LB&I compliance goals focus on partnership exams

Business conversation The IRS Large Business and International (LB&I) division outlined its strategic goals for 2020, making clear that the government intends to increase the volume of partnership examinations.

The LB&I Focus Guide provides details on the priorities for LB&I, which is the IRS operating division that oversees tax compliance by C corporations, S corporations, and partnerships with assets in excess of $10 million. In addition to an increase in partnership examinations, the guide also highlights several other important LB&I initiatives, including:

  • Reopening the compliance assurance program
  • Increased use of data analytics in audit and issue selection
  • Compliance campaigns directed at tax reform implementation

The IRS has over the past year undertaken efforts to increase hiring within LB&I to drive these initiatives. In particular, LB&I Division Commissioner Douglas O’Donnell states that in addition to implementing the centralized partnership audit procedures of the Bipartisan Budget Act of 2015 (BBA), LB&I “has many ongoing efforts to increase the volume of audits for pass-through entities.” He added that “employees should expect to see more work in this area in the coming year and into the future.”

These key initiatives and others are highlighted below. Taxpayers should consider how they may impact compliance and take necessary steps to ensure they are prepared to substantiate their tax positions, even if they have not been examined in recent years. Identifying and organizing relevant tax workpapers, supporting documents and key individuals can help prove compliance and prevent penalties.

Partnership examinations LB&I’s focus on the BBA should come as little surprise to taxpayers. Congress’s enactment of the BBA in 2015 was based on the IRS’s difficulty in effectively examining large partnerships and collecting underpayments of tax from partners. While the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA) provided a framework for a centralized examination, the collection of tax from the ultimate partners of certain large partnerships proved to be difficult, especially where the partnership under examination had multiple tiers of pass-through partners.

Provisions in the BBA are intended to ease collection concerns. Default assessment and collection rules under the BBA require the partnership itself to pay any underpayments of tax on behalf of current partners. An alternative assessment and collection regime, known as a “push-out,” allows the partnership to shift the responsibility of payment of the tax to the partners of the partnership for the year under examination. The push-out election, however, comes with an additional underpayment interest charge, which may deter certain partnerships. Congress’s intent in drafting the BBA was clearly to incentivize partnerships to pay underpayments on behalf of the partners.

Partnerships subject to the BBA should strongly consider whether they are prepared for an IRS examination. Beyond defending positions taken on the partnership’s tax return, there are considerable procedural and legal considerations in the governance of the partnership that are implicated by the BBA. For example, the partnership under examination should have procedures in place to determine whether the partnership will pay an underpayment or push-out the underpayment. The partnership must also designate a partnership representative (PR) who will represent the partnership and its partners before the IRS. Partnerships (as well as investors in a partnership) that have not taken into account the impact of the BBA should consult a tax advisor before the partnership comes under examination by the IRS.

Compliance assurance process The 2020 focus guide also highlights LB&I’s efforts to improve compliance assurance procedures (CAP), which is a real-time, pre-filing issue resolution program designed for generally compliant, large taxpayers. After announcing it would no longer accept new applicants in 2016, the LB&I reversed course last year and announced that it would allow new participants to apply. To be eligible to apply for CAP, taxpayers must be publicly traded corporations with audited financial statements, have assets of $10 million or more and not be under investigation by, or in litigation with, any government agency that would limit the IRS’s access to current tax records.

Data analytics The focus guide makes repeated references to LB&I’s increased use of data analytics in driving compliance. Over the past several years, the IRS, like other federal agencies, have made data analytics capabilities a priority. Within LB&I, the large corporate compliance (LCC) program replaced the coordinated industry case (CIC) program and employs data analytics to classify returns of the largest corporate taxpayers based on high, medium and low risk. LB&I couples its analytics of the LCC with feedback from employees in the field and subject matter experts. The focus guide states that this effort, of combining analytics with feedback, will hopefully result in more efficient case assignments and reduce discretionary work sent to the field. As a result, IRS examiners can expect increased campaign work, including TCJA work later this year.

The LB&I compliance campaigns were introduced in January 2017 for areas that LB&I believed present a compliance risk. Each campaign includes a “treatment stream,” which can include an issue-based examination, taxpayer education or outreach, published guidance, or other measures such as soft-letters, which request additional information or seek to inform. In all, the identification of a campaign, coupled with a treatment stream, is designed to increase taxpayer compliance on a particular issue. The number of campaigns introduced by LB&I stands at 61, six of which were retired in the past several months.

Implementation of the TCJA The increase in campaign-related examinations and the introduction of tax reform-related work should also not come as a surprise to taxpayers. LB&I and the Office of Chief Counsel have conducted significant in-person training programs for examiners and other IRS employees related to the TCJA, which became effective in 2017. Taxpayers now have at least one year of reporting TCJA-related items on tax returns, which are now coming under examination by the IRS.

LB&I has already announced a campaign aimed at promoting compliance with taxpayers that had a Section 965(a) inclusion in 2017 or 2018. Taxpayers should determine whether they properly identified their specified foreign corporations and calculated earnings and profits correctly, among other things. It is expected that future LB&I campaigns will target other TCJA-related provisions.

Next steps The IRS has in the past year undertaken great efforts to train its staff and focus examinations, all while increasing its headcount and data analytics capabilities. Legislative changes such as the TCJA and the BBA provide a ripe target for the IRS. It should not be assumed that taxpayers not contacted by the IRS in recent years will stay uncontacted. Preparing for an IRS examination should be an important focus of a business’s tax and legal departments.

Taxpayers can prepare by identifying and organizing relevant tax workpapers, supporting documents and key individuals. Substantiating a tax position through these means, and especially through contemporaneous documentation, helps a taxpayer prove their compliance and prevent penalties.

For more information contact:
Shamik Trivedi
IRS Practice, Procedure, and Regulatory Services
Washington National Tax Office
Grant Thornton LLP
T +1 202 521 1511

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