Taxes on sponsor cash flow

[Evan Hyde]

Question for the RE CPA's: 

If I have a deal where I am the sponsor and invest no equity, while my investors invest 100% of the equity, and we agree to split cash flows (let's say 50/50). 

Our first cash distribution comes out and I receive 50% of the cash. How is this characterized on my K1? One scenario where I pay no tax because I get a share of the depreciation, in which case my basis in the deal goes from zero to negative. This seems like the aggressive approach. Is this a legitimate way to complete a K1 under this structure?

Another scenario is that I get a distribution in excess of basis (which stays at zero because 100% of depreciation loss flows to the equity), in which case I believe I would owe ordinary income rate on my cash distribution. 

Under the second scenario, is there an interpretation where the IRS could say I have now "earned" 50% of the initial equity basis (thus triggering a big tax bill)? I would not expect this to happen, because I would argue that the initial basis is still at risk, and if the deal sells for a loss, the first priority would be to pay back the investors actual cash investment.  

How to the CPA's out there like to characterize this cash flow? 

[Michael Plaks]

@Evan Hyde

I cannot tell how much you know about partnership taxation, but you do not "complete K1s." They are a by-product of completing a tax return, with a lot of variables involved. And you do not simply "split cash" - it is more complicated than that.

Partnership agreements can specify allocations of tax attributes, including net income and depreciation, and it does not necessarily match cash distributions. There also must be economic justification for these allocations. You cannot arbitrarily set them up, even via an operating agreement. This is a very complex area that is impossible to cover in an online post.

As a side note, I would strongly advise my clients against investing in a project where someone expects 50% without any skin in the game.