Johnston v. Commissioner of Internal Revenue

In September 1982, the Maple Village partnership (the partnership) was formed as a limited liability partnership to purchase, own, and operate the Maple Village shopping center. The partnership’s initial capitalization was $100, consisting of $90 contributed by Robert Johnston (plaintiff) as a general partner and $10 contributed by the original limited partner. Once formed, 40 units of limited partnership interests were offered for sale at $200,000 per unit. Pursuant to the offering memorandum, Johnston would serve as the general partner. Johnston would not make a capital contribution; however, he would receive a 1 percent interest in the capital, profits, and losses of the partnership. Additionally, Johnston would receive a $30,000 fee for organizing the partnership. The partnership intended to sell 40 limited partnership interests to investors, who would become limited partners at the time of closing. In December 1982, the sale closed and the investors received their limited partnership interests. Immediately upon closing, the partnership leased the property to a third party to manage the shopping center. Upon an audit of Johnston’s 1982 income tax return, the commissioner of internal revenue (the commissioner) (defendant) determined that Johnston’s 1 percent interest in the capital of the partnership must be considered gross income. The commissioner calculated that Johnston’s 1982 gross income should include the fair market value of his 1 percent share of the partnership’s capital account. Furthermore, the commissioner determined that the value of Johnston’s 1 percent capital interest should be calculated at the time the limited partnerships interests were created and the capital interest was transferred to Johnston. Johnston challenged the commissioner’s determination and methodology in the United States Tax Court.