NAFA member David N. Corkern, J.D., LL.M., aviation attorney with Shackelford, Bowen, McKinley & Norton, LLP, shares information about the recent IRS changes made regarding partnerships and LLCs for aircraft owners.
Do you own an airplane through a limited liability company that is treated as a partnership to preserve privacy, or to minimize tax or other liability exposure? Or in which the airplane is held in a partnership of all “natural persons” (i.e. human beings)? Regardless of the reason, you’ll want to be aware of the recent changes made to the way those partnerships/limited liability companies (LLCs) are treated by the IRS during an audit.
In 2015, with the passage of the Bipartisan Budget Act, the U.S. Congress significantly revised the manner in which partnerships/LLCs are audited. (While LLCs differ from partnerships under state law, they are treated and taxed as partnerships by the IRS, unless they have elected to be taxed as corporations. All references to “partnerships” in this article refer to such LLCs as well.)
The IRS has issued regulations known as the Centralized Partnership Audit Regime (“CPAR”), effective for audits of partnership tax years beginning on or after January 1, 2018. The CPAR requires that all partnerships designate a “partnership representative.”
This designation must be made for each tax year of the partnership and replaces the “tax matters partner” under the old rules. Unlike the tax matters partner, the partnership representative may be someone other than a partner. Do exercise caution when choosing your new partnership representative, since the IRS will not deal with any other person or entity in case of a tax audit. In addition, the CPAR gives the partnership representative greater powers than the former tax matters partner – to bind the partnership and all of its partners in negotiations with the IRS, notwithstanding any contrary provision in the partnership agreement.
CPAR also changes the way in which tax adjustments are made. Prior to CPAR, if an audit resulted in additional taxes, penalties, and interest due for the audited tax year, those adjustments would have been made at the partnership level and each partner’s return also was adjusted. The net result of the pre-CPAR audit was that taxes, penalties, and interest were collected from those who were partners in the audited tax years.
Now under CPAR, the IRS will assess all taxes, penalties, and interest against the partnership, which shifts the burden to current partners, and not to those who were partners for the years under review.
For example, assume that “High-Flying, LLC” owns an aircraft. From 2012 through 2016, individuals A, B, and C were equal partners in High-Flying, LLC. When C sold his interest to D in January, 2017, D became an equal partner with A and B in High-Flying, LLC. If, after audit, the IRS determines that additional taxes are owed by High-Flying, LLC for tax year 2016, High-Flying, LLC will bear that cost, and D must pick up the tax tab for the former partner, C, absent an “opt-out” or “push-out election” discussed below.
How can a new partner be protected from bearing someone else’s tax liability under CPAR? There are two ways to do so:
First, a partnership with fewer than 100 partners and no ineligible partners (e.g., partnerships, trusts, and LLCs taxed as partnerships) may elect out of CPAR. This “opt-out” election is made yearly on the partnership’s tax return.
Second, a partnership may use a “push-out” election to shift the tax audit adjustments to former partners. The “push-out” election also must be made yearly on the partnership’s tax return.
If you are thinking of buying or selling an interest in a partnership or limited liability company that owns an aircraft, pay close attention to the shifting tax liability created by CPAR. These rules are somewhat complicated and it’s always a good idea to consult an expert before amending any partnership agreement to comply with CPAR.
This article was originally published in Business Aviation Advisor on July 1, 2019.