--- title: "Update: Partnership Audit Proceedings, Post-TEFRA" description: What does the TEFRA repeal mean for your clients and estate planning practice? Most agreements drafted prior to November 2015 require changes. Learn why. image: https://info.wealthcounsel.com/hubfs/blog/IRS_building.jpg --- [![WealthCounsel](https://info.wealthcounsel.com/hs-fs/hubfs/WealthCounsel%20Logo%202018/WC-Flag-Logo-Rev.png?width=800&height=93&name=WC-Flag-Logo-Rev.png "WealthCounsel")](https://www.wealthcounsel.com/) ![WealthCounsel Blog](https://info.wealthcounsel.com/hs-fs/hubfs/Blog_Header.png?width=2800&name=Blog_Header.png "WealthCounsel Blog") # [Update: Partnership Audit Proceedings, Post-TEFRA](https://info.wealthcounsel.com/blog/update-partnership-audit-proceedings-post-tefra) Feb 15, 2016 5:00:00 AM  ![The recent repeal of TEFRA will affect your clients. Learn how to get partnership and operating agreements updated in this blog. ](https://info.wealthcounsel.com/hs-fs/hubfs/blog/IRS_building.jpg?width=827&name=IRS_building.jpg "The recent repeal of TEFRA will affect your clients. Learn how to get partnership and operating agreements updated in this blog. ") Keeping current on issues of taxation, audit procedures, etc. is no easy task for an estate planning practice. The Tax Equity and Fiscal Responsibility Act (“TEFRA”) was enacted in 1982 to standardize audit procedures and close tax loopholes. The related reporting and audit procedures for electing large partnerships went into effect in 1998. In November 2015, the Bipartisan Budget Act of 2015 ("BBA) was signed into law, [**resulting in repeal of the TEFRA partnership audit regime**](https://www.wealthcounsel.com/articles/2016/tefra-repeal-essential-changes-to-agreements). The Bipartisan Budget Act of 2015 was part of a budget agreement by lawmakers to avoid government default. The new Act repealed both the TEFRA audit rules and the unified audit procedures for ELPs. It replaced them with new rules designed to streamline partnership audits. These new rules allow the IRS to assess and collect taxes resulting from partnership audits at the partnership level instead of passing the adjustments through to the partners. What follows is a brief summary of the former partnership audit rules under TEFRA, and the new partnership audit procedures under the BBA. ## ***Partnership Tax Reporting Generally*** Although a partnership is not a tax-paying entity, it must file a Form 1065 information return to report its income, gains, losses, deductions, and credits. Those tax items pass through the partnership, appear on each partner’s Schedule K- 1, and are reported on each partner’s individual tax return. ### ***TEFRA Partnership Audit Rules*** Under TEFRA, many partnerships are subject to unified federal tax audit proceedings, designed to facilitate partnership tax audits by determining adjustments at the partnership level rather than requiring the IRS to audit each individual partner. Key aspects of the TEFRA regime include: 1. **Tax Matters Partner** Any partnership subject to the comprehensive unified audit proceedings is required to have a tax matters partner. The tax matters partner must be a “general partner,” and must either be (i) designated as tax matters partner by the partnership or, if no designation has been made, (ii) the partner with the largest profits interest. 1. **Two-Stage Audit Proceeding** The TEFRA unified federal tax audit proceedings generally consist of two stages: a partnership-level proceeding followed by partner-level proceedings. A partnership-level proceeding involves the partnership as a whole and is typically held after the IRS has identified an issue with the partnership’s information return. In a partnership-level proceeding, “partnership items” may be adjusted. Once the partnership-level proceeding has taken place, the IRS issues a Notice of Final Partnership Administrative Adjustment (“FPAA”), which is subject to judicial review in the Tax Court, the Court of Federal Claims, or federal district court. The reviewing court has jurisdiction over all partnership items, including allocation of partnership items among the partners and determination of the applicability of penalties or additional tax relating to an adjustment of a partnership item. Following judicial review, the IRS’s partnership item adjustments become final, and the IRS may initiate partner-level proceedings to make related adjustments to the individual partners’ tax liability. 1. **Small Partnership Exemption** A “small partnership” is exempt from the TEFRA unified audit rules. A partnership is considered a “small partnership” if it has ten or fewer partners, each of which is an individual (other than a non-resident alien), a [**C corporation**](https://www.wealthcounsel.com/articles/2014/getting-appreciated-real-estate-out-of-c-corporations-part-i), or the estate of a deceased partner. Any partnership having a disregarded entity as a partner cannot be a “small partnership,” regardless of its total number of partners. A husband and wife are treated as one partner for purposes of determining whether a partnership is a “small partnership.” Although exempt from the unified audit rules, a “small partnership” can elect to be subject to them. ### ***BBA Partnership Audit Rules*** The 35-year old TEFRA partnership audit rules were replaced by new rules under the BBA for all partnership taxable years as of December 31, 2017. If desired, partnerships can opt in to the new rules now. Key aspects of the BBA partnership audit regime include: Under the new rules, the burden is on the partnership to calculate and collect individual partners’ shares of the partnership tax liability, a task complicated by the fact that former partners may share in the liability and new partners may not have been associated with the partnership in the year the liability was actually incurred. The BBA instructs the IRS to provide guidance and procedures by which a partnership’s imputed underpayment may be adjusted. ## ***Takeaways*** The new partnership audit rules signify quite a change in the manner and method of auditing partnerships. Stand by for further IRS guidance. In the meantime, partnerships and [LLCs taxed as partnerships](https://info.wealthcounsel.com/blog/choosing-a-federal-tax-structure-for-your-llc) should work with advisors to consider (1) whether an early “opt in” to the rules makes sense, (2) any amendments needed to bring existing agreements into compliance with the new rules, (3) whether the small partnership opt out provisions are available, and (4) whether the alternative audit regime is desirable. WealthCounsel is committed to staying abreast of the legislative, regulatory, and judicial landscape pertaining to taxation and enabling our members to efficiently adapt to them. 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