IRS Provides Penalty Relief for New Capital Reporting Requirements

On January 14, 2021, the IRS issued Notice 2021-13 to provide transition penalty relief to partnerships complying with new rules for reporting partners’ capital account balances.

Before the 2020 tax year, partnerships could report their partners’ capital accounts for the tax year using one of a variety of methods, such as tax basis, GAAP, or section 704(b) book. However, the 2020 Form 1065 Instructions (“the Instructions??) require partnerships to calculate and report all their partners’ capital accounts using the tax basis method. The Instructions explain that if a partnership did not report its partners’ capital accounts using the tax basis method in the 2019 tax year and did not maintain its partners’ capital accounts under the tax basis method, the partnership may determine its partners’ beginning capital accounts for the 2020 tax year using any one of the following methods: the tax basis method, modified outside basis method, modified previously taxed capital method, or section 704(b) method (each as described in the Instructions).                                          

Notice 2021-13 provides that if a partnership can demonstrate that it took “ordinary and prudent business care?? in following the Instructions to report its partners’ beginning capital account balances using any one of the methods listed above, the partnership will not be subject to a penalty under sections 6698, 6721, or 6722 due to incorrectly reporting its partners’ beginning capital account balance on the 2020 Schedules K-1.

In addition, a partnership will not be subject to a penalty under sections 6698, 6721, or 6722 due to incorrectly reporting its partners’ ending capital account on the 2020 Schedules K-1, or its partners’ beginning or ending capital account balances on Schedules K-1 in subsequent tax years to the extent the error is attributable solely to an incorrect beginning capital account balance on the 2020 Schedules K-1 eligible for relief under Notice 2021-13. The IRS will also waive any accuracy-related penalty under section 6662 for any tax year with respect to any portion of an imputed underpayment attributable to an adjustment to a partner’s beginning capital account balance reported by the partnership for the 2020 tax year to the extent the adjustment arises from an incorrect beginning capital account balance on the 2020 Schedule K-1 eligible for relief under Notice 2021-13.

This penalty relief is in addition to the “reasonable cause?? exception to penalties under 6698, 6721, or 6722 for failing to properly report the partners’ beginning capital account balances.

A partnership that fails to timely file a 2020 Form 1065, Form 8865, and Schedules K-1 is not eligible for relief under Notice 2021-13, nor is a partnership that fails to include a partner’s beginning capital account balance on the Schedule K-1.

If you have questions concerning this blog post or would like more information, please contact us at info@partnershiprepresentative.com.

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