Armanino Blog

How to Opt Out of the New Partnership Audit Rules

by David Hersch
June 12, 2018

Many real estate businesses are formed as partnerships, and, beginning this year, the IRS is applying new procedures to its partnership audits. Under the procedures, any adjustments and penalties after an audit generally will be assessed against the partnership itself, rather than against individual partners. Certain partnerships can opt out of the new procedures, however, and the IRS has issued final regulations that explain the who and how of this process.

Eligible partnerships

The new audit procedures implement the Bipartisan Budget Act of 2015 (BBA). That law repealed the audit procedures outlined in the Tax Equity and Fiscal Responsibility Act and its exception for electing large partnerships.

Partnerships with 100 or fewer qualifying partners can opt out of the BBA’s procedures, meaning they and their partners would be audited under the rules applicable to individual taxpayers. Qualifying partners are limited to individuals, C corporations, foreign entities that would be treated as C corporations if domestic, S corporations and deceased partners’ estates.

According to the regulations, eligible partnerships must furnish 100 or fewer Schedules K-1. Spouses count as two separate partners. Special rules apply when determining the number of partners if a partner is an S corporation. Persons who hold a partnership interest on behalf of another person aren’t considered eligible partners.

Election process

Eligible partnerships must make the opt-out election on their timely filed tax returns, including extensions, for the tax year to which the election applies. Once made, an election can’t be revoked without IRS consent. Partnerships must notify their partners of the election within 30 days of making it. The notification can be made in the form and manner the partnership chooses.

The election must include each partner’s name, tax identification number and federal tax classification. It also must include an affirmative statement that the partner is an eligible partner, as well as any additional information the IRS requires in forms, instructions or other guidance.

If the IRS determines that an election is invalid, it will notify the partnership in writing. In such a case, the new partnership audit procedures will apply, and adjustments and penalties will be collected at the partnership level.

Decision time

The final regulations for opting out of the new partnership audit regime apply to tax years beginning after December 31, 2017—the same effective date as the audit rules. Consult with your CPA to determine whether your partnership should consider making the election.

June 12, 2018

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