Keeping up with tax law can feel a little like aiming at a moving target. A court decision can change how a familiar rule is interpreted, new IRS guidance can change a process, and sometimes a reporting requirement you’ve never thought about suddenly applies to you.
A New Standard for Limited Partners
For partnerships, a recent Fifth Circuit decision brings an important tax question back into the conversation. When does a limited partner’s share of partnership income become subject to self-employment tax?
Generally, partners include their share of partnership business income when calculating net earnings from self-employment. There is an exception for certain limited partners, but that exception has created plenty of debate over who actually qualifies.
In August, the Fifth Circuit weighed in with a new standard. Having the title of “limited partner” isn’t enough, but a partner doesn’t necessarily have to sit completely on the sidelines either. Instead, the court looked at whether the partner plays a significant role in managing or running the business.
That still leaves some gray area. The court didn’t draw a clear line around how much involvement is too much, which makes what a partner actually does within the business important.
As partnerships head into year-end planning, this is a good time to look at more than the distributions themselves. If a limited partner’s share of income has been excluded from self-employment earnings, take a closer look at what that partner actually does within the business. Are they primarily an investor, or are they making business decisions, managing employees, overseeing operations or otherwise involved in running the company?
The Fifth Circuit didn’t give taxpayers a checklist for where that line falls, which means the facts will matter. For partnerships with active limited partners, that makes their role in the business worth discussing with their tax professional as part of year-end planning.
Making Rollovers a Little Less Complicated
Anyone who has tried to move retirement savings from one plan to another knows the process isn’t always as simple as it sounds. Different plans can have different requirements, paperwork can go back and forth, and yes, paper checks are still surprisingly common.
New IRS guidance is looking to make that process more consistent. The IRS and Treasury have introduced optional sample forms and procedures designed to help the financial institutions and retirement plans on both sides of a rollover communicate directly, securely exchange information and move funds electronically when possible.
Under the proposed process, a rollover would follow five basic steps:
- The participant starts the request with the plan receiving the retirement funds.
- The receiving plan contacts the current plan and sends the rollover request.
- The current plan verifies the information and confirms the funds are eligible to be rolled over.
- The receiving plan confirms it can accept the funds and selects the transfer method.
- The funds are transferred directly to the receiving plan.
The underlying tax rules for rollovers aren’t changing, but the process may become easier to navigate. That’s especially timely as year-end approaches and taxpayers take a closer look at retirement accounts, including money that may still be sitting in a former employer’s plan.
If you’re considering a rollover, how the funds are moved still matters. A direct rollover generally allows eligible retirement funds to move from one plan to another without being included in income at the time of the transfer. When the funds are paid to you instead, additional rules come into play, including the familiar 60-day window for completing an eligible rollover.
Employers should keep an eye on this guidance too. Businesses that sponsor retirement plans may eventually see changes in how rollover requests are handled, including more standardized communication between plans and a greater move toward electronic transfers. For now, the new forms and procedures are optional, but they give us a good look at where the rollover process may be headed.
Foreign Gifts Can Carry Reporting Requirements
Receiving a gift or inheritance doesn’t usually make you think about filing another tax form, especially when the gift itself may not be subject to U.S. income tax. When that money or property comes from outside the United States, though, there can still be an important reporting requirement.
If a U.S. person receives more than $100,000 during the year in gifts or bequests from a nonresident alien or foreign estate, the recipient has to report it to the IRS on Form 3520. Multiple gifts may also need to be added together when determining whether the $100,000 threshold has been crossed.
And it isn’t limited to cash. Property and other non-cash assets count too, which can make determining and documenting the value of what was received a little more complicated.
The important distinction is that a foreign gift can have a reporting requirement even when the gift itself isn’t subject to U.S. income tax. The responsibility to report falls on the U.S. recipient, and overlooking it can be costly. For certain unreported foreign gifts, penalties can start at 5% of the gift’s value for each month it goes unreported, up to 25%.
Form 3520 also has a few filing considerations that make it easy to miss. It is filed separately from your individual income tax return and currently must be mailed to the IRS. For calendar-year taxpayers, it is due April 15. A properly extended individual return generally extends the Form 3520 filing date to October 15 as well.
As year-end approaches, take a look back at any sizable gifts, inheritances or non-cash assets you received from outside the United States during the year. Don’t assume that because something isn’t taxable, there’s nothing to report. Bringing it up with your tax professional early gives them time to determine what reporting may be required.
Before the Year Wraps Up
Not every tax update will apply to you, but the ones that do are much easier to address when they come up before tax season. For business owners, that may mean taking another look at a partner’s role or keeping an eye on changes affecting your retirement plan. For individuals, it could be reviewing an old retirement account or mentioning a foreign gift or inheritance that might otherwise never make it into the tax conversation.
Year-end planning gives us a chance to catch those details while there’s still time to ask questions, gather information and plan for what comes next.