The IRS has reissued proposed regulations that provide guidance on the new centralized partnership audit regime for partnerships, and Limited Liability Companies (LLCs) treated as partnerships, for income tax purposes. The new audit rules replace the old audit procedures originally enacted in 1982. The new rules are effective for tax years beginning after December 31, 2017.
What does this mean for partners and partnerships?
The new rules generally allow the IRS to assess and collect tax, interest and penalties resulting from audit adjustments directly from the partnership/LLC at the time of the audit, rather than collecting taxes from each individual partner. The new rules replace the old rules which (except for electing “large” partnerships) generally looked to each partner for payment of assessed taxes after an audit.
A partnership will now designate a “partnership representative” who would have the authority to act on behalf of the partnership in audit proceedings with the IRS. A representative is not required to be a partner of the partnership (or a member of the LLC.) This representative replaces the “Tax Matters Partner” under current audit rules.
The partnership representative could allow the new default audit rules to apply. In this case the partnership would pay the assessed taxes at the partnership/LLC level based on the top tax rate in the year the audit is finalized (the “adjustment year.”) Alternatively, the representative could elect to “push out” the assessment to the partners/LLC members who were in place during the year being audited (the “review-year.”)
What should partnerships do in the meantime?
The IRS held hearings on the proposed regulations in September of 2017. The regulations are the best guidance we have until they are adjusted and/or become final. Partnerships/LLCs with less than 100 partners/members can generally elect out of the new audit regime. Many (but not all) partnerships/LLCs may benefit from electing out of the new audit regime.
Partnership and LLCs treated as partnerships for income tax purposes should review their agreements and include provisions to cover audits under the old and new regimes. Also, because the IRS will only look to the decisions of the partnership representative, responsibilities and duties of the representative should be considered in revised partnership and/or operating agreements.
Your Bauman Associates tax advisor can help you navigate the new rules and elections and guide you through any decisions that need to be made due to the changes in IRS partnership audit rules.