Guidance is Needed on the Impact of Partnership AAR Adjustments on AMT

By Bill Wilson, CPA-Dallas

 

In preparing Forms 1040 for tax years ending after 2020, tax preparers were surprised to find that in some cases decreases to a partner’s tax resulting from amended BBA partnership returns resulted in a substantial increase in AMT. This is due to relatively recent changes the IRS made to the Form 6251 instructions without discussion or input from the tax practitioner community.

 

Administrative Adjustment Requests (AARs)

 

As most practitioners are aware, the Bipartisan Budget Act of 2015 (BBA) introduced a completely different process for amending Forms 1065 subject to the centralized audit procedures. A BBA partnership amends its Form 1065 by filing an Administrative Adjustment Request (AAR). While a comprehensive discussion of the AAR process is beyond the scope of this article, a brief discussion of the process as it applies to AARs that do not create an imputed underpayment (i.e., do not increase tax) is necessary.

 

While AARs that give rise to an “imputed underpayment” (a tax liability at the partnership level) can either be pushed out to the “reviewed year partners” (those who were partners during the tax year being amended) or paid by the partnership, AARs that do not give rise to an imputed underpayment must be pushed out to the partners in a process somewhat similar to what would have been the case if the partnership had issued amended Schedules K-1. 

 

However, to reduce burden on both the IRS and the reviewed year partners, the BBA “push out” process deviates from the traditional process of having the partnership issue amended K-1s and requiring the partners to file amended returns. Instead, the partnership issues Forms 8986 to the reviewed year partners, containing essentially the same information that would be issued on an amended K-1.

 

Passthrough partners, such as partnerships and S corporations, issue their own Forms 8986 to their partners. Non-passthrough taxable partners, such as individuals filing Form 1040, use the information on Form 8986 to prepare Form 8978, Partner's Additional Reporting Year Tax.  Form 8978 essentially fulfills the computational role of an amended return, such as Form 1040X, albeit in a pro forma fashion. The partners do not actually file amended returns. Instead, they add the additional reporting year tax to the tax reported on the tax return filed for the year in which they receive the Form 8986. 

 

The term “additional reporting year tax” is the amount by which a partner’s reviewed year(s) Chapter 1 taxes would increase or decrease if the partner’s taxable income amounts for the partnership years being corrected were recomputed by taking into account the reviewed year partner's share of the partnership adjustments. See Reg. Section 301.6227-3.

 

If Form 8978 results in a positive additional reporting year tax, the positive amount is added to the partner’s Chapter 1 taxes for the reporting year. Chapter 1 taxes are generally income taxes. The 2022 instructions to Form 8978 provide that Chapter 1 taxes include taxes from Sections 1 through 1400Z-2 of the Code, as well as certain amounts the Code treats as Chapter 1 taxes.

 

In summary, an individual receiving a Form 8986 resulting from a partnership AAR follows the foregoing procedures to calculate a proforma positive or negative tax resulting from those prior year partnership corrections and reports the positive or negative tax on the tax return for the reporting year (the year in which the partner received the Form 8986) as an addition to (or subtraction from) the partner’s Chapter 1 tax.

 

The additional reporting year tax does not arise from current year taxable income. Instead, the process uses the partner’s reporting year tax return as a mechanism to report the tax increase or decrease that otherwise would have been reported on an amended partner return. This was designed solely as a matter of administrative convenience to make the filing of partner level amended returns unnecessary. The resulting positive or negative tax is the result of partnership adjustments from the amended return year.

 

Impact on the AMT Computation for Individuals

 

Noncorporate taxpayers have an AMT tax liability for a tax year when the "tentative minimum tax" as reported on line 9 of Form 6251 exceeds the taxpayer's regular tax liability as reported on Form 6251, line 10. The greater the excess of line 9 over line 10, the greater the AMT.  

 

Form 6251, line 10 is computed by taking Form 1040 or 1040-SR, line 16 and making certain adjustments. The instructions to Form 1040, line 16, provide that the total on line 16 includes several taxes including “Tax from Form 8978, line 14.” In other words, positive additional reporting year tax from a BBA AAR will increase current year regular tax for AMT purposes. Increasing regular tax on line 10 decreases the difference between tentative minimum tax on line 9 and regular tax and thus decreases (or in some cases eliminates) current year AMT. This taxpayer favorable change aroused little attention when it was added to the instructions in 2019. 

 

In 2021, the instructions to Part II, line 10 of Form 6251 were changed. They now provide that, “If you file Form 8978, Partner's Additional Reporting Year Tax, you will need to decrease the amount you report on Form 6251, line 10, by any negative amount reported on Form 8978, line 14 (treated as a positive number).” In the case of taxpayer favorable AARs, this results in a decrease to the amount on line 10 and, in many cases, creates or increases the current year AMT liability, despite the fact that the decrease arising from Form 8978 is generally caused by prior year changes to partnership items.

 

Need for Guidance

 

These changes were not discussed publicly and came to light primarily in 2021 when preparers noticed unexpected increases in AMT liabilities. The only apparent authority for including positive or negative additional reporting year tax in regular tax for AMT purposes is found in the Form 6251 instructions. There are no examples in the regulations or sub-regulatory guidance providing for this result. In late 2022, some tax professionals asserted that the IRS’s position, as set forth in the 2021 Form 6251 instructions, was technically flawed. See “Tax Pros Question IRS Stance on Push-Outs and AMT” Tax Notes, Oct. 14, 2022. Despite criticism in the tax press, the Form 6251 instructions remain unchanged.   

Comments

[Bill Wilson]

No guidance, to my knowledge. I was recently on a panel with an IRS National Office Passthroughs Attorney where we briefly discussed the topic. She seemed to think the AMT statute makes its applicability clear. However, you can see from the Tax Notes article there is wide disagreement in the tax community.

[Vince Hannigan]

Has any guidance been issued? I have a client that has a big push out credit, but may not benefit from it due to the AMT. I see that the draft instructions to the Form 6251 still say to decrease the regular tax by the credit.