Law Firms Urge Clients to Prepare for New Federal Rules on Partnerships and LLCs

New federal rules relating to partnerships and limited liability companies have prompted law firms to warn their clients to prepare for a possible IRS audit by reviewing and amending governing documents and designating a partnership representative, the Daily Business Review reported.

The Daily Business Review, which covers legal and business news in South Florida, says that McDonald Hopkins, a law firm with six offices in the eastern U.S., has created an entire program to address the changes partnerships and LLCs may need to make.

These businesses must elect a “partnership representative” who will have sole decision-making power for the company and all shareholders in discussions with the IRS, which will designate one if the businesses don’t. The partnership representative decides whether the partnership or a particular partner will pay any underpayment in taxes the audit finds, Business Review reported.

“This person who serves as partnership representative has unfettered authority to act on behalf of the partnership,” says Jordan August, an associate at Carlton Fields Jorden Burt of Tampa, Fla. “It has become such an issue with partnerships because the new act gives all this authority to the partnership representative. It is imperative that the contractual terms of your partnership or LLC cover and address the manner in which the partnership representative will act on behalf of the partners in the event of an audit, including whether a push out election will be made. In the event that an additional tax is assessed, who will ultimately bear the burden of paying those additional taxes?”

The new rules also potentially shift the tax liability for LLCs and partnerships. Eligible partners need to decide annually whether to opt out of the new rule that provides that if the business is audited it will pay any underpaid taxes at the partnership level, or instead choose to be taxed at the traditional individual partner level, Business Review reported.

The changes are effective Jan. 1, are designed to raise tax revenue and make it easier for the IRS to audit partnerships and LLCs. Traditionally, the IRS audited and assessed tax on the partners or members rather than the entity itself. The new regulations centralize the assessment and collection of unpaid tax directly at the entity level from the partnership or LLC.

“It will be easier for the IRS to do an audit of just one entity, and less expensive for them as well, because they won’t need as many people out in the field,” says Raquel Rodriguez, Miami OMP at McDonald Hopkins. “If the audit is done at the partner level, the IRS currently has to seek out each member and do an assessment.”

The text of the new rules can be found here.