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Partnership audit changes take effect next year

Changes in the way partnerships are audited have been in the works for several years. Congress passed legislation in 2015 that goes into effect next year.

In this post, we'll use a Q & A format to update you on key things to know about the changes.

What brought about the changes?

The IRS has been concerned for quite awhile about the use of increasingly complex partnership structures rather than the more traditional pass-through form of taxation that many small businesses have traditionally used.

Nearly four years ago, we discussed this at some length in a two-part post. We noted, for example, that the IRS had been sending letters to businesses, warning about the potential consequences for underreporting income.

How have partnership audits previously been handled?

Historically, partnership audits were typically done at the individual partner level. In other words, if the IRS wanted to audit a partnership, it did so by auditing each individual partner.

This was obviously not very efficient. During the Reagan era, Congress put in place legislation called TEFRA (Tax Equity and Fiscal Responsibility Act of 1982) that allowed for partnership audits at either the individual or partnership level.

Now Congress has tweaked the law again as part of the Bipartisan Budget Act of 2015 (BBA).

What will the changes consist of?

In a nutshell, what the BBA changes will allow is for the IRS to collect tax at the entity level.

The BBA has also established a status called "partnership representative," which carries considerable authority to act on behalf of the partnership in tax matters.

Are the regulations in place yet for the new auditing approach for partnerships?

The rules to implement the new approach to partnership audits are being worked out now. The IRS has already proposed new rules and is drafting others to add to them. One key question still to be worked out is the procedure for appeals when a partnership is audited under the BBA.

We will keep you posted going forward on how the final rules take shape.

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