40.3 TCP Basis Planning and Entity Drill
Key Takeaways
- TCP drills should start with taxpayer, entity, transaction, property, timing, and relationship classification before any calculation.
- Basis schedules are the backbone of partnership, S corporation, property disposition, loss limitation, and distribution questions.
- Planning answers must compare alternatives using tax character, timing, recognition, basis recovery, and cash-flow consequences.
- Entity drills should separate C corporation, S corporation, partnership, trust, and individual rules before applying shared tax vocabulary.
- A TCP review log should identify whether the miss was basis ordering, character, limitation, nonrecognition, or planning conclusion.
TCP workbook drill: basis, planning, and entity choice
Tax Compliance and Planning (TCP) is the discipline section for candidates who expect to specialize in taxation. It is four hours long, contains 68 multiple-choice questions across two testlets plus 7 task-based simulations across three testlets, and weights MCQs and simulations 50/50 toward the 75-point passing score. TCP practice should begin before the calculator.
The discipline is full of facts that look similar but lead to different results: a partner receives a distribution, an S corporation shareholder deducts a loss, a C corporation distributes appreciated property, an individual sells Section 1231 property, or an owner compares entity choices. Compute before classifying and you may build the right schedule for the wrong taxpayer.
The TCP five-step workflow
- Classify the taxpayer and entity: individual, C corporation, S corporation, partnership, trust, tax-exempt organization, owner, or beneficiary.
- Classify the transaction: formation, contribution, distribution, sale, liquidation, reorganization, loss deduction, or planning alternative.
- Build basis: outside basis, stock basis, debt basis, inside basis, asset basis, at-risk amount, or adjusted basis.
- Determine the tax result: realized amount, recognized gain or loss, deferred gain, suspended loss, deduction, or taxable distribution.
- Assign character and planning effect: ordinary, capital, Section 1231, depreciation recapture, dividend, return of capital, self-employment effect, cash-flow timing, or compliance risk.
Basis drill table
| Setting | Basis focus | Common trap | Drill action |
|---|---|---|---|
| Partnership contribution | Outside basis and liability shifts | Ignoring debt relief as deemed money | Track contributed basis and liability allocation |
| Partnership loss | Outside basis, at-risk, passive limits | Deducting a loss after basis reaches zero | Apply limits in order and suspend the excess |
| S corporation loss | Stock basis then debt basis | Treating a bank loan guarantee as debt basis | Separate direct shareholder loans from corporate borrowing |
| C corporation distribution | Corporate gain and shareholder dividend treatment | Forgetting gain on appreciated property distribution | Compute corporate-level gain first |
| Property sale | Adjusted basis and amount realized | Treating all gain as capital | Test recapture and Section 1231 character |
Partnership and S corporation basis drill
For partnerships, draw two boxes: partner outside basis and partnership inside basis. Contributions generally carry over basis. Liabilities increase or decrease outside basis as the partner's share shifts; relief of debt is treated as a deemed cash distribution. Distributions reduce basis, create gain when money exceeds basis, and otherwise carry over basis to distributed property under the ordering rules.
For S corporations, build shareholder stock basis separately from debt basis. Stock basis rises for contributions and pass-through income, then falls for distributions, nondeductible expenses, and losses. Losses absorb stock basis first, then qualifying shareholder debt basis. A bank loan the shareholder merely guarantees does not create debt basis without an actual economic outlay. The ordering matters: increase for income items, decrease for distributions, then decrease for losses and deductions.
Property character drill
After computing realized gain, pause. TCP often tests whether gain is recognized now, deferred, or partly recaptured. Section 1245 property converts gain to ordinary income up to depreciation taken. Real property can trigger unrecaptured Section 1250 gain taxed up to 25 percent. Like-kind exchanges (real property only, after the 2017 changes), involuntary conversions, installment sales, and related-party rules change timing or character. Write three labels under every disposition: realized, recognized, character. If all three are not filled in, the answer is not finished.
Planning comparison drill
Planning questions are tax comparisons, not opinion essays. When asked to recommend an entity structure, disposition date, compensation method, retirement contribution, charitable gift, or distribution strategy, build a two-column table: Alternative A and Alternative B. Compare income inclusion, deduction timing, basis effect, employment tax or self-employment tax (an S corporation can save self-employment tax on distributions but requires reasonable compensation), owner-level cash flow, and compliance complexity. Then choose the alternative that best fits the stated objective.
Fifteen-minute TCP entity case
Use one integrated fact pattern: an owner contributes appreciated equipment and cash, the entity earns income, borrows money, distributes cash, and sells an asset. Solve it first as a partnership, then as an S corporation, then write three planning differences. This exposes the rules candidates confuse most: liability basis, shareholder debt basis, property distributions, loss limits, and character. Log misses by rule family, not by page number, and retest the same family within forty-eight hours.
High-yield TCP rules and traps
TCP rewards precise recall of recurring rules. Rehearse the following until you can recite them without notes:
- Loss-limitation ordering. Pass-through losses pass three gates in sequence: basis (stock then debt for S corporations; outside basis for partners), then the at-risk rules, then the passive activity loss rules. A loss can clear basis yet still be suspended at-risk or as passive. Skipping a gate is the single most common TCP error.
- Nonliquidating partnership distribution. Cash reduces outside basis first; gain is recognized only when cash exceeds basis. Distributed property takes a carryover basis limited to the partner's remaining outside basis, and no loss is recognized on a nonliquidating distribution.
- C corporation distribution of appreciated property. The corporation recognizes gain as if it sold the property at fair market value (Section 311(b)); the shareholder reports a dividend to the extent of earnings and profits, then a return of capital, then capital gain.
- Qualified business income (QBI) deduction. Up to 20 percent of qualified business income from pass-throughs, subject to taxable-income thresholds, wage and unadjusted-basis limits, and a phase-out for specified service trades or businesses. Watch the threshold facts in the exhibit.
- Related-party loss disallowance (Section 267). A loss on a sale to a related party is disallowed, but the buyer may use the disallowed loss to offset later gain on resale.
- Like-kind exchange scope. After 2017, Section 1031 applies only to real property held for business or investment; equipment exchanges no longer qualify and produce recognized gain.
When a drill miss involves one of these rules, do not just reread the explanation. Rebuild the schedule from a blank page, write the rule in one sentence at the top, and only then plug numbers. TCP simulations punish memorized answers that are not reconstructed from the governing rule, because the exhibit facts shift just enough to make a recalled number wrong while the underlying rule stays the same.
A shareholder guarantees an S corporation bank loan but does not lend money directly to the corporation. For TCP loss-basis purposes, what is the usual treatment?
A TCP property drill has computed realized gain on equipment used in a business. What should the candidate do before treating the gain as long-term capital gain?