During the period of this update (Nov. 1, 2021, through Oct. 31, 2022), the IRS issued guidance for taxpayers regarding changes made to Subchapter K over the past few years. Also, the Service issued guidance related to foreign partners. In addition, the courts and the IRS issued various rulings that addressed partnership operations and allocations.

Extensions of time to make the election

A partnership must file the Sec. 754 election by the due date of the return for the year the election is effective, normally with the return. Currently, if a partnership inadvertently fails to file the election, the only way to remedy the failure is to ask for relief under Regs. Secs. 301.9100-1 and 301.9100-3, either through automatic relief if the error is discovered within 12 months or through a private letter ruling. To be valid, the election must be signed by a partner.

In several letter rulings during this period, the IRS granted an extension of time to make a Sec. 754 election. In each case, the partnership was eligible to make the election but had inadvertently omitted the election when filing its return. The IRS reasoned that the partnership in each case acted reasonably and in good faith, and it granted an extension to file the election under Regs. Secs. 301.9100-1 and 301.9100-3. In these rulings, each partnership had 120 days after the ruling to file the election. In some cases, the IRS granted the partnerships the extension even though they had relied on a professional tax adviser or preparer when they failed to timely make the election. In most cases, the missed election occurred when a new partner purchases a partnership interest. However, in one situation, the partnership failed to make the election after it had made a liquidating distribution to a partner.

In two situations during 2022, a partnership failed to make the proper election. In the first situation, one of the owners of an upper-tier partnership (UTP) died. The UTP made the proper Sec. 754 election; however, the lower-tier partnership (LTP) did not. The Service granted the LTP an extension to file the election.

The second situation, dealt with a multistep transaction. In this instance, the taxpayer formed an LLC that was classified for federal income tax purposes as a partnership. Afterward, other entities contributed assets to one of the owners of the LLC, which caused the owner to become a partnership for federal income tax purposes. Later, the new members of the partnership sold part of their partnership interests to the other owner of the LLC and had the rest of their interest in the partnership redeemed. The purchase agreement required the partnership to make a Sec. 754 election; however, the partnership failed to make the election. As with the other situations during 2022, the IRS granted the partnership an extension to file the election.

Missed elections

The Sec. 754 election is allowed when a partner dies and his or her interest is transferred. In many cases, the election is inadvertently missed. The IRS granted an extension of time to make the Sec. 754 election in several situations where a partner died and the partnership missed making the election.

Extensions of time for other elections

There have also been recent letter rulings on requests to extend the time to make other types of elections, including entity elections and qualified opportunity fund elections.

Entity election

Foreign entities formed as LLCs that want to be taxed as a partnership in the United States must make an election on Form 8832, Entity Classification Election. Without this election, this type of entity defaults to a corporation. In several instances recently, a foreign entity failed to make the election in a timely manner. In each of these instances, the IRS allowed the entity 120 days after the ruling to file the election.

In a different situation, the taxpayer was formed as an LLC and thought it had filed a valid election to be treated as an S corporation. Soon after the election was made, the taxpayer was advised it would be better to be treated as a partnership, so the taxpayer took the steps to change its classification. Later, however, the taxpayer found out that the election to change its initial classification had not been filed timely. The taxpayer had always filed a Form 1065, and its owners had treated the entity as a partnership instead of as an S corporation. The IRS allowed the entity 120 days to file a late entity classification election to be treated as a partnership.

Qualified opportunity funds

Partnerships that qualify as qualified opportunity funds under Sec. 1400Z-2 must also file an election to self-certify their assets using Form 8996, Qualified Opportunity Fund. A number of partnerships missed the deadline for the election during 2022. However, how the IRS handled the missed election depended on how the partnership reported the election. For example, in several situations, the partnership’s accountant filed a Form 1065 along with the Form 8996 after the due date of the tax return. The IRS accepted the tax return and determined the election was timely filed. In other instances, the partnership filed Form 1065 timely but failed to include Form 8996. In this situation, the IRS granted the partnership 60 days to file either an amended tax return or Administrative Adjustment Request to make the election. In the last factual variation, partnerships did not file either a Form 1065 or Form 8996 and requested additional time to file the election. In this instance, the partnerships were granted only 45 days after the ruling to file the election.