IRS Partnership Audit Regulations Reissued

IRS Reissues Centralized Partnership Audit Regime Regulations

In November of 2015, Congress passed and Pres. Obama signed into law the Bipartisan Budget Act. Section 1101 of the legislation introduced a new audit regime for partnerships to replace the former rules instituted under the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA). Back in October we released an article entitled “IRS Issues First Partnership Audit Regulations Under New Regime” which laid out the provisions of the BBA and the temporary regulations allowing a partnership to opt into the new audit regime prior to the mandated adoption after December 31, 2017.

On January 18, 2017, the IRS released proposed regulations applying to the new centralized partnership audit regime instituted by the BBA. Two days later the new Trump administration began and in one of its first acts it instituted a “regulatory freeze” leading to the withdrawal of the regulations. On June 14, 2017, the centralized partnership audit regulations were reissued with no major changes to those originally released. These regulations if finalized will apply after December 31, 2017. This article will outline the major facets of the proposed regulations.

Scope of the Centralized Audit Regime and Proposed Regulations

The new partnership audit regime covers “any adjustment to items of income, gain, loss, deduction, or credit” and the respective partner’s distributive share of those adjusted items. Further, unlike the prior regime, any income tax, penalty, addition to tax, or addition relating to an adjustment to items is assessed and collected at the partnership level. The proposed regulations provide a broad definition of the items to cover all items and information required to be shown in a partnership’s books and records.

Electing Out of the New Regime

Generally, the new audit regime applies to all partnerships (domestic or foreign) after December 31, 2017. However, “eligible partnerships” can opt out of the regime on an annual basis. A partnership is eligible if it has 100 or fewer eligible partners (must be an individual, corporation, or estate of a deceased partner) during the entire tax year (for S corporation owners each of its shareholders will be considered one eligible partner). Prop. Treas. Reg. §301.6221(b)-1(c) provides the time, form, and manner for opting out of the centralized audit regime. The election must be made on a timely filed partnership return and all partners must be notified within 30 days of the election being made. If a partnership elects out, the IRS will open any deficiency proceedings and assess and collect any taxes or penalties at the partner level.

Partnership Representative

Under the new centralized audit regime, a partnership is required to designate any person, including an entity, with substantial presence in the U.S. to act as a partnership representative (this person does not have to be a partner). This partnership representative has exclusive authority to act on behalf of the partnership and take actions binding the partners such as agreeing to settlements, agreeing to notice of final partnership or agreeing to an extension of the periods for adjustments. The proposed regulations provide rules regarding (1) the eligibility requirements for a partnership representative, (2) the designation of the partnership representative, and (3) the replacement of the partnership representative. It is important to note that the proposed regulations require a separate designation to be made each taxable year for a partnership representative (a designation for one tax year is not effective for any other tax year).

Imputed Underpayment and “Push Outs”

Under the new regime, any imputed underpayment resulting from a partnership adjustment for any taxable year must generally be collected at the partnership level. Under the proposed regulations, the imputed underpayment is generally computed by multiplying the total netted partnership adjustment (this is determined under a set of highly technical mechanisms) by the highest federal individual income tax rate in effect for the reviewed year and that number is then adjusted to take into account the partnership’s credits. If the number is positive it indicates an imputed underpayment; however, if the number is negative it is not an imputed underpayment. The partnership may request modification to a calculated imputed underpayment set forth in the notice of proposed partnership adjustment (NOPPA) sent by the IRS under procedures described in Prop. Treas. Reg. §301.6225-2.

Under the BBA, a partnership can avoid paying an imputed underpayment if the partnership elects to “push out” the underpayment to the persons who held an interest in the partnership at any time during the tax year under review. The proposed regulations outline detailed procedures for making the “push out” election. In general, a partnership has 45 days from the date the IRS mails the notice of final partnership adjustment to make the push-out election with respect to an imputed underpayment. The election must be signed by the partnership representative, filed with the IRS, and satisfy a number of other requirements, including the provision of a statement identifying the share of partnership adjustments related to the imputed underpayment applicable to each partner to the IRS and each reviewed year partner, to be valid.

Conclusion

In addition to the centralized partnership audit regime regulations outlined above the proposed regulations address the consistent treatment of returns by partnerships and their partners as well as administrative adjustment requests with respect to one or more items of income, gain, loss, deduction, or credit, and any partner’s related distributive share, for any partnership year. A major shortcoming of the proposed regulations is they fail to address tiered-partnership scenarios as the IRS states that it would result in complexities, challenges, and inefficiencies similar to TEFRA. Thus, this issue has been reserved by the IRS as it seeks further comments in considering an approach for tiered partnerships regarding pushing adjustments beyond first-tier partners.

For more information on the centralized partnership audit regime and its resulting proposed regulations or how they may affect your particular situation please contact a tax professional.

About The Author

Daniel Quintana

Daniel Quintana of Kurtz & Company, P.C. in Dallas Texas.
https://www.linkedin.com/in/drquintana