written by Kami Bailey
The IRS has issued temporary regulations that explain how a partnership can opt in to the new partnership audit regime that was enacted in the Bipartisan Budget Act of 2015 (BBA). The new audit rules will apply to partnership returns filed for tax years beginning after December 31, 2017. This new law does allow partnerships to elect to apply the new audit regime to returns filed for a partnership tax year beginning after November 2, 2015 and before January 1, 2018.
Under existing law, partnership audits are conducted using the rules provided in the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA). Under these rules, the IRS audits and proposes adjustments to partnership returns at the partnership level. What this means is the IRS would adjust each partner’s individual tax liability to reflect any partnership adjustments for that year. The IRS would then collect any increased tax from the individual partners, not the partnership.
In the BBA, Congress totally repealed the TEFRA audit rules, effective January 1, 2018, and replaced them with a new regime. Under the new regime, adjustments to partnership income, gain, loss, deduction or credit are still determined at the partnership level. However, any additional taxes owed are collected from the partnership, not the individual partners. The amount paid by the partnership is referred to as an imputed underpayment.
A partnership may elect to apply these BBA rules to a tax year before January 1, 2018. The election becomes available when the IRS first notifies the partnership that it has been selected for an audit for an eligible tax year. The partnership would have to make the election within 30 days of receiving the notice of selection for examination.
Alternatively, a partnership may elect in to the new regime if it files a request for an administrative adjustment to change an amount reflected on a return of the partnership or the partners. Otherwise, there is no general right to opt in to the new regime for a tax year before January 1, 2018.
To make this election, a partnership must submit a statement in writing to the IRS individual identified in the notice of selection for examination. There is no preset form or format for this election. The statement does have to be signed and dated by the partner who represents the partnership in dealings with the IRS, also known as the tax matters partner. The partnership must also represent that it is not insolvent, does not expect to go into bankruptcy, and has sufficient assets to pay any possible imputed underpayment owed by the partnership in the case the IRS made an adjustment.
The decision to opt-in
For some partnerships opting in to the new rules may be a difficult decision. The IRS has not put out much guidance on how the new audit regime will work or how it will calculate the partnership’s tax liability. Some partnerships have found that operating under the old TEFRA rules can be a painful experience, so they may consider this lack of guidance beneficial in negotiating a better deal with the IRS. However, these new rules shift a number of burdens from the IRS to the partnership: notice to partners, obtaining partner agreement to a settlement, and recalculation of adjusted tax liabilities. Finally, it is important to note that under these new rules any imputed underpayment owed by the partnership is calculated at the highest tax rate for the year under review.
Please contact our office if you have any questions about the changes to IRS’s partnership audit rules and how to opt-in early 417-881-0145.