United States: Time To Update Partnership And Operating Agreements Under New Audit Rules

The new partnership audit rules (the "New Rules"), as enacted by the Bipartisan Budget Act of 2015, became effective for most partnerships on January 1, 2018. The Internal Revenue Service ("IRS") issued guidance on the New Rules in the form of proposed regulations published on July 10, 2017.

The new federal partnership tax audit regime dramatically changes the landscape for entities taxed as partnerships by making partnerships, and not the partners, liable for payments of any federal taxes assessed as a result of an audit at the partnership level. Prior to the New Rules, the IRS was required to collect any underpayment of United States federal income tax (including penalties and interest), owing as a result of an audit of the partnership, directly from the partners and not the partnership. Thus, one of the primary effects of the New Rules is to relieve the IRS of the burden of having to pursue individual partners to collect taxes (and any associated penalties and interest) assessed as a result of income tax audits of the partnerships.

Additionally, the New Rules attempt to simplify and streamline the procedures for auditing all partnerships by requiring partnerships to designate a representative to act on their behalf.

This revamp of partnership audit rules impacts every partnership and limited liability company taxed as a partnership. It is strongly recommended that every entity treated as a partnership for federal income tax purposes revise its operating documents(s) (e.g., partnership agreement or operating agreement) to address the issues that arise with respect to the New Rules.

Partnership Representative

Prior to the New Rules, partnerships generally were required to appoint a "tax matters partner" to represent the partnership in connection with federal income tax audits. The New Rules eliminate this concept and now require that each partnership designate a "partnership representative," who will have the sole authority to act on behalf of the partnership in connection with an audit or judicial procedures without the consent of the partners.

It is worth mentioning that, unlike a "tax matters partner" under the old rules, the "partnership representative" need not be a partner so long as such person has substantial presence in the United States. This change is beneficial especially for certain investment vehicles that can now appoint a non-partner management company or investment advisor to act as the "partnership representative."

Given these changes, we recommend that individual partners seek to amend governing documents and strengthen contractual protections addressing issues that may arise in connection with federal income tax audits or judicial procedures. Such protections may include covenants requiring the "partnership representative" to (i) provide information and/or notices relating to federal income tax audits or judicial procedures or (ii) obtain consent from the partners before acting in any way that could bind the partnership.

Responsibility for Imputed Underpayment

The IRS is no longer required to individually assess each partner's share of any tax due as a result of a partnership audit.  Pursuant to the New Rules, the partnership itself is responsible for imputed underpayment. Fundamentally, this means that the current partners at the time of the audit are responsible for the payment of the tax imputed for the tax year being audited, even if there were different partners for the tax year that was reviewed by the IRS. This could present a mismatch of the tax burden among the partners for that period. Partnerships may wish to address liabilities arising from this change by contractually providing for indemnity and reimbursement obligations from current and former partners.

Opt-Out Election

There is a limited exception for certain eligible partnerships to opt-out of the New Rules. Such an election may be made only if the following requirements are met: (i) the partnership has 100 or fewer partners, and (ii) each partner is an individual, a decedent's estate, a C corporation, an S corporation or a foreign entity that would be treated as a C corporation if it were a domestic entity. The opt-out election is not available to partnerships that have an entity taxed as a partnership as a partner.

An eligible partnership may opt-out of the New Rules for a taxable year by making an election on its tax return (timely filed, with extensions) and notifying each of its partners within 30 days of making such election. If no opt-out election is made, the New Rules apply to all partners in the partnership.

Push-Out Election

Partnerships may also elect to push-out the obligations, meaning that a partnership may choose to shift the obligation to pay any imputed underpayment (and any penalties, interest and additional tax) to the partners of the partnership during the reviewed year. The partnership is required to make the push-out election within 45 days of the date of the notice of final partnership adjustment from the IRS. Under the New Rules, if choosing the push-out election, the partnership must furnish amended Schedule K-1s to the review year partners. Under this election, penalties, interest and additions to tax are paid by each partner of the review year. We recommend that the governing agreement for a partnership or limited liability company include language under which review partners agree to cooperate with a push-out election by filing amended returns and paying any taxes, interest and penalties (even if they are no longer partners or members).

Conclusion

The implication of the New Rules is significant and partnerships that have not amended or revised existing operating documents should consider doing so for both economic and control of partnership reasons.

Disclaimer: This Alert has been prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. For more information, please see the firm's full disclaimer.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Similar Articles
Relevancy Powered by MondaqAI
Lowndes, Drosdick, Doster, Kantor & Reed, P.A.
Shearman & Sterling LLP
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Lowndes, Drosdick, Doster, Kantor & Reed, P.A.
Shearman & Sterling LLP
Related Articles
 
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions