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For rental real estate and other partnerships, whose taxable years start after December 31, 2017, the IRS has issued new proposed rules for determining how the IRS will conduct audits of partnerships and who will bear the burden of tax liability, if any, determined under an audit.
In 2015, Congress enacted Section 1101 of the Bipartisan Budget Act of 2015, P.L. 114-74, which implement new centralized audit rules for partnerships. These new rules replace the existing rules which required that after an audit of a partnership any audit adjustments were passed through to each partner resulting in adjustments to each partner’s tax return and payment of tax at the partner level.
Under the new centralized rules, the audit of a partnership will be similarly conducted at the partnership level, however, the partnership will now be responsible for a “imputed underpayment” that may be due as a result of the audit. The imputed underpayment is equal to the “total netted partnership adjustment” multiplied by the highest federal income tax rate (individual or corporate) then in effect. Audit adjustments that do not result in an imputed underpayment will be passed through to the partners as a non-separately stated item of loss, credit, or reduction in income.
The partnership may elect to “push out” the imputed underpayment to its reviewed year partners. The election must be made by the partnership within 45 days after the date of the notice of final partnership adjustment. In addition, the partnership must send statements to each partner reporting such partner’s share of the imputed payment, penalties, and interest.
Under the new rules, the partnership on its tax return, must designate a “partnership representative.” The representative replaces the tax matters partner and does not have to be a partner. The representative has the sole authority to act on behalf of and bind the partnership in audit matters. Each taxable year, the partnership designates the representative for that tax year only. If a representative is changed in the next tax year, he or she does not replace the representative for the prior tax year.
The representative can be anyone, including entities, who have:
- the ability to meet with the IRS in the United States,
- have a street address and telephone in the United States,
- and a United States taxpayer identification number.
Partnerships can elect out of the new centralized rules if they meet both of the following conditions:
- The partnership must have 100 or fewer partners; and
- All partners must be eligible partners (individuals, C corporations, or foreign entities that would be treated as C corporations if they were domestic, S corporations, and estates of deceased partners).
Partnerships, trusts, disregarded entities, and other nominee interests would make the partnership ineligible to elect out of the new rules.
General partner or managing member! Now is the time to amend your partnership agreement to reflect the new audit rules, as well as replace the tax matters partner with the new partnership representative. Please contact your RINA representative to help guide you through the process.