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Tax basis capital reporting penalty relief provided

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Tax Hot Topics newsletter The IRS recently issued Notice 2021-13 to provide certain penalty relief for partnerships’ transition to the new tax basis capital reporting requirement for the 2020 tax year.

In October 2020, the IRS released a draft of the instructions for the 2020 Form 1065 “U.S. return of Partnership Income” which would require partnerships to use a transactional approach to report partner tax basis capital in Item L of the Schedule K-1 and provided alternative methods to determine opening balances for the 2020 tax year for partnerships that did not previously report or maintain tax basis capital accounts. For more details on the 2020 draft Form 1065 instructions, see our story “New method provided for tax basis capital reporting.”

Along with the draft Form 1065 instructions, the IRS issued a news release, which expressed the intent to issue a notice providing additional penalty relief for the transition to the tax basis capital reporting requirement for the 2020 tax year.

Notice 2021-13 provides that a partnership will not be subject to a penalty under Sections 6698 (failure to file partnership return), 6721 (failure to file correct information returns) or 6722 (failure to furnish correct payee statements) due to the inclusion of incorrect information in reporting its partners’ beginning capital account balances on the 2020 Schedules K-1 if the partnership can show that it took ordinary and prudent business care in following the 2020 Form 1065 Instructions to report its partners’ beginning capital account balances using one of the permitted methods, as outlined in the instructions. Errors in reporting the partners’ ending 2020 capital accounts or the partners’ beginning or ending capital account balances for taxable years after 2020 are also eligible for relief to the extent that they result solely from incorrect information reported in beginning capital balances that are eligible for relief under the notice. Partnerships will also be eligible for waiver of accuracy-related penalties under Section 6662 for any imputed underpayment attributable to errors that qualify for relief under the notice.

For purposes of determining eligibility for penalty relief under Notice 2021-13, “ordinary and prudent business care” is defined as “the standard of care that a reasonably prudent person would use under the circumstances in the course of its business in handling account information.” The IRS specifically noted that “capital account balances are part of a partnership’s books and records and must be maintained accordingly,” indicating that Notice 2021-13 will not provide relief where a partnership fails to maintain tax basis capital accounts altogether. Penalty relief is also not available to partnerships that fail to timely file a 2020 Form 1065, Form 8865 or Schedules K-1 or that fail to include a partner’s beginning capital account balance on Schedule K-1.

Notice 2021-13 provides welcome assurance to partnerships that make a good-faith effort to comply with the new tax basis capital reporting requirement for the 2020 tax year. Nevertheless, the tax basis capital accounts compiled by partnerships for the 2020 tax year will serve as the foundation for tax basis capital reporting for future tax years. Accordingly, partnerships should make every effort to ensure the accuracy of the tax basis capital accounts they report for their partners for the 2020 tax year.

Contacts:
Grace Kim
Principal, Partnerships
Washington National Tax Office
T +1 202 521 1590

Jose Carrasco
Senior Manager, Partnerships
Washington National Tax Office
T +1 202 521 1552

Whit Cocanower
Senior Associate
Washington National Tax Office
T +1 202 521 1541

Sarah Barlow
Senior Associate
Washington National Tax Office
T +1 202 521 1505

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