Demystifying Administrative Adjustment Requests

Posted on Nov. 12, 2024

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. She has over two decades of combined legal and accounting experience and has extensive experience dealing with complex tax issues, including partnership audit procedures under the Tax Equity and Fiscal Responsibility Act of 1982 and the Bipartisan Budget Act of 2015.

In this post, Black provides tips for reporting adjustments on administrative adjustment requests and locating all the adjustments the partnership is making, and she explores whether some changes to partnership returns are, in fact, adjustments to partnershiprelated items.

The centralized partnership audit regime enacted by the Bipartisan Budget Act of 2015 created a new way to adjust items on a partnership return. Under the BBA (like its predecessor under the Tax Equity and Fiscal Responsibility Act of 1982), adjustments to partnership-related items (PRIs) are made at the partnership level. A PRI is any item or amount that: (1) is on (or required to be on) the Form 1065, “U.S. Return of Partnership Income,” filed by the partnership or required to be maintained in the partnership’s books and records; and (2) is relevant to determining the tax liability of any person under chapter 1, regardless of whether the item or amount has an actual effect on the tax liability of any person. Reg. section 301.6241-1(a)(6). Under this broad definition, nearly every item on the Form 1065 is a PRI, including balance sheet items such as the partnership’s assets and liabilities. Reg. section 301.6241-1(a)(6)(v) contains a list of examples of PRIs which include things such as the character, timing, source, and amount of the partnership’s income, gain, loss, deduction, or credit, and the amount and character of partnership liabilities.

In my prior post I discussed why it’s important to know what adjustments are included in an administrative adjustment request (AAR) and the ways the IRS can adjust an AAR (both the adjustments in the AAR and any imputed underpayment (IU) calculated by the partnership). In this post I hope to expand on this and get more into practical considerations, including how to report adjustments on an AAR and tips on how to make sure you’ve located all the adjustments the partnership is making. Finally, I will explore whether some changes to the partnership return are, in fact, adjustments to PRIs. Now that we’ve figured out what the adjustments are, let’s discuss how to report those adjustments on an AAR.

JENNIBLACK

How to Report Adjustments on an AAR

Form 8082, “Notice of Inconsistent Treatment or Administrative Adjustment Request (AAR),” and Form 1065-X, “Amended Return or Administrative Adjustment Request (AAR),” which are the forms used to file an AAR (which form is used depends on whether the AAR is being e-filed), both use lines on the Form 1065 to report the adjustments being made in the AAR. The Form 1065-X has the lines from the Schedule K pre-printed on the form while the Form 8082 does not. So, if the AAR forms require reporting based on lines on the Form 1065 and including all line changes could result in the same PRI being adjusted more than once, how should adjustments be reflected on the AAR forms?

From a legal perspective, it likely does not matter which line is put on the form (if the PRI appears on multiple lines), so long as it is clear what PRI is being adjusted and by how much. The instructions to the Form 8082 (which does not have the pre-printed lines) does not specify which line to include on the form if the PRI is located on more than one line on the Form 1065. However, inspiration can be taken from both the Form 1065-X and how the IRS often presents its exam adjustments. As mentioned, the Form 1065-X (which is also used to file AARs) pre-prints the lines from the Schedule K on Form 1065. In addition, the IRS often presents any exam adjustments using the lines on the Schedule K and, on the BBA section of irs.gov, examples of the calculation of the IU also use the lines from the Schedule K. This suggests that perhaps, when deciding which line to include on the Form 8082 for an adjustment to a PRI, the line from Schedule K should be used, in order to conform with the presentation elsewhere and limit opportunities for confusion. Of course, there are many PRIs which are not reflected on the Schedule K, such as adjustments to balance sheet items on Schedule L and reallocations amongst the partners where the aggregate number on the Schedule K remains unchanged. For these adjustments, the adjustment should be presented using the schedule and line the PRI is reported on from the Form 1065 or, if the item is not reported on a line on the Form 1065 (for example, it is included on a schedule or other document attached to the Form 1065), an ample description of the PRI being adjusted should be used. The instructions to these forms should be reviewed at the time the AAR is being prepared to ensure the most current instructions are being followed.

Recommended Steps forLocating AAR Adjustments

These practical steps should help practitioners correctly locate all adjustments to include on an AAR (and in the calculation of the IU) and eliminate duplicates:

1.In order to ensure all adjustments are captured in the AAR, determine which lines on the Form 1065 changed when the return is corrected (that is, by comparing the “as corrected” return with the original return). While lines on the return are not PRIs, seeing which lines changed can assist in locating all PRIs that changed as a result of the correction to the return.

2.Determine what underlying item changed on that line and evaluate it to determine whether it is a separate PRI as opposed to the same item as another line that changed. Evidence of whether there a change to a different PRI includes whether different lines on the Schedule K (or code for a line on the Schedule K) changed, whether there are additional or different factors and criteria for reporting the item on that line, and whether the underlying item is referred to

by a different term. Note that although this is referring to the Schedule K, the same analysis would also apply to the Schedule K-1 (for reallocations) and Schedule K-3.

3.For adjustments to the Schedule K-1, only include the changes to the Schedule K-1 if the PRIs on the Schedule K-1 are being reallocated between the partners and not when the changes to the Schedule K-1s just reflect the change to the overall item included on the Schedule K (or other item on the partnership return).

4.Do not include changes to total, summary, and carryover or reference lines (for example, put the number from Schedule X, line Y on this line) on the AAR as the items on those lines will always be included on other lines on the return.

5.Once all the changed lines are broken down into the underlying items reported on that line, eliminate the duplicates. What remains are the adjustments to include on the AAR.

When filing an AAR, partnerships and their advisers should be mindful as to what a PRI is (for example, the underlying item on the line on the return) and what it is not (the line on the return itself) to ensure PRIs are not adjusted multiple times and to clearly report to the IRS which PRIs are being adjusted. At the same time, partnerships and their advisers should remember that PRIs are not limited to items of income, gain, loss, deduction, or credit to ensure they include all adjustments on the AAR. Hopefully the practical approach presented in this article can help demystify filing AARs, increase practitioner confidence, and result in more accurate reporting of the adjustments to PRIs.

When is an Adjustment Not an Adjustment?

In this section, we will move away from the practical and into the unknown as we explore some more complicated issues. As mentioned, BBA is about adjusting PRIs. “Adjustment” implies change — that is, changing a PRI from how it was originally reported to something different. But is there ever a situation where there is a change to an item on the partnership return and it’s not an “adjustment” to a PRI? Specific items on a Form 1065 (PRIs like ordinary income and capital gain) can appear in multiple places on the Form 1065. But changing that PRI will generally result in a single adjustment (that is, you only adjust the PRI once, not once for every location on the Form 1065). This begs the question: What happens if a PRI that can appear in multiple places on the Form 1065 is reported correctly in some places but not others? Does this result in an adjustment? A partnership adjustment is any adjustment to a PRI (or portion of a PRI).1 To be an adjustment, something has to change, and under the BBA that something must be a PRI. As with many legal questions, it likely depends. This issue is far from clear, and this is largely an esoteric academic exercise, albeit an interesting (opinions may vary on this) one with a potentially large impact.

In situations where the PRI is reported inconsistently on the Form 1065 (for example, the PRI is reported as $X one place and $Y another place), there is likely an adjustment as the underlying PRI is arguably not reported properly and it is changing from being incorrectly reported to properly reported. For example, if a partnership reports that it has $500 of ordinary income on page 1 of the Form 1065 but on line 1 of the Schedule K it reports $400, this is an internal inconsistency on the Form 1065. If ordinary income is the only item on the return, the amount on page 1 should match the amount on line 1 of the Schedule K. In this example, one of those lines is incorrect and it is unclear what the correct amount of ordinary income should be. Is it $500 or $400? In this instance, regardless

of whether page 1 or Schedule K is correct, the underlying PRI (ordinary income) is arguably being adjusted (changed) to be the correct amount.

But what about a situation in which the item is reported correctly and consistently on the partnership return but it is missing from one of the locations it should be reported? This could occur if a partnership failed to include a required attachment to the Form 1065 but where all the PRIs on the missing attachment are reported properly elsewhere on the Form 1065. Is filing an AAR to include the missing attachment an adjustment? What about if the IRS audits the partnership and notices the missing attachment — can it make an adjustment for all the items on the missing attachment? In this case, as opposed to the previous situation of an inconsistently reported PRI, there is no question as to what the PRI is, it’s just missing from one of the places it is reported. As the underlying PRIs did not change, it is arguably not an adjustment to a PRI, although it is adjusting the partnership return.

In both of these cases, it’s important to know what the underlying PRI is. For example, ordinary income is reported on multiple lines on the Form 1065, and it is also allocated to the partners on Schedule K-1. If ordinary income is reported correctly and consistently on the Form 1065 but a partner’s Schedule K-1 omits ordinary income, is this an adjustment to a PRI? In this case, yes. A particular partner’s distributive share of a PRI is a separate PRI from the aggregate of the allocations (that is, a partner’s share of ordinary income versus the partnership’s overall ordinary income).2 See, for example, section 6241(2)(B) (treating a partner’s distributive share as a separate piece in the definition of PRIs) and reg. section 301.6241-1(a)(6)(v)(A), (I). Therefore, changing a particular partner’s distributive share of a PRI is an adjustment that is separate from an adjustment to the aggregate number such that the ordinary income missing from the Schedule K-1 would be an adjustment even if total ordinary income was reported correctly on the Form 1065.

If the change to the return does not result in an adjustment to a PRI, what impact does that have? Potentially a lot. Under section 6225 and reg. section 301.6227-2(a), an IU is calculated on adjustments to PRIs. If there is no adjustment to a PRI, there is arguably nothing to include in the calculation of the IU (and therefore nothing to push out). It couldn’t be an adjustment that does not result in an IU as that still requires an adjustment to a PRI. Does that mean it is nothing? This is unclear. The other complication could be that AARs are only for adjustments to PRIs.3 If there is no adjustment to a PRI, can a partnership file an AAR? Although it is clear that a partnership cannot file an AAR to adjust a non-PRI (for example, items or amounts with respect to payroll taxes, excise taxes, foreign withholding, etc.) as the BBA only applies to PRIs, it is not clear what a partnership can do if it needs to change the partnership return, the change is to a PRI, but there is arguably no “adjustment” for purposes of calculating an IU or pushing out the adjustments.

As a practical matter, if a partnership would like to supplement its return by filing a schedule or form that it originally omitted, given that the IRS and Treasury have not publicly addressed this issue, for a partnership subject to the BBA I recommend filing an AAR for all changes to the partnership return (if the change is to a PRI) and treating the change as an adjustment to a PRI as there may be significant consequences if the position is not upheld by the IRS or a court (like an increased IU with no ability to push out). I recommend that the IRS and Treasury clarify how the situations discussed in this article factor into the calculation of the IU and how they should be reflected on any AAR. This clarification

could provide relief to partnerships that inadvertently failed to include an attachment to the Form 1065, where the items on the attachment are already properly included elsewhere on the Form 1065, and where the change does not result in an overall change to a PRI (for example, if failing to include the attachment results in the partnership not having made a proper election on the partnership return, this is an adjustment).

In my next post on the BBA, I will discuss what to do when there are adjustments to items on the partnership return that do not directly have to do with money. As with much in law, and especially when it comes to that BBA, there may not be clear answers, but I will share my thoughts on how to approach this issue.

FOOTNOTES

1 Section 6241(2)(A); reg. section 301.6241-1(a)(6)(i).

2 As an aside, because a partner’s distributive share is a separate PRI from the aggregate amount, if the aggregate amount is adjusted, the partners’ distributive shares do not need to be adjusted unless the allocation is changing or possibly if the allocation is unclear. For example, if a partnership has two equal partners and increases ordinary income by $100, the partners’ distributive share (half of the $100 adjustment) isn’t changing, it’s still half. But it would be an adjustment if, in addition to increasing ordinary income by $100 the partnership also changed the allocation from 50/50 to 60/40.

3 Section 6227(a); reg. section 301.6227-1(a)

END FOOTNOTES