Partnership Taxation in The United States - Background

Background

While Subchapter K is a relatively small area of the Internal Revenue Code, it is as comprehensive as any other area of business taxation. The recent emphasis by the Internal Revenue Service (IRS) to stop abusive tax shelters has brought about an onslaught of regulation. Most abusive shelters utilize partnerships in some form.

Aggregate and Entity Concept The Federal income taxation of partners and partnerships is set forth under Subchapter K covering Sections 701–777 of the Code. Subchapter K represents a blending of the Aggregate and Entity concepts.

Aggregate Concept An aggregate concept looks at a partnership as a collection of partners and treats each partner as if he owned an undivided interest in the partnership assets and its operations. For tax purposes, under this concept, a partnership is not a person, it cannot be sued or sue. It is merely a conduit passing income through to the partners for reporting on their individual tax returns. "The aggregate approach reflects the underlying notion that the partnership form generally should affect the tax treatment of the partners as little as possible. Thus it is useful to compare the treatment of a similar non-partnership transaction under general income tax principles."

Entity Concept An entity concept on the other hand looks at a partnership as a separate entity for tax purposes with partners owning equity interest in the partnership as a whole. This treatment is similar to corporations entity approach. Thus a partnership for tax purposes is a person, it can sue and be sued and can conclude legal contracts in its own name. The entity concept governs the characterization "income, gain, losses and deductions from the partnership operations, are initially determined at entity level. These items are then passed through to the partners through their distributive shares."