Draft instructions to the 2019 Schedule K-1s, “Partner’s Share of Income, Deductions, Credits, Etc.,” for Form 1065, “U.S. Return of Partnership Income,” and Form 8865, “Return of U.S. Persons With Respect to Certain Foreign Partnerships,” required partnerships to report tax basis capital accounts for partners, information about separate at-risk activities, and a partner’s share of net unrecognized built-in gain or loss under IRC Section 704(c). Notice 2019-66 delays the tax basis and separate at-risk reporting until the 2020 tax year but retains IRC Section 704(c) reporting for 2019. It’s important to note that Notice 2019-66 clarifies that IRC 704(c) gain includes reverse gain that arises upon a revaluation of assets. This requirement will present increased burdens and complexities for the upcoming compliance season.
Partner’s share of net unrealized IRC Section 704(c) gain or loss
The 2019 draft instructions required partnerships to report a partner’s share of net unrecognized IRC Section 704(c) gain or loss as of the beginning and end of the partnership’s taxable year. However, the 2019 draft instructions did not include a definition of “net unrecognized IRC Section 704(c) gain or loss.” Notice 2019-66 clarifies that a partner’s share of the net of all unrecognized gains or losses under IRC Section 704(c) means the partner’s share of the sum of all unrecognized gains or losses under IRC Section 704(c) in partnership property, including IRC Section 704(c) gains and losses arising from revaluations of partnership property. As a result, the notice requires partnerships to account for layers of reverse IRC Section 704(c) allocations that might have developed over the years as a result of partners entering and leaving the partnership, which for many will be a complex and burdensome analysis.
The notice also provides that for 2019, other IRC Section 704(c) computational issues generally should be resolved in a reasonable manner, consistent with prior years. In addition, the reporting requirement will not apply to publicly traded partnerships until further notice.
Partner tax basis capital account
The draft 2019 instructions for Form 1065 and Schedule K-1 and Form 8865 and Schedule K-1 would have required a partner’s capital account to be reported on the tax basis and prohibited the reporting of partner capital under Section 704(b), U.S. GAAP, or any other method for 2019. Notice 2019-66 delays this reporting until 2020. However, negative tax basis reporting first imposed in 2018 still applies for 2019.
At-risk activity reporting
The 2019 draft instructions required partnerships with more than one activity subject to limitations of IRC Section 465 (at-risk rules) at the partner level to report certain additional information separately for each activity on an attachment to a partner’s Schedule K-1. Notice 2019-66 delays this requirement until 2020. However, partnerships still must indicate for 2019 whether they have aggregated or grouped activities for purposes of at-risk rules.
The notice does not relieve partnerships and partners from complying with the requirements of Form 6198, “At-Risk Limitations,” for 2019. Particularly, partnerships are required to furnish their partners with a separate statement of income, expenses, and deductions for each at-risk and not-at-risk activity included in the Schedule K-1.
Though some reporting is delayed, the computations partnerships are required to make to comply with 2019 IRC Section 704(c) reporting obligations could be quite complex and time-consuming. Partnerships should work now with their tax advisers to ensure that their IRC Section 704(c) reporting on 2019 tax returns is accurate.
In addition, even though tax basis and separate at-risk reporting have been delayed, partnerships will have to put forth significant time and effort to comply with these requirements for 2020. Partnerships should take advantage of the one-year reprieve and work with their tax advisers to comply with these requirements.