What you need to know about Bipartisan Budget Agreement of 2015 …
In December, President Obama signed the Bipartisan Budget Agreement of 2015 into law. Contained therein is a significant revision of the outcome of partnership audits. “Partnership” refers to any entity taxed as a partnership even if it is classified as something else for legal purposes. The new rules take effect for partnership years beginning on or after January 1, 2018, though a partnership can elect to be subject to these rules for any partnership year beginning on or after November 3, 2015.
Previous rules stated a partnership adjustment flowed through to each partner’s tax return for their years involved, and each partner would be assessed the resulting tax based on their own situation.
The new rules impose any tax at the partnership level, and it is the partnership that will be liable for the taxes due. The tax is assessed on the tax return for the year the audit is completed, not for the reviewed year (year under audit). The tax is based on the net change to partnership income multiplied by the highest individual or corporate income tax rate. The most significant impact is that partners in the partnership in the year the audit is completed are the ones who effectively bear the cost of any tax assessment, even those partners who may not have been in the partnership for the reviewed years.
Moreover, such treatment for current partners can be avoided if the partnership makes a “push-out” election to provide to the IRS and to each partner (who was a partner in the reviewed year) an adjusted K-1 showing the partner’s share of the exam-related adjustments. This election must be completed within 45 days of the final partnership adjustment notice date. Affected partners would then be required to incorporate that K-1 into their own tax return in the year the K-1 is received. The effect of the push-out election is to insulate partners who were not in the partnership for a reviewed year from being unfairly saddled with a tax adjustment.
Partnerships with 100 or fewer partners and with no partner that is other than an individual, corporation, or estate of a deceased partner, can opt out of these new rules and continue to have any audit adjustments reflected on the partner’s tax return. The opt-out is an annual election and must be made on each timely filed partnership return. Thus, this is not an election that can be made at the time of the exam.
Given the complexity of these new rules, reviewing your partnership agreement or Limited Liability Company (LLC) operating agreement and modifying as necessary may be a worthwhile endeavor. While most existing agreements address what happens in the case of an audit, this new law may make current provisions obsolete, leaving an entity with no agreed-upon procedures to follow.
Some questions to consider as you navigate this new legislation are:
Should the partnership …
… file opt-out elections with each tax return?
… restrict the entrance of partners (including transfers of interest) to those who would not otherwise preclude the opt-out election?
… make a push-out election in the event of an adverse audit finding?
… provide for how a partnership level assessment will be shared in the absence of an opt-out or push-out election?
Other considerations should be made on an individual basis.
For further information or to discuss your specific situation; please contact Aronson Tax Controversy Practice Lead Larry Rubin, CPA, at 301-222-8212.