Estate Planning and New IRS Centralized Partnership Audit Rules: Impact on Trusts Holding Partnership Interests

Description

The new partnership audit rules, which allows the IRS to audit partnerships and assess tax at the entity level, will have a massive impact on trusts holding partnership assets. The widespread use of family partnerships, in particular, will require estate planning counsel and advisers to evaluate their wealth transfer structures to determine whether existing trusts face exposure to tax liabilities arising from prior years operations of partnership investment and business operations.

The new audit regime mandates entity-level audits and assessments of all businesses operating as partnerships and filing Form 1065. Under the rules, specific partnerships can elect out of the centralized audit process, as long as all partners are eligible. However, the regulation explicitly excludes trusts—whether revocable or irrevocable—from the definition of “eligible partners” who may opt out of the new audit regime.

The new rules would require partnerships, including tiered structures, to appoint a single representative to respond to audit inquiries and act on any assessments. Partnerships which are assessed tax must choose between paying an entity-level tax, or “pushing out” the adjustment to its partners, who must then recalculate their tax liabilities to account for their share of the assessment.

For trusts holding partnership assets, the inability to opt out of the new audit regime creates the potential for unforeseen and adverse tax consequences. Estate planning advisers must examine the structure of trust partnership holdings to avoid potentially costly tax exposure.

Listen as our expert panel provides a practical look at the estate planning challenges arising from trust ownership of partnership shares under the new centralized partnership audit rules.