Five years ago Bridget decided to purchase a limited partnership interest in a fast-food restaurant conveniently located near the campus of Southeast State University. The general partner of the restaurant venture promised her that the investment would prove to be a winner. During the process of capitalizing the business, $2 million was borrowed from Northside Bank; however, each of the partners was required to pledge as collateral personal assets to satisfy the bank loan in the event the restaurant defaulted. Bridget pledged shares of publicly traded stock (worth $200,000, basis of $75,000) to satisfy the bank’s requirement.
The restaurant did a good business until just recently, when flagrant health code violations were discovered and widely publicized by the media. As a result, business has declined to a point where the restaurant’s continued existence is doubtful. In addition, the $2 million loan is now due for payment. Because the restaurant cannot pay, the bank has called for the collateral provided by the partners to be used to satisfy the debt. Bridget sells the pledged stock for $200,000 and forwards the proceeds to the bank. Bridget believes that her share of the restaurant’s current and suspended passive losses can offset the $125,000 gain from the stock sale. As a result, after netting the passive losses against the gain, none of the gain is subject to tax.
How do you react to Bridget’s position?