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Partnership Representatives: What Partners and LLC Members Need to Know Now
Are you a member of a partnership or a multi-member LLC that’s taxed like a partnership? If so, you need to know about partnership representatives.
A partnership representative is an individual or entity that represents a partnership in front of the IRS in all matters including audits.
The term and role are relatively new. Partnership representatives (PR) went into effect in 2018 after being created in the Bipartisan Budget Act of 2015 (BBA), which repealed and replaced the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA). It replaces the role of the “tax matters partner” in TEFRA, though the two are not exactly the same (more on that below).
Importantly, the BBA also changed the way that the IRS can assess and collect taxes from a partnership due after an audit. Previously, those taxes were collected from the individual partners; now, they are collected at the partnership level – unless the partnership has opted out (more on that below, too). This process is more streamlined for the benefit of the IRS and may benefit partnerships, too.
All partnerships that file US tax returns and multi-member LLCs that are taxed as partnerships are affected. (For the sake of expediency, we’ll just use the term “partnership” throughout the rest of this blog as a shorthand for “partnerships and multi-member LLCs that are taxed as partnerships.”)
If your business is affected, here’s what you need to know.
What is the role of the partnership representative?
In the IRS’s own words: “The partnership representative has the sole authority to act on behalf of the partnership for purposes of Bipartisan Budget Act (BBA) partnership audit procedures. The partnership and the partners are bound by the actions of the partnership representative under the BBA.” (Emphasis added.)
The IRS lists the following actions as things that a PR can do, noting that this list is not exhaustive:
- Entering into a settlement agreement
- Agreeing to a notice of final partnership adjustment (FPA)
- Requesting modification of an imputed underpayment
- Extending the modification period by agreement
- Waiving the modification period
- Agreeing do adjustments and waiving the FPA
- Extending the statutory periods for making adjustments by agreement
- Making a push out election
Ideally, the PR will have nothing to do, because as a business owner you want to have as little to do with the IRS as possible. But if your partnership is audited by the IRS, you want to be sure your PR is competent, honest, and trustworthy, because they have a lot of power to make binding decisions for the partnership and its partners.
Who can be a partnership representative?
A PR can be any individual or entity (including the partnership itself) that has a “substantial presence” in the US. An entity that’s a PR must appoint a designated individual to act on the entity’s behalf.
A “substantial presence,” as defined by the IRS for these purposes, is an individual or entity that has a US taxpayer identification number, a US street address, and a phone number with a US area code, and who is able to meet with the IRS in person in the US “at a reasonable time and place as determined by the IRS.”
A partnership must designate a PR on its tax return (IRS Form 1065 or 1066) each taxable year, as the PR does not carry over year to year. The designated PR can be changed in between tax returns by filling out IRS Form 8979.
Alternatively, eligible partnerships may opt out; more on that below.
Is a Partnership Representative the Same as a Tax Matters Partner?
A partnership representative is similar to a tax matters partner (TMP), but the two are not exactly the same.
What are the differences between a partnership representative and a tax matters partner?
Both a TMP and a PR represent a partnership in audits and other matters with the IRS. However, there are some important differences.
A TMP was required to be a partner of the partnership (or member of the LLC), while a PR can be any individual or entity that meets the requirements listed above. This is the most obvious difference between the two. This change allows partnerships to choose a different party, like a tax attorney or accountant, as their PR.
Also, a TMP represented the partnership to the IRS, but they did not have exclusive authority to do so; other partners could take part, too. A PR, on the other hand, has the sole and exclusive authority to do so.
Finally, the partnership and the partners are bound by the actions and decisions of the PR, as mentioned above. Previously, a TMP could bind the partnership but not the individual partners.
What this means for you, as a partner or member in LLC
If you’re a partner in a partnership or a member in a multi-member LLC that’s taxed as a partnership, here are some things to know and to consider.
You (may) have the option to elect out
Some partnerships are eligible to “elect out of the centralized partnership audit regime for a tax year,” to use the IRS’s words. By making the election to opt out, it means that any adjustments found during an audit will be processed at the partner level. By not electing to opt out, these adjustments will happen at the partnership level, which is now the default state.
To be eligible, a partnership cannot have more than 100 partners, each of which must be an individual, C corporation, foreign entity that would be treated as a C corporation if it were domestic, S corporation, or estate of a deceased partner.
A partnership that has opted out and then is notified of an audit may revoke their decision with the approval of the IRS.
Some advantages and disadvantages of opting out
The advantage of taking part in the BBA centralized partnership audit regime, i.e., not opting out, is that the situation is more streamlined for both the IRS and the partnership. Because an audit (or other matter) happens at the partnership level, individual partners do not have to (and cannot) deal with the IRS directly and do not have to amend their individual tax returns.
One disadvantage is that, depending on the nature of your partnership and your partners’ individual financial situations, it’s possible that assessing additional taxes at the partnership level could cost more than if it were done at the partner level.
Another disadvantage was mentioned before: the PR has a lot of power. In their role, they are authorized to make binding decisions unilaterally, which could lead to a situation that’s unfavorable to the partnership or some or all of the partners. The PR’s decision is binding, and individual partners do not have a right to appeal the PR’s decision(s) to the IRS.
Furthermore, under the BBA, the IRS only has to notify the partnership and partnership representative when initiating an administrative proceeding and thereafter only notify the PR. So it’s possible for an audit to occur without individual partners being aware it happened, even if in the past under TEFRA they would have known. (You can read more about the IRS’s BBA partnership audit process here.)
Discuss with the other partners/members and ensure your partnership agreement/operating agreement is updated
Some of the issues mentioned above can easily be handled by updating the partnership’s governance documents. This would allow your partnership to take part in the centralized partnership audit regime and designate a PR while providing more protections to the individual partners via your partnership agreement/operating agreement. For example, you could include a provision that the PR must notify all individual partners of audit proceedings, even if the IRS doesn’t require it.
Some issues to discuss:
- Whether the partnership (if eligible) will opt out or how that will be decided each year
- How the partnership will choose a PR each tax year
- Whether the PR must inform individual partners of audit proceedings, findings, decisions, etc., and how
- Whether and how partners have any say on decisions relating to an audit or other matter
- What to do if disputes between partners arise during or after an audit or other matter
Discuss these issues with your business attorney and make changes, as needed, to your partnership agreement or operating agreement.
Choose your partnership representative wisely
If your partnership accepts the default and does not opt out (or is not eligible to), then be very judicious about whom you designate as your PR. Hopefully, you will never need one, but if that day comes, you’ll want someone you can trust with the future of your business.
Call Business Attorney Gem McDowell for Help and Legal Advice
Gem has over 30 years of legal experience in South Carolina and he is ready to help you and your business. He can advise you on how to handle the issue of partnership representatives in your partnership or LLC and help you think through potential difficult situations that you may not have thought of.
Gem and his team not only help business owners with corporate governance documents like partnership agreements and operating agreements, they can help your business grow and thrive, all while keeping your assets protected. Call Gem and his team at the Mt. Pleasant office at 843-284-1021 today to schedule a free consultation.