## Facts

- John H. Otey, Jr. inherited Nashville real property in 1963 with a reported value (and basis) of $18,500; title was held with his wife.
- In 1971, Otey and Marion Thurman agreed to develop the property into a 65-unit FHA-insured apartment project and formed a partnership, Court Villa Apartments, with Thurman to build and Otey to manage.
- On December 30, 1971, the Oteys deeded the property to the partnership when its fair market value was about $65,000.
- On January 11, 1972, a bank made an $870,300 construction loan to the partnership, secured by the property; Otey and Thurman were jointly and severally liable.
- From loan proceeds, the partnership paid Otey about $64,750, roughly equal to the property’s value at transfer.
- Otey reported the transfer as a capital contribution and the payment as a current partnership distribution, asserting sufficient basis from his share of partnership liabilities and reporting no gain.
- The Commissioner determined the payment was consideration for a sale of the property to the partnership, affecting the computation of a 1972 net operating loss and its carryback to 1969–1971.

## Issues

1. Whether the partnership’s $64,750 payment to Otey after the property transfer was consideration for a sale or a distribution following a capital contribution.
2. Whether the transaction’s tax consequences were governed by partnership contribution and distribution rules (including I.R.C. §§ 721 and 731), thereby affecting the taxpayers’ 1972 net operating loss carryback.

## Decision

- The Tax Court held the transaction was not a sale of the property to the partnership.
- The court characterized the events as a capital contribution of property to the partnership followed by a current distribution of $64,750 to Otey.
- The court applied the partnership contribution and distribution provisions (including §§ 721 and 731), rather than treating the payment as sale proceeds producing immediate gain.
- The resulting deficiency and net operating loss computations were left for entry under Tax Court Rule 155.

## Legal Principles

- A partner’s transfer of property to a partnership formed to carry out a joint project can qualify as a nonrecognition contribution under I.R.C. § 721 when the surrounding facts show capitalization of a co-venture rather than an arm’s-length sale.
- Whether a contemporaneous payment to the contributing partner is sale consideration or a partnership distribution depends on the transaction’s substance, including the parties’ intent, the integrated nature of formation/transfer/financing, and the partner’s continuing economic risk.
- When the partnership funds a payment to the contributing partner using debt for which the partner remains personally liable, the payment may be treated as a current distribution analyzed under I.R.C. § 731 (with basis effects from partnership liabilities), not as proceeds from a taxable sale.

## Conclusion

The Tax Court treated Otey’s transfer of real estate to a newly formed development partnership and the partnership’s later cash payment to him as a § 721 contribution followed by a § 731 distribution, not a sale, requiring recomputation of the taxpayers’ net operating loss carryback consistent with that characterization.


Otey v. Commissioner, 70 T.C. 312 (1978)