## Facts

- A Georgia law partnership admitted additional partners over time and operated under a written partnership agreement that provided procedures for liquidating a partner’s interest upon withdrawal.
- Effective December 31, 1966, three partners withdrew from the firm pursuant to the partnership agreement’s withdrawal provisions.
- In connection with the withdrawals, the continuing partnership issued each withdrawing partner a promissory note and relieved each of his share of partnership indebtedness (including bank and leasing obligations).
- During 1967, the continuing partnership paid the notes and paid the assumed indebtedness attributable to the withdrawing partners.
- The continuing partners treated the amounts paid to (and on behalf of) the withdrawing partners as liquidating payments under I.R.C. § 736(a) and deducted the payments in computing the partnership’s 1967 taxable income.
- The Commissioner recharacterized the transaction as a sale or exchange of partnership interests under I.R.C. § 741 and disallowed the partnership-level deductions, resulting in income tax deficiencies for the partners for 1967.

## Issues

1. Whether the partners’ withdrawal, implemented under the partnership agreement and funded by partnership notes and liability relief, was a liquidation of partnership interests governed by I.R.C. § 736 or a sale or exchange governed by I.R.C. § 741.
2. If governed by § 736, whether the payments made to and on behalf of the withdrawing partners were deductible by the partnership in computing its 1967 taxable income.

## Decision

- The Tax Court held the withdrawals constituted a liquidation of the withdrawing partners’ interests under I.R.C. § 736, not a sale under § 741.
- The court held the payments made to and on behalf of the withdrawing partners were deductible by the partnership in computing its taxable income for 1967.
- The court rejected the Commissioner’s recharacterization and reduced the asserted deficiencies accordingly.

## Legal Principles

- Payments made by a partnership to a retiring or withdrawing partner in liquidation of the partner’s interest are governed by I.R.C. § 736 when the transaction is carried out as a partnership-level liquidation under the partnership agreement.
- I.R.C. § 741 generally governs sales or exchanges of partnership interests; it does not control when the facts show a partnership liquidation of a withdrawing partner’s interest rather than an arm’s-length transfer to identified purchasing partners.
- Partnership-issued promissory notes and partnership assumption or discharge of a withdrawing partner’s share of partnership liabilities support characterization as a partnership liquidation under § 736.
- To the extent payments are treated under § 736(a) (including amounts attributable to unrealized receivables under the statute and regulations), they may be deductible by the partnership in computing taxable income.

## Conclusion

The Tax Court classified the partners’ departure as a § 736 liquidation implemented at the partnership level under the partnership agreement, allowing the partnership to deduct 1967 payments made to and for the withdrawing partners and rejecting § 741 sale treatment.


Cooney v. Commissioner, 65 T.C. 101 (1975)