In 2021 the IRS plans to begin an initiative to audit large partnerships using the powerful centralized partnership audit tools Congress gave the agency when it enacted the Bipartisan Budget Act of 2015 (BBA). The BBA generally applies to partnership taxable years beginning on or after Jan. 1, 2018. The IRS said that it will use data analytics as part of its partnership audit selection and issue identification processes similar to the Large Corporate Compliance audit procedures used for large corporation audits. This initiative is in addition to other IRS initiatives that focus on wealthy individuals and related pass-through entities.
As part of this increased focus on partnership audits, the U.S. Department of the Treasury and the IRS published proposed regulations on Nov. 24, 2020, to refine some of the existing rules and implement the special enforcement provisions added to the BBA by the Tax Technical Corrections Act of 2018 (TTCA). Following are highlights of the proposed regulations.
Qualified S-corporation subsidiaries (QSubs)
The proposed regulations provide that partnerships that have QSub partners may not elect out of the BBA, reversing an earlier IRS notice indicating that the IRS intended to publish proposed regulations to allow certain small partnerships to elect out of the BBA even if they have a QSub partner. This provision is proposed to be applicable on Nov. 20, 2020.
Treatment of partnerships that cease to exist
The proposed regulations modify rules that allow the IRS to require former partners to take BBA adjustments into account if the partnership ceases to exist before the adjustments take effect. Under the current regulations, a partnership generally ceases to exist before the adjustments take effect if, before the partnership fully pays the amount due resulting from the BBA audit (the imputed underpayment), the partnership terminates under IRC Section 708(b)(1) or the IRS determines that the amount is uncollectible because the partnership does not have the ability to pay it.
The proposed regulations would allow the IRS to require former partners to take the adjustments into account if the partnership terminates or cannot pay the imputed underpayment when the adjustments are finally determined; there is a settlement with the IRS; or for adjustments appearing on an administrative adjustment request (AAR) when the AAR is filed, regardless of whether the partnership has already fully paid the imputed underpayment or whether the partnership has sufficient assets to pay the imputed underpayment.
In addition, the proposed regulations change the definition of former partners. Under the current regulations, former partners are the adjustment year partners (generally the partners for the year the adjustments are finally determined) or, if there are no partners in the adjustment year, the partners for the year the final return is filed. Under the proposed regulations, former partners would be the partners for the year the last partnership return or AAR is filed or “the most recent persons determined to be partners of the partnership in a final determination (for example, a defaulted notice of final partnership adjustment, final court decision, or settlement agreement) binding upon the partnership.”
These changes are proposed to apply to IRS cease-to-exist determinations made after Nov. 20, 2020.