Beginning with tax year 2018, all partnerships and limited liability companies (LLCs) taxed as partnerships will be affected by a new federal tax audit law. In 2015, the Bipartisan Budget Act repealed the earlier audit system, known as TEFRA, and replaced it with entirely new taxation audit provisions. It is important for those affected by this change to address certain issues under the new system by taking affirmative action now.
Who Will the Law Affect?
The new law will affect many small business owners, particularly those who are in a partnership or are members in an LLC that is taxed as a partnership.
What Will the Law Require?
Several provisions are similar to the old law, but there are at least two major differences which will impact many small businesses.
The first big change relates to how tax deficiencies are treated. Under the old system, necessary adjustments due to tax deficiencies flowed through to the partners themselves. Under the new law, tax deficiencies will be imposed on the partnership or LLC. As a result of this new provision, partners or LLC members could be responsible for tax deficiencies in prior years, even if they did not own any interest in the company during the tax year in question.
The IRS will allow some small partnerships—defined as those with fewer than 101 partners of certain types— to opt out of the new law. General taxpayer audit laws will apply to those who opt out, provided the election is made every year.
The second major change deals with the IRS’s contact requirements for partnerships and LLCs. Under the old law, partnerships were required to designate a partner to deal with tax matters. The new law provides that partnerships must instead designate a partnership representative, who need not be a partner at all. If the partnership fails to designate a representative, the IRS has the power to appoint one.
The partnership representative’s role is to serve as the main point of contact in audit matters. The representative must have the power to bind the partnership, as well as the individual partners, in an audit.
How Can I Be Ready?
Partnerships and LLC members must act quickly to protect their own interests, as well as those of their businesses. This complicated new law could significantly impact the personal liability of partners or members who do not restructure their business agreements to account for its provisions. Contact us for support if you are set up as either an LLC or a partnership. We can help.