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Tax Talk: Partnership Audit Rules Bring Changes for Receivers and Partners By Coombs, Chad*
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A principal issue for receivers is when partners want a say in how the partnership income tax returns are prepared. The IRS expects the receiver for either a partnership or all or substantially all of the partnership’s assets to prepare and file the partnership’s returns.2 Though partners might want to take part in this process to make sure their tax liability is as low as possible and could have useful and helpful information, a receiver should maintain control over the tax returns the receiver signs and files. What’s Changing New federal partnership tax audit rules enacted in November 2015 and generally effective for tax years beginning on or after Jan. 1, 2018,3 have changed significantly the way partnerships are audited and how they make adjustments, and receivers need to maintain control now more than ever. While income or loss reported on a partnership return still flows through to the partners, the new rules provide that the partnership itself – and not the partners – may be directly liable for income taxes assessed pursuant to an IRS audit. The new rules aim to simplify the audit procedure, but they also effectively might shift the liability for any tax due from the audit-year partners to the current-year partnership and, in the case of a receivership, the receivership estate. If the partnership is liable to pay tax due after an audit, not only must the receiver pay the tax out of partnership assets, but the receiver could be personally liable for failing to pay the assessed tax pursuant to the federal claim priority statute.4 This change has a profound impact on how receivers should approach the receivership’s partnership filing obligations. For tax years beginning on or after Jan. 1, 2018, a receiver no longer can file partnership returns and assume that in the event of an IRS audit, the partners and not the receivership will be responsible for any tax due. In other words, unless a certain election is made, a partnership in audit is liable for tax due like a taxable C corporation. However, once the partnership ceases to exist, any tax liability on audit shifts to the partners. The new rules establish a partnership representative who will handle the partnership audit.5 The partnership representative takes the place of the tax matters partner under the old rules. The partnership representative, who does not have to be a partner and is designated on the annual tax return, is the partnership’s sole representative upon audit and can bind the partnership into a settlement of the audit. The receiver does not automatically become the partnership representative, and a partnership may revoke the designation of a partnership representative.6 A partnership might be able to elect out of the new rules. Partnerships with fewer than 100 partners can elect out, but only if each partner is an individual, a deceased partner’s estate, a C corporation, a foreign entity that would be required to be treated as a C corporation if it were a domestic entity, or an S corporation.7 Thus, a partnership cannot elect out if it has a partner that is either a trust or a partnership. This election is made on a year-by-year basis with a timely filed tax return. At the end of an audit, a partnership may elect to flow through the audit adjustments to the partners for the year under audit by making what is referred to as a push-out election.8 However, the partnership has a short window to make the election and must furnish statements of the adjustments to the audit year partners within 60 days after the adjustments are determined and file a copy of the statements with the IRS. Looking Ahead To date, little if any experience under the new rules provides further guidance, especially in the case of receiverships. However, the new rules do make it imperative for receivers of partnerships or their assets to be proactive, including, among other things:
Contacting a Tax Adviser As is very common, receivers might not have adequate (or even any) historic information on which to base preparation of meaningful partnership returns, putting the partnership, and thus the receivership estate and the receiver, at greater risk of a potential tax liability should the return be audited. The lack of clear guidance about how the new rules affect receiverships gives receivers even more reason to seek a closing or other letter agreement with the IRS and other applicable taxing authorities to close the receivership and protect themselves from any potential liability. Receivers should consult their tax advisors as to the potential impact of the new rules and actions to take given the particular circumstances of their receivership. ________ 1 In re Nevin, 135 B.R. 652 (Bankr. D. Haw. 1991). *Chad Coombs is chief tax counsel at Thomas Seaman Company in Irvine, CA and an expert in insolvency tax law. |