Clients involved in pass-through entities may soon see more of the IRS.
The agency plans to establish a special area to focus on large or complex pass-through entities, promising to hire more than 3,700 positions nationwide to help with expanded enforcement of “complex partnerships,” corporations and high-income taxpayers. This comes on the heels of the IRS issuing guidance for pass-through entities on reporting negative amounts to the IRS on Schedules K-2 and K-3.
“IRS enforcement activity is on the rise,” said Miri Forster, a partner and national leader of the Eisner Advisory Group LLC’s Tax Controversy and Dispute Resolution practice group in Iselin, N.J. “The IRS has spent time focusing more on partnerships and is hiring agents with lateral partnership expertise. These efforts are allowing the agency to understand specific pass-through issues which could result in tax abuse. [They’re] also using data analytics and AI to select returns with the highest compliance risk.”
“IRS examinations of high-income taxpayers, many of whom have ownership in pass-through entities, are also on the rise,” Forster said.
“The focus is going to be on pass-through entities—partnerships, LLCs and S corps—with the ripple effect on high-net-worth individuals,” said Bill Smith, national director of tax technical services at CBIZ MHM in Washington, D.C. “The target groups have experienced significant reductions in audit rates over the last 10 years.”
“A spillover of this new campaign is likely to be an enhanced spotlight on S corps,” added Steve Parrish, adjunct professor and co-director of the Center for Retirement Income at the American College of Financial Services in King of Prussia, Pa. “The IRS has long been concerned that some S corp owners have tried to dodge payroll taxes by declaring their earnings to be company profits rather than wages.”
Future tax developments loom for pass-throughs, too. “The 20% qualified business income deduction for pass-through businesses has become a tax planning given ever since the enactment of the Tax Cuts and Jobs Act,” Parrish said. “This benefit will disappear beginning in 2026. Considering the government’s need for revenue and the apparent inability in Congress to pass bipartisan legislation, pass-throughs should not assume this tax break will last forever. If Congress doesn’t act on this sunset, there will be a mad rush of business owners to their tax planners beginning in 2025.”
“The best advice is to make sure your financial records and your tax returns are complete and accurate—audit-proof,” Smith said. “As always, don’t let the tax tail wag the business dog: There are still opportunities, like taking advantage of 80% bonus depreciation for eligible property placed in service by Dec. 31, but generally it’s a time to tend towards being fiscally conservative.”
“Clients that fit into the categories mentioned in the IRS initiative should expect more scrutiny and audits,” said Richard Pianoforte, managing director at Fiduciary Trust International in New York.
“The new IRS initiative should serve as a catalyst for clients to be more proactive and responsive in their tax affairs,” Pianoforte said. “Pass-through entities can be a great planning tool when utilized correctly in conjunction with all IRS regulations.”