Temporary and Proposed Regulations Issued for “Opting-In” to New Partnership Audit Rules Early
As noted in a previously issued Alert dated November 23, 2015, partnership audit rules were materially changed in 2015 as part of the Bipartisan Budget Act of 2015 (the "BBA"). Generally effective for tax years beginning after December 31, 2017, the BBA repealed the TEFRA and Electing Large Partnership rules and replaced them with a single set of rules for auditing partnerships and partners at the partnership level. Under the provisions of the BBA, a partnership was permitted to elect to have the new audit rules apply (other than the 100 or fewer partner "election out" of the new rules) to any return of a partnership filed for partnership taxable years beginning after the date of enactment (i.e., November 2, 2015) and before January 1, 2018 (an "eligible taxable year"). So, for example, if the IRS in 2020 were to select a pre-2018 partnership "eligible taxable year" return for audit, the new audit rules would not apply unless the partnership elected to have them apply.
Recently, the Treasury and IRS issued temporary and identical proposed regulations to put into place operative rules for "opting in" to the new partnership rules early. The following are the highlights of these new regulations:
- An opt-in early election is valid only if made in accordance with these regulations. The election is also not valid "if it frustrates the purposes" of the new partnership audit rules. Once made, an election may not be revoked without the consent of the IRS. A partnership may not request an extension of time to make an early opt-in election.
- To avoid multiple proceedings, an early opt-in election will not apply if the partnership has taken the affirmative step to apply the TEFRA partnership procedures with respect to that taxable year. This occurs when the tax matters partner has filed a request for an administrative adjustment ("AAR") under current IRC Sec. 6227(c) with respect to a partnership taxable year.
- An early opt-in election does not apply if a partnership that is not subject to the TEFRA partnership procedures has filed an amended return of partnership income for the partnership taxable year.
Election on Notification by IRS
- An early opt-in election must be made within 30 days of the notification to a partnership, in writing, that a return of the partnership for an eligible taxable year has been selected for examination (a "notice of selection for examination").
- The form and manner of making the election is quite specific. A written statement must be provided to the individual identified in the notice of selection for examination as the IRS contact for the examination. The partnership must write the words "Election Under Section 1101(g)(4)" at the top of the statement. The written statement must be dated and signed by the "tax matters partner" (under pre-BBA rules) or by an individual who has the authority to sign the partnership return for the taxable year under examination. The statement must include:
- The partnership's name, taxpayer identification number and the partnership taxable year for which the election is being made.
- The name, taxpayer identification number, address, and daytime telephone number of the individual who signs the statement.
- Language indicating that the partnership is electing to apply the new partnership audit rules for the partnership return for the eligible taxable year identified in the notice of selection for examination. (However, see the exception described below where notice of selection for examination has not yet occurred.)
- The information required to properly designate the "partnership representative" (under the BBA), which must include the name, taxpayer identification number, address, and daytime telephone number of the partnership representative and any additional information required. (The Preamble to these regulations states that additional guidance will be issued regarding designation of a partnership representative.)
The statement must also include the following representations:
- The partnership is not insolvent and does not reasonably anticipate becoming insolvent before resolution of any adjustment with respect to the partnership taxable year for which the election is being made.
- The partnership has not filed, and does not reasonably anticipate filing, a voluntary petition for relief under title 11 of the United States Code (i.e., bankruptcy protection).
- The partnership is not subject to, and does not reasonably anticipate becoming subject to, an involuntary petition for relief under title 11 of the United States Code.
- The partnership has sufficient assets, and reasonably anticipates having sufficient assets, to pay a potential imputed underpayment with respect to the partnership taxable year.
- A representation, signed under penalties of perjury, that the individual signing the statement is duly authorized to make the election and that, to the best of the individual's knowledge and belief, all of the information contained in the statement is true, correct, and complete.
Election to File Administrative Adjustment Request
- An exception is provided to the general rule that a partnership may only elect into the new partnership audit regime after first receiving a notice of selection for examination. Under this exception, a partnership that has not received a notice of selection for examination may opt-in to the new audit rules with respect to a partnership return for an eligible taxable year if the partnership files an AAR under the BBA. Once the election is made, all aspects of the new partnership audit regime apply (other than the 100 or fewer partner election out of the new rules). This election, once made, may not be revoked without consent of the IRS. This election may not be made earlier than January 1, 2018. Accordingly, an AAR under the BBA may not be filed before January 1, 2018 (except by partnerships that have been issued a notice of selection for examination as described above). An AAR filed before that date (other than an AAR filed by a partnership that properly elected into the new partnership audit regime) will be treated as an AAR by the partnership under the TEFRA procedures or as an amended return of partnership income for partnerships not subject to the TEFRA partnership procedures, and will prevent the partnership taxable year for which the request, or return, is filed from being an eligible taxable year.
As we noted in our February 26, 2016 Alert, Consideration of Recent Partnership Audit Rule Changes a "Must" for New and Existing Partnership and LLC Operating Agreements, "all partnerships, existing as well as those being newly formed, should carefully consider the impact" of the new partnership rules and respond accordingly. We also noted that guidance to come under these new rules would impact decisions to be made. These temporary and proposed regulations are a small first step in filling in the necessary implementation details to be taken into account in evaluating the handling of partnership audits after the BBA.