|
Business partners who break up
will face tax consequences
By Cora M. Barnhart •
Bankrate.com
Nov. 18, 1999 -- Breaking up is hard to do.
It can be even harder when it involves business partners at the
end of the road.
Partnerships split up for a variety of reasons.
Substantial losses might force an entire business to halt operations
and shut down. Other situations might involve a partner who wants
out selling a major share of the business.
If the business ceases to operate or more than
50 percent of it is sold within one year, the IRS sees it as a partnership
termination. Why is this breakup so important? As this tax tip explains,
when a business partnership calls it quits, someone is going to
have to do some housekeeping in the tax department.
Making
tax years conform
Partnerships don't file separate tax returns. Instead, partners
report their shares of income on their individual tax returns. One
of the biggest challenges faced by a new partnership is to select
a tax year that conforms to the partners' tax years. The more
partners there are, the less likely it is that every one of
them starts out with the same tax year.
Tax time isn't the only time that requires partners
being consistent in selecting a tax year. When a partnership ends,
all the parties need to be aware of the tax consequences on the
partners.
The first thing the parties involved should
keep in mind is that the partnership's tax year will end on the
date of the partnership's termination. This will be either the day
the partnership shuts down its operations or concludes the sale
of more than 50 percent of its business.
Once the termination date is determined, it
is very likely that it will fall well before the end of the tax
year that the partners had been agreed upon. If this is the case,
these partners will find themselves with a short tax year on their
hands.
Dealing
with a short tax year
An easy way to think about a short tax year is to imagine a partnership
that currently uses a calendar year as its tax year. If it ceases
operation on June 30, for example, the partnership will have a short
tax year for the period from Jan. 1 to June 30. The partnership
will have to file Form 1065.
While partnerships usually file this form as
an information return, it must also be filed in situations where
partnerships must report a short period due to a termination. The
return is due the 15th day of the fourth month following the termination
date.
If a partnership needs more time to file its
return, it should file Form
8736 by the regular due date of its Form 1065. The automatic
extension is three months.
Other
special circumstances
If a merger or division ends the partnership, the IRS recommends
consulting Regulations section 1.708-1(b)(2). Also, partnerships
sometimes convert to a limited liability company that is classified
as a partnership for federal tax purposes. If this is the reason
a partnership ends, bear in mind that this doesn't terminate the
partnership in the mind of the IRS.
The IRS also offers an overview of tax consequences
of partnerships in its Publication
541.
-- Posted Nov. 18, 1999
|
