Congress changes partnership audit procedures.

• Author: Trivedi, Shamik

The IRS's ability to examine certain partnerships was greatly strengthened by the Bipartisan Budget Act of 2015, RL. 114-74, which, effective for partnership tax years beginning after Dec. 31, 2017, repeals the electing large partnership and Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA) partnership audit rules of chapter 63 of the Internal Revenue Code.

New Rules

Under the Budget Act, and similar to the TEFRA and electing large partnership audit rules, any adjustment to items of income, gain, loss, deduction, or credit of a partnership for a partnership's tax year, as well as the partner's distributive share thereof, will be determined at the partnership level. The applicability of any penalty, addition to tax, or additional amount that relates to an adjustment also will be determined at the partnership level under the new law (Sec. 6221(a), effective for partnership tax years beginning after Dec. 31, 2017).

This general rule, however, will not apply to electing partnerships (1) that are required to issue 100 or fewer Schedules K-1, Partner's Share of Income, Deductions, Credits, etc., with respect to their partners; and (2) in which each of the partners is either an individual, C corporation, a foreign entity that would be treated as a C corporation if it were domestic, an estate of a deceased partner, or an S corporation.

Partnerships that meet those two conditions must affirmatively elect out of the general rule, and, even then, the election must be made on a timely filed return that contains the name and taxpayer identification number (TIN) of each partner of the partnership, and the partnership must notify each partner of the election.

Although the affirmative election out of the general rule will allow the partnership to exclude having adjustments apply at the partnership level, this also means that the IRS will have to examine each partner separately, which could result in inconsistent treatment among partners.

It is important to note that these requirements will be analyzed by the IRS and Treasury Department, which will provide guidance on the proper procedures for the election, as well as notification of the IRS and the partners.

Regarding partners that are S corporations, the partnership will also be required to disclose the name and TIN of each S corporation owner. Moreover, the number of S corporation owners will count toward the 100-partner maximum for allowing a partnership to elect out of the general rule (Sec. 6221(b)(2)(A), effective for partnership tax years beginning after Dec. 31, 2017).

The Budget Act's qualifying partnership rules described above effectively combine the thresholds and rules under the current TEFRA and electing large partnership statutes. Under TEFRA, all partnerships are treated as a TEFRA partnership unless they qualify as a "small partnership" (see Sec. 6231(a)(1), effective for partnership tax years beginning before Jan. 1, 2018). The small-partnership exception allows certain partnerships to be assessed at the partner level rather than the partnership level if the partnership has 10 or fewer partners, each of which is an individual, C corporation, or...