## Facts

- W. Lyle Woodhall and his brother Eldon were equal partners in Woodhall Brothers, a lath-and-plaster contracting partnership using the cash method of accounting.
- The partners executed a written buy–sell agreement requiring that, upon the death of either partner, the partnership would terminate and the survivor would purchase the decedent’s partnership interest at a formula price, including a specified component for accounts receivable.
- Lyle died on January 20, 1964; his widow, Chrissie H. Woodhall, was sole heir and executrix.
- Pursuant to the agreement, Eldon purchased Lyle’s partnership interest, and Mrs. Woodhall received payments calculated under the formula, including amounts attributable to uncollected partnership accounts receivable that had not been taxed to Lyle during life.
- Mrs. Woodhall filed individual and fiduciary returns for 1964 and 1965 but did not report any portion of the buy–sell payments allocable to accounts receivable, asserting that the interest’s date-of-death basis equaled the sale price, producing no gain.
- The Commissioner determined deficiencies, treating the receivable-related portion of the payments as income in respect of a decedent (IRD) taxable when received.
- The Tax Court upheld the deficiencies; Mrs. Woodhall appealed.

## Issues

1. Whether amounts received for a deceased cash-basis partner’s share of unrealized partnership accounts receivable constitute IRD under I.R.C. § 691(a)(1), taxable as ordinary income to the estate and/or widow when received.
2. Whether the taxpayer may offset that income by a deduction reflecting the decedent’s share of unpaid partnership liabilities (accounts payable) incorporated into the buy–sell formula.

## Decision

- The Ninth Circuit affirmed the Tax Court.
- The portion of the buy–sell payments attributable to the decedent’s share of unrealized receivables was IRD under § 691(a)(1) and taxable as ordinary income when received.
- The taxpayer was not entitled to a deduction based on unpaid partnership liabilities where those liabilities were assumed and paid by the surviving partner, not by the estate or widow.

## Legal Principles

- IRD under I.R.C. § 691(a)(1) includes amounts “earned” or accrued by the decedent before death that were not included in the decedent’s income due to the decedent’s accounting method and that are later received by the estate or beneficiaries.
- For a cash-basis partner, outstanding partnership accounts receivable at death represent pre-death income items that remain taxable as IRD when realized through post-death payments measured by those receivables.
- Structuring the transfer through a partnership-termination buy–sell purchase does not convert the receivable component into nonrecognition recovery of basis or capital gain; the receivable-related portion retains ordinary-income treatment as IRD.
- Basis step-up rules at death do not eliminate taxation of IRD items; IRD is carved out from full basis step-up effects to prevent exclusion of untaxed income.
- A deduction for partnership liabilities requires an expense or payment by the taxpayer; liabilities assumed and discharged by the surviving partner do not generate a deductible item for the estate or widow.

## Conclusion

The court held that payments to a deceased cash-basis partner’s estate or widow attributable to unrealized partnership receivables are taxable as IRD under § 691(a)(1) as ordinary income when received, and it rejected any offsetting deduction for partnership liabilities paid by the surviving partner.


Woodhall v. Comm’r, 454 F.2d 226 (9th Cir. 1972)