Inconsistently Inconsistent: Open Questions On Inconsistent Treatment Under BBA, Part 2
by Jenni Black
Jenni Black is a managing director in Citrin Cooperman’s national tax office and the practice leader of the tax procedure and controversy practice.
In this post, Black continues her discussion of inconsistent treatment under the Bipartisan Budget Act of 2015 by considering how the rules apply to a partner filing inconsistently if that partner is not a partnership.
This post reflects the author’s personal views and not necessarily those of Citrin Cooperman.
As discussed in part 1 of this article, one of the key features of the centralized partnership audit regime enacted by the Bipartisan Budget Act of 2015 is that partners must report partnershiprelated items (PRIs) on their returns consistent with how the partnership treated those same PRIs. This means the partner must report the item in the same amount, character, and timing as the partnership. Part 1 of this article discussed what happens if a partnership-partner in a BBA partnership files inconsistently from the BBA partnership, the disparities that exist depending on whether the partnership-partner is subject to BBA or not, and the open question regarding what happens with adjustments that do not result in an imputed underpayment (ATDNR). Part 2 of this article continues the discussion of things that make you go “hmmm” regarding inconsistent treatment under BBA by looking at how the rules under section 6222 would work if the partner in the BBA partnership is a pass-through partner but
is not a partnership and the open questions surrounding them.
Section 6222 provides that the IRS “shall” assess “any” underpayment of tax due to a partner’s failure to file consistently with the BBA partnership as if the underpayment was on account of a mathematical or clerical error. Section 6232(d) and reg. section 301.6232-1(d) provide special rules for adjusting partnership-partners if the partnership-partner files inconsistently from a BBA partnership and does not file a notice of inconsistent treatment. But those are the only rules. There are no rules, either in the statute or regulations, dealing with inconsistencies of nonpartnership pass-through partners (for example, S corporations, trusts, estates). Unlike in other areas of BBA, there is nothing in section 6232(d) that applies the rules for partnership-partners to other pass-through partners that are not partnerships.1 While for taxpaying pass-through partners, the rules for inconsistent treatment should be the same as with individual or C corporation partners (that is, any underpayment of tax resulting from the inconsistent treatment can be directly assessed), how would these rules work in cases of pass-through partners that are not partnerships and who do not pay tax (that is, S corporations, trusts, and estates that do not pay tax so who have no underpayment of tax due to the failure to file consistently)? Hmmmm.
As the statute and regulations are completely silent on how to adjust pass-through partners that
1 See IRC sections 6226(b)(4) (applying the rules for push out in tiered structures to partnerships and S corporations); 6232(f)(5) (“for purposes of this subsection, an S corporation and its shareholders shall be treated in the same manner as a partnership and its partners” applying the rules for assessing partners if the partnership does not pay to S corporations and their shareholders. However, as it only applies to this “subsection” it only applies to section 6232(f) and not section 6232(d)).
are not partnerships if those pass-through partners report inconsistently from the BBA partnership (and do not notify), what can the IRS do under section 6222? There is nothing that ostensibly provides the IRS with authority to assess those pass-through partners like it (arguably) does for partnership-partners.2 And, as mentioned in part 1 of this article, the inconsistent treatment rules only apply to direct partners (due to the definition of “partner” in section 7701) so there does not appear to be authority for the IRS to adjust indirect partners directly.3 But could the IRS assess the shareholders of an S corporation or beneficiaries of an estate or trust using the same theory as for non-BBA partnership partners (that is, that any tax attributable to adjustments to the items on the entity’s return are assessed at the partner level)? Under that theory, does the IRS even need regulations given that section 6222(b) provides that “any” underpayment of tax “by a partner by reason of failure to comply” with the consistent reporting requirements, is assessed as if the underpayment was the result of a mathematical or clerical error? Or does “underpayment by a partner” mean that the underpayment has to be an underpayment of a partner, as opposed to meaning that so long as the failure to report consistently is done by a partner (for example, an S corporation direct partner), “any” underpayment attributable to that inconsistent treatment may be assessed as if it were a mathematical or clerical error? Hmmmm.
Although reg. section 301.6222-1(b)(1) refers to adjusting the partner’s return to make the partner’s return consistent with the BBA partnership’s return and determining and assessing any underpayment of tax, it is not clear whether the regulation views those as separate (that is, that the IRS can adjust even without an
2 While section 6232(d) does not expressly reference assessments or imputed underpayments, it says rules similar to section 6213(b) apply to partnership-partners and section 6213(b) is about making assessments without the need for a statutory notice of deficiency. Therefore, I think it is very reasonable to read section 6232(d) to provide assessment authority in the circumstances listed in section 6232(d), which only involve partnerships.
3 This is arguably further complicated by section 6037(b), which requires shareholders in an S corporation to file consistently with the S corporation. If the S corporation partner files inconsistently from the BBA partnership, section 6037(b) would seem to require the S corporation shareholders to file consistently with the S corporation’s inconsistent treatment, unless the shareholder files a notice of inconsistent treatment.
underpayment) or part of the same process (that is, the adjustment causes the underpayment). However, section 6222 only refers to assessing underpayments of tax resulting from a partner reporting inconsistently from the BBA partnership. It does not provide any other remedy if the partner does not report consistently with the BBA partnership and fails to file a notice of inconsistent treatment. Section 6232(d), however, refers to making adjustments to partnershippartners due to a failure to consistent reporting requirements of section 6222. Does this mean there is no remedy if the inconsistent treatment does not result in an underpayment or an imputed underpayment (IU)? Hmmmm . . . more on this another time.
So far I’ve posed a lot of questions without a lot of firm answers. This article is meant to highlight the inconsistently inconsistent rules on consistent reporting under section 6222 (in conjunction with section 6232(d)). By this I mean that section 6222 covers assessments of underpayments of tax due to failing to file consistently with the BBA partnership, and section 6232(d) provides special rules for making adjustments to partnership-partners who file inconsistently without notifying the IRS. The IRS has implemented these rules by providing rules for assessing an IU against a BBA partnershippartner and assessing an underpayment of tax against the partners of a non-BBA partnershippartner. But none of the rules refer to what happens if the adjustments do not result in an underpayment of tax (or IU) or provide any special rules for pass-through partners that are not partnerships.
It’s not clear to me why Congress drafted the statutes in this manner unless it thought it was obvious that the IRS could assess “any” underpayment of tax attributable to a passthrough partner’s failure to comply with section 6222, even if the underpayment is not of the direct partner (dear Congress, it is not). But that doesn’t explain why section 6232 contains special rules for partnership-partners. Perhaps the rules under section 6232(d) were meant to apply only to BBA partnership-partners and were needed to allow the IRS to make adjustments to a BBA partnership without requiring the IRS to follow the normal BBA partnership audit procedures (that is, issue
notices, allow for modification, judicial review, etc.). That could be it. It would have been nice if Congress had made that clear.
But Congress’s lack of clarity doesn’t mean the IRS is without remedy. If the rules only apply for assessing direct partners that have underpayments of tax (or tax resulting from adjustments to PRIs — that is, the IU), then that means no rules in BBA override the general rules for making adjustments and assessments based on incorrect reporting on tax returns. What do I mean? I mean that there is nothing that says the IRS can’t open an audit of a partner (which would be an audit of the indirect partner given there is no entity-level adjustment regime for passthrough entities outside of BBA), adjust the reporting of the PRIs to be consistent with the BBA partnership, and issue a statutory notice of deficiency asserting tax on the adjustment. Under section 6221(a), adjustments to PRIs can only be made at the partnership level under BBA. But if the IRS is just adjusting the partner’s return to be consistent with the BBA partnership’s treatment of the PRI on its return, it’s not adjusting a PRI. The PRI stays exactly how the BBA partnership treated the PRI; it’s just the partner’s reporting of the item on its return that is being adjusted. But this again creates an inconsistent rule — the IRS can directly assess an underpayment of tax in the case of direct partners that have an underpayment of tax (including an IU) but must go through an audit in the case of non-BBA pass-through partners that file inconsistently without notice.
In passing the BBA version of section 6222, Congress appears to have left uncertainty. Specifically, those gaps involve how to deal with inconsistent reporting by non-partnership passthrough partners and how to deal with inconsistencies that do not result in any underpayment of tax for pass-through partners. In a world of Loper Bright, 4 can these gaps can be filled without a legislative fix? Hmmmm. I guess we’ll see.
4
Bright Enterprises Inc. v. Raimondo, 603 U.S. 369 (2024).