The Internal Revenue Service (“IRS”) recently released guidance regarding the treatment and reporting obligations of a partnership that becomes a disregarded entity, such as a limited liability company (“LLC”). In the guidance, the IRS considered a situation where one partner bought out the other partner’s interest. The former partner became an at-will employee of the remaining partner. When the buy-out was complete, the partnership terminated under State law because only one partner remained. However, the remaining partner continued to use the partnership’s name and employer identification number (“EIN”) in filing its Federal tax returns.
The IRS concluded that upon termination of the partnership, the business entity became a disregarded entity. Because only one owner remained, the entity was a sole proprietorship. Accordingly, except with respect to employment or excise tax, the remaining owner should have reported all of the income of the entity on his personal income tax return. Further, any IRS notices would be issued to the remaining owner, rather than the entity itself.
The IRS also stated that when a partnership terminates and becomes a disregarded entity, the disregarded entity must retain the same EIN that it used as a partnership. Further, because a disregarded entity itself, rather than its owner, reports any employment tax obligations, the remaining owner acted properly in filing the returns using the partnership name and EIN. Although the entity’s income is reported on the remaining owner’s personal return, the remaining owner should not file employment tax return under the owner’s individual name and identification number.
Real estate investment trusts that deal with LLCs or other taxpayers who have become sole owners of existing LLCs that were partnerships should be aware of these guidelines. In particular, if an LLC formerly operated as a partnership, the current owner(s) should ensure that the LLC has complied with these guidelines to avoid any adverse tax consequences, particularly with respect to employment taxes.
Opinions and conclusions in this post are solely those of the author unless otherwise indicated. The information contained in this blog is general in nature and is not offered and cannot be considered as legal advice for any particular situation. The author has provided the links referenced above for information purposes only and by doing so, does not adopt or incorporate the contents.