January 11, 2019 IRS releases final regulations under centralized partnership audit regime, announces new planned proposed regulations The IRS has issued final regulations (TD 9844) implementing the centralized partnership audit regime enacted by the Bipartisan Budget Act of 2015 (BBA). The final regulations adopt with some changes proposed regulations issued in August 2018 that consolidated several previously issued proposed regulation packages and reflected technical corrections included in Title II of the Consolidated Appropriations Act of 2018 (TTCA) In a related development (Notice 2019-06), the IRS announced plans to issue additional proposed regulations addressing "special enforcement matters" under the centralized partnership audit regime under Section 6241(11), as added by the TTCA. Background The BBA overhauled the manner in which partnerships are audited and how any resulting tax liability is computed, assessed and collected. Before the BBA, a partnership audit generally was conducted in accordance with the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA), which did not provide any statutory mechanism for collecting income tax at the entity level. Rather, the IRS generally had to seek payment of underpaid tax directly from the partners that would have owed such tax had the partnership properly reported the items on its tax return. The BBA adopted a new regime that allows for assessment and collection of tax at the partnership level under centralized audit procedures, along with other changes to the partnership audit process. These new rules are generally effective for most partnerships for tax years starting after December 31, 2017. BBA regulations The IRS has issued multiple sets of regulations relating to the BBA. Temporary regulations on early elections. On August 4, 2016, the IRS released temporary (TD 9780) and proposed (REG-105005-16) regulations addressing the election to apply the BBA to tax years beginning after November 2, 2015, and before January 1, 2017. For a detailed discussion, see Tax Alert 2016-1344. June 2017 proposed regulations. On June 13, 2017, the IRS released proposed regulations (REG-136118-15) providing guidance on the applicable procedures, the determination of the amount of taxes, interest and penalties owed, and other consequences of an adjustment to a partnership tax return. Among other provisions, these proposed regulations included procedures for electing out of the new regime, designating a partnership representative, filing administrative adjustment requests, and determining amounts owed by a partnership or its partners from adjustments following a partnership exam. For a detailed discussion, see Tax Alerts 2017-0168 and 2017-1002. November 2017 proposed regulations. On November 30, 2017, the IRS issued proposed regulations (REG-119337-17) providing guidance on the application of certain international tax rules under the BBA centralized partnership audit regime. For a detailed discussion, see Tax Alert 2017-2056. December 2017 proposed regulations. On December 19, 2017, the IRS published proposed regulations (REG-120232-17; REG-120233-17) addressing Section 6226 push-out elections in tiered partnership structures. These proposed regulations also addressed certain procedural issues, including tax assessment and collection, penalties and interest, periods of limitations, and judicial review of partnership adjustments. These proposed regulations would allow an upper-tier partnership to make the Section 6226 push-out election, an issue reserved in the June 2017 proposed regulations. See Tax Alert 2017-2184. Final regulations on electing out. On January 2, 2018, the IRS issued final regulations (TD 9829) on electing out of the BBA partnership audit regime. See Tax Alert 2018-0013. February 2018 proposed regulations. On February 2, 2018, the IRS issued proposed regulations (REG-118067-17) addressing the adjustment of tax attributes to reflect partnership adjustments under the centralized partnership audit regime. See Tax Alert 2018-0355. Final regulations issued August 2018. On August 6, 2018, the IRS issued final regulations (TD 9839) adopting, with some changes, proposed regulations (REG-136118-15) under Section 6223 on the designation of a partnership representative and rules regarding the authority of the partnership representative under the BBA regime. The final regulations also adopted, without substantive change, the temporary rules (TD 9780) allowing a partnership to elect to apply the new partnership audit regime to tax years beginning after November 2, 2015, and before January 1, 2018. See Tax Alert 2018-1606. TTCA technical corrections and special enforcement matters The TTCA, enacted on March 23, 2018, amended the partnership audit rules established by the BBA. It addressed several procedural and substantive rules under the BBA, including the scope, netting, push-out election and special enforcement matters. The provisions in the TTCA are very similar to the bipartisan technical corrections that were introduced in both the House and Senate in December 2016, and many of its provisions are consistent with the former proposed regulations. The amendments are effective for tax years that are subject to the BBA (i.e., tax years that begin after December 31, 2017, or an earlier tax year for which the partnership has elected to apply the BBA rules). See Tax Alert 2018-0867. August 2018 consolidated proposed regulations reflecting TTCA In August 2018, the IRS issued new proposed regulations (August 2018 Proposed Regulations) under the BBA centralized partnership audit regime that withdrew and re-proposed various previously-issued proposed regulations to reflect technical corrections included in the TTCA and certain other clarifications. Specifically, the August 2018 proposed regulations withdrew and re-proposed the proposed regulations issued in June 2017, November 2017, December 2017 and February 2018. See Tax Alert 2018-1648. Final regulations The final regulations adopt portions of the August 2018 Proposed Regulations with some changes in response to comments received. They also include additional editorial revisions that the IRS states were intended to clarify, but not change the meaning of, the underlying revised language. The IRS plans to address comments received on the February 2018 proposed regulations and issues that otherwise concern basis and tax attribute rules under Reg. Sections 301.6225-4 or 301.6226-4 in separate guidance. The applicability dates in the final regulations were amended so that the provisions therein will not apply to tax years that ended before the date that the August 2018 proposed regulations were published in the Federal Register (August 17, 2018). The most notable changes from the August 2018 Proposed Regulations, made in response to comments received by the IRS, are described below. Scope of the centralized partnership audit regime The final regulations clarify that items or amounts relating to transactions of the partnership are items or amounts with respect to the partnership only if those items or amounts are (1) shown, or required to be shown, on the partnership return or (2) required to be maintained in the partnership's books and records. The final regulations further clarify that items or amounts shown, or required to be shown, on a return of a person other than the partnership (or in that person's books and records) that result from application of the Internal Revenue Code to a partnership-related item and that take into account the facts and circumstances specific to that person are not partnership-related items and, therefore, are not determined at the partnership level under the centralized partnership audit regime. These clarifications are intended to address concerns expressed with respect to certain partner items being treated as partnership-related items under Reg. Section 301.6241-1(a)(6). Partner's return consistency requirements A commenter requested that the regulations clarify that a partner may file an amended return to take a position inconsistent with the filed partnership return as long as the amended return includes a statement identifying the inconsistent treatment. In response, the final regulations stipulate that the term "partner's return" for purposes of the consistency requirement in Reg. Section 301.6222-1 includes any return, statement, schedule or list, and any amendment or supplement thereto, filed by the partner with respect to any tax imposed by the Internal Revenue Code. Accordingly, a partner, on either an original or an amended return, must treat partnership-related items consistently with how those items were treated on the partnership return filed with the IRS. The final regulations adopt a comment that recommended revising the regulations under Reg. Section 301.6222-1(c)(2) to permit a partner to notify the IRS of an inconsistent position taken with respect to an item reported on an administrative adjustment request (AAR). As a result of the change, a partner may notify the IRS that it is treating an AAR-adjusted item inconsistently in accordance with the provisions of Reg. Section 301.6222-1(c). In response to a comment, the final regulations under Reg. Section 301.6222-1(b)(1) clarify that, when a partnership has failed to file a return, any treatment of a partnership-related item on a partner's return may be removed, and the IRS may determine any underpayment of tax resulting from such adjustment. Imputed underpayments Regarding imputed underpayments, the IRS adopted, in part, a recommendation on how credit recapture situations should work under the centralized partnership audit regime. Under the final regulations, a recapture of a credit generated by partnership activities constitutes a partnership adjustment as defined under Reg. Section 301.6241-1(a)(6), and the credit recapture constitutes a positive adjustment under Reg. Section 301.6225-1(d)(2)(iii)(A) and is placed in the credit grouping under Reg. Section 301.6225-1(c)(3). The full amount of the credit recapture is generally taken into account in determining the imputed underpayment. In addition, the IRS adopted a comment on modifications of an imputed underpayment that recommended establishing minimal documentation requirements for any modification request and additional specific requirements for the various types of modification requests permitted. The final regulations specify that the partnership representative must furnish information to the IRS as required by forms, instructions or other guidance prescribed by the IRS or as is otherwise requested by the IRS. The final regulations include examples of such information. In response to concerns about costs and administrative burdens, the IRS has decided to exercise its authority under Section 6225(c)(6) to "provide for additional procedures to modify imputed underpayment amounts on the basis of such other factors as the Secretary determines are necessary or appropriate" to carry out the purposes of Section 6225(c). Under the final regulations, a partnership requesting rate modifications for special allocations may determine the distributive share for all adjustments to which the lower rate applies to all partners based on the test under either Section 6225(c)(4)(B)(i) or Section 6225(c)(4)(B)(ii). This rule is intended to allow partnerships and partners to request modification based on what they determine is the most appropriate method to measure partners' distributive shares. Election for alternative to payment of the imputed underpayment The IRS received several comments on the Section 6226 election for an alternative to payment of the imputed underpayment, and adopted a suggested change with respect to corrections of errors in statements furnished to partners and filed with the IRS. Specifically, the final regulations under Reg. Section 301.6226-1(d) clarify that the IRS may not invalidate an election based on errors that are timely corrected by the partnership in accordance with Reg. Section. 301.6226-2(d). To be consistent with the method of calculating interest on penalties outside of the centralized partnership audit regime under Section 6601(e)(2)(B), the IRS also adopted a comment recommending that the final regulations provide that interest on any penalties, additions to tax or additional amounts is calculated from the due date (including any extension) of the reviewed year partner's return for the applicable tax year until the amount is paid. Administrative adjustment requests (AARs) Commenters expressed concern about a lack of clarity in the regulatory language with respect to whether more than one imputed underpayment can be calculated in an AAR. In response, the IRS revised the language in the final regulations to refer to "an" or "any" imputed underpayment, as appropriate, to accommodate future cases in which an AAR may result in more than one imputed underpayment. In addition, Reg. Sections 301.6227-2(c) and 301.6227-3(a) clarify that, for an election to have the reviewed year partners take into account the adjustments in an AAR, such partners take into account only those adjustments that are associated with the imputed underpayment to which the election relates. Interest and penalties related to imputed underpayments With respect to determining the portion of the imputed underpayment to which a penalty applies, final Reg. Section 301.6233(a)-1(c) has been revised to: (1) account for distinctions between the calculation of an underpayment and the calculation of the imputed underpayment; and (2) apply the ordering rules under Reg. Section 1.6664-3 within each grouping or subgrouping determined in accordance with Reg. Section 301.6225-1. The IRS states that the revised rule, which responds to a comment received, maintains the treatment of an imputed underpayment as if it were an actual underpayment or understatement, but also respects the framework for calculating the imputed underpayment established under Section 6225 and its regulations. Definitions Addressing a comment about an inconsistency in the definition of "pass-through partner," the final regulations adopt a revision to clarify that business organizations that have elected out of subchapter K are not "pass-through partners." Notice 2019-06 Notice 2019-06 announces that the IRS intends to issue propose regulations under Section 6241(11)(B)(vi) regarding two matters that the Secretary has determined present special enforcement considerations:
For situations in which an adjustment during an examination of a person other than the partnership requires a change to a partnership-related item, the planned proposed regulations would allow the IRS to effectively and efficiently focus on a single partner or a small group of partners with respect to a limited set of partnership-related items without unduly burdening the partnership and while avoiding procedural concerns about the appropriate level at which such items must be examined. Specifically, the regulations would provide that the IRS may determine that the centralized partnership audit regime does not apply to adjustments to partnership-related items when the following conditions are met:
When a QSub is a partner in a partnership, the planned proposed regulations would provide that this situation presents special enforcement considerations because partnership structures with QSubs as partners could have far more than 100 ultimate partners and still potentially elect out of the centralized partnership audit regime. The IRS states that allowing such a large partnership to elect out of the centralized partnership audit regime would give rise to significant enforcement concerns for the IRS. Accordingly, the proposed regulations would generally not apply Section 6221(b) (regarding electing out of the centralized partnership audit regime) to a partnership with a QSub as a partner. The regulations would include, however, provisions to allow partnerships meeting certain requirements to make an election under Section 6221(b). The IRS plans to issue these regulations in both proposed and final form before 18 months after enactment of the TTCA, such that the intended regulations may apply to all partnership tax years beginning after December 31, 2017. Implications The release of these final regulations was the main final step for the IRS's implementation of the BBA regime. Partnerships and partners should understand that the BBA regime is now in effect, as it applies to most partnerships for tax years starting after December 31, 2017. The updated version of the Form 1065 for 2018 tax years now requires a partnership to affirmatively state whether it is electing out of the BBA regime, if eligible to do so. A partnership electing out of the BBA must complete Schedule B-2 (Form 1065). If not electing out of BBA or ineligible to do so, the partnership must complete the designation of partnership representative, which requires naming the partnership representative and the designated individual authorized to act for the partnership representative. The partnership must also provide the US taxpayer identification number, US address and US phone number of the partnership representative and designated individual. Finally, partnerships should consider the effects of the new final regulations and how they want to address certain issues with their partners, e.g., modifications to legal documents and terms surrounding a future potential assessment of tax. ———————————————
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