Partnership Tax Audits

Previously, I've written how business partners can use the tax code to attempt to, not-so delicately, "screw" a business partner. Thanks to some terrific research by Farley P. Katz, Joseph Perera, and Katy David at Strasburger & Price LLP, it seems, unfortunately, that even more mischief may be possible in the near future.


On November 2, 2015, the Bipartisan Budget Act of 2015 (BBA) became law. Buried in the BBA are new rules replacing the long-standing Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA) and the Electing Large Partnership rules that previously governed partnership audits. These new rules turn established partnership tax law on its head.


Under BBA rules, if a partnership understates its income or overstates its deductions, it is subject to income tax. Not only can the partnership owe income tax, the tax will not be based on the income for the year in question, but instead on one or more prior years’ income. Consequently, the economic burden of the tax could be borne by partners who had no interest in the partnership when the income was generated. Conversely, if a partnership overstated its income in a prior year, the benefit of correcting that overstatement will accrue to the current partners, not those who were partners in the earlier year. Finally, if a partnership elects out of the new provisions (assuming it is eligible), the IRS will no longer be able to conduct a centralized audit controlling each partner’s distributive share, but will instead have to audit each partner individually. (emphasis mine)


For all intents and purposes, the entire second paragraph should be made bold for emphasis. Essentially, partners could be on the hook for unreported partnership income when they are not partners. Senior partners could offload their tax liabilities onto a new partner. Instead of rightfully thinking that they finally made it, a new partner could be set up as the fall guy.


With all this change in the air, I have to ask the following question: will the IRS make enforcement of BBA partnership rules a priority? Someone in the IRS must know that the amount of tax audit litigation this is going to create will provide ample employment for tax attorneys while simultaneously overwhelming an already under-resourced IRS.


If you have an issue with a business partner that has led to problems with taxes or the IRS, or if your business is being audited, contact us here. We can help.


For those with the stomach for additional laws and regulations that the IRS may be able to administer, read the entire Strasburger BBA article by clicking here.