Tax Reform Friday: California Passes Partnership Audit Rules


California has joined a small group of states that have passed legislation conforming to federal partnership audit rules. As reported by Laura Mahoney in the Daily Tax Report: State (subscription required), California’s legislature has passed S.B. 274, which has been sent on to the governor for approval.

Enacted in 2015 and applicable for returns filed for the 2018 tax year and beyond, the federal partnership audit rules were designed to impose audits at the partnership entity level. The goal of the bill is to provide relief to taxpayers in conformity to the federal partnership audit changes enacted in 2015, and is intended to go into immediate effect.

The California bill adds a new section to the California Revenue and Taxation Code that requires a partnership to file a report with California when the entity is issued an adjustment under I.R.C. § 6225 because an item required to be shown on its federal partnership return is changed or corrected by the I.R.S. Each change or correction must be reported to the Franchise Tax Board (“FTB”) within six months of the final determination.

The new rules also include an option for partnerships to request a different election from their federal election, so long as the amount of tax is properly calculated and the partnership establishes to the satisfaction of the FTB that such election does not impede the state’s ability to collect taxes.

California joins three other states, Arizona, Georgia, and Hawaii, in passing legislation to address partnership audit rules at the state level in response to federal changes, all of which have indicated that they substantially conform to the new federal rules.

Arizona and Georgia require partnerships to report federal changes within 90 days. Hawaii conforms to I.R.C. § 6221, 6222, 6223, 6225, and 6226, but has also specified that any election under I.R.C. § 6221(b) to not have audits assessed at the entity level for federal tax purposes is also effective for Hawaii state tax purposes.

As the new federal partnership audit regime for tax years beginning in 2018 and beyond takes effect, more states are likely to consider whether they need to address federal changes. The Multistate Tax Commission is currently in the process of developing a model statute for states to incorporate conform to federal partnership audit rules, but it remains to be seen whether states will continue to adopt similar provision to the new federal partnership audit structure.

Continue the discussion on Bloomberg BNA’s State Tax Group on LinkedIn: How should states address the new federal partnership audit rules?

For more information on the impact of Pub. L. No. 115-97, examine Bloomberg Tax’s Tax Reform Roadmap, showing detailed comparisons between pre-reform law and impending changes, with pertinent cites attached.

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