If a "gain" does not provide any cash to the seller, is capital gains tax applicable?

For financing purposes on an investment property, I sold my partner all but 1% of my shares (no compensation was received). My CPA tells me that this will trigger capital gains treatment on my negative capital account. I understand the technicality at hand, but feel that this is unjust. Does anyone know of precendent against my CPA's opinion?

Sale or exchange of a partnership interest with a negative capital account generally will result in a gain, regardless of the cash received (or in your case, the lack thereof).

Essentially, the only way your capital account could have gone negative and not picked up a capital gain in previous years is if you were allocated recourse liabilities. These are liabilities that you are personally "on the hook" for. Or if your business is related to real estate, your share of the mortgage may have been allocated to you.

When you sold the interest, the liabilities "shifted" to the buyer. So in a manner of speaking, you did receive a benefit. It just wasn't in cash.

This shouldn't be confused with "forgiveness of debt" as another answered.

If your having trouble sleeping due to this, try reading IRC 752. That will give you your answer, prove your CPA correct, and also put you to sleep.

Nope, sorry. A gain is a gain, even if you don't have cash in hand to pay the tax with.

Your CPA is correct. The reason that you have a negative capital account is because either the partnership had more losses than you had invested money into it, or that you had previously taken out more cash than you had put into it plus previous profits minus previous losses. Basically what it means is that you owe the partnership money by having a negative capital account, and because your partner bought you out except for 1% he has taken over the debt that you owe the partnership, triggering what is called forgiveness of debt income.

Uh-uh. Sorry, but... you know the old saying... life ain't fair.