The IRS has changed how it will approach auditing partnerships by moving to a centralized partnership audit regime. The goal of the program is to allow the IRS to audit partnerships at the entity level and require the partnership entity to pay any amount due. The partnership can then elect to “push out” any resulting underpayments to affected partners.
While that sounds simple enough, the legal and regulatory process required to implement the program included initial legislation, technical corrections legislation, five sets of proposed regulations, and three sets of final regulations. And even as the IRS announced this third set of final regulations (all 419 pages), it stated that additional regulations on two specialized enforcement situations will be forthcoming.
The rules are in effect for tax years beginning after December 31, 2017, so it’s important to understand what they mean for any partnership investments that you may hold.
The centralized audit regime changed the way partnerships are audited and the way that resulting tax liabilities are collected. Before the law change, if the IRS found that a partnership had underreported its income, the IRS had to audit each individual partner in order to assess and collect that taxpayer’s share of the tax due.
The new law creates a centralized audit procedure through which the IRS can assess and collect tax at the partnership level. The partnership, in turn, can either pay that amount itself or elect to “push out” the amounts owed to the relevant partners. Here are a few of the key provisions of these new centralized audit rules:
- The IRS will calculate tax due from the partnership at the highest federal income tax rate (currently 37%).
- Partnerships that have fewer than 100 partners (who meet certain requirements) can elect out of the centralized audit regime.
- The tax liability is deemed to be due in the year the examination is completed. It does not relate back to the year under review. If the partnership does not elect the “push out” option, newer partners may see the partnership’s cash flow reduced by payments for errors made before they invested.
- If the partnership does elect the “push out” option, it shifts the liability to the partners who were owners during the reviewed year. Those partners would have to pay any resulting tax as well as associated interest and penalties.
The final rules made some technical tweaks on certain issues, such as what constitutes a partnership item, and when a partner can take a position on an individual return that is inconsistent with the partnership’s determination of income. However, the final regulations keep the fundamental concept of the centralized audit regime intact.
Consult With Your Tax Advisor
The new rules require a lot of decisions from partnerships. If you own interests in any kind of a partnership, you should consult with your CRI tax advisor to understand how you may be affected by the elections that the entity has made under the new rules.