to the anti-churning rules of §197(f)(9); those rules generally do not apply where the transferee is unrelated to the transferor.
§754 Election Example
David buys Alice’s one-third interest in partnership ABC for $500,000 when the partnership’s total basis in its assets is $900,000. Immediately after the sale, David’s outside basis in his partnership interest is $500,000, but his proportionate share of the partnership's inside basis in its assets is only $300,000.
If a §754 election is made or is in effect, the partnership makes a $200,000 positive §743(b) basis adjustment with respect to David. To the extent the adjustment is allocated to depreciable or amortizable property, the increased basis is treated as newly purchased recovery property placed in service on the date of the transfer. David recovers it over a new recovery period rather than the partnership's remaining period, and the adjustment can qualify for §168(k) bonus depreciation. See Treas. Reg. §1.743-1(j)(4)(i)(B)(1).
If a §754 election is not in effect, David will typically recover that $200,000 difference only through outside basis when he disposes of the partnership interest.
Making and Revoking the §754 Election
To make the §754 election, the partnership attaches a written statement to a timely filed return, including extensions, for the tax year in which the transfer or distribution occurs. Treas. Reg. §1.754-1(b)(1) requires the statement to contain the partnership’s name, address, and a declaration that the partnership elects to apply §734(b) and §743(b) under §754. For tax years ending on or after August 5, 2022, no partner signature is required; Treasury Decision 9963 removed the signature requirement.
If a partnership does not make a timely §754 election, Treas. Reg. §301.9100-2(a)(2)(vi) provides for an automatic 12-month extension from either the original or extended due date (if an extension was filed). The partnership must put “FILED PURSUANT TO §301.9100-2” at the top of the corrective filing: an original return if not yet filed, or an amended return or AAR (Form 1065-X for paper filers; Form 8082 for electronically filed returns).
After that window, relief requires a private letter ruling under Treas. Reg. §301.9100-3. Private Letter Ruling 202531008 is an example of this relief.
Once made, the §754 election applies to all transfers and distributions in the election year and every subsequent year. The partnership can revoke a §754 election under Treas. Reg. §1.754-1(c) if it receives IRS permission using Form 15254, Request for Section 754 Revocation. The IRS has a frequently asked questions (FAQ) page on §754 that covers the mechanics of §754 revocation.
Treas. Reg. §1.754-1(c) states that the IRS will not approve a §754 election revocation when its purpose is primarily to avoid stepping down the basis of partnership assets upon a transfer or distribution.
Adjustments Without a §754 Election
Even with no §754 election in effect, a §743(b) adjustment is required on a transfer if the partnership has a substantial built-in loss — where inside basis exceeds fair market value by more than $250,000, or, for transfers after December 31, 2017, where the transferee would be allocated a net loss of more than $250,000 on a hypothetical sale of all assets at fair market value.
Similarly, a downward §734(b) adjustment is required when a distribution produces a substantial basis reduction exceeding $250,000.
If no §754 election was in effect for the transfer year, §732(d) provides a partner-level fallback: a partner who receives a distribution of partnership property within two years of acquiring their partnership interest by transfer can elect to treat the distributed property as though the §743(b) adjustment had been in effect. This election applies only to the distributed property, and does not affect the partnership’s property.
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