Tax News
Repeal of TEFRA and Electing Large Partnership Rules
November 04, 2015
Legislative Actions
The Bipartisan Budget Act of 2015 (H.R. 1314) was just signed by President Obama. Basically the law repeals the so-called TEFRA and “electing large partnership” audit rules and replaces them with a new unified audit and assessment regime. TEFRA language is prevalent in every investment fund agreement. Generally you will see it in the tax matters partner section. The language addresses the rights and obligations of the TMP and the investors in case of an audit. Sometimes a fund would not be covered under TEFRA if it has less than 100 partners, but in most instances it would be because of an investor who is treated as a partnership for tax purposes. Under the TEFRA regime, small partnerships had the option of electing to be audited under TEFRA.

Now all of this is being changed. Instead of electing into TEFRA, partnerships will have to elect-out of the new unified regime if they want to pass the audit onto the individual partners.  If they don’t, basically the IRS can assess and collect the tax from the partnership, de facto eliminating the partnership’s main feature, its tax flow-through. This entity level assessment and collection is the hallmark of the new legislation and was designed to mitigate collection issues the IRS had in the past, particularly with large partnerships. The changes are encompassed by Sec-s 6221-6241 of the Code and will be effective  December 31, 2017. The new law will require some material changes to the operating agreements of existing and newly formed funds. For one, the agreements will have to address electing out of the new regime. Two, if the fund does not elect out, there has to be some language that addresses indemnification of investors who are not responsible for the partnership level assessment, for example, foreign investors for taxes attributable to U.S. investors.

The legislation could be found here.
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Tags: tefra, electing large partnerships, audit