Business Tax Preparation in Montana

New this year for pass-through entities and their owners, IRS Schedules K-2 and K-3 will need to be completed to include items of international tax relevance. If your entity has international financial activity – which could be as simple as holding investments that pay foreign taxes – it will be required to report on these new schedules if it files:

  • Form 1065, U.S. Return of Partnership Income
  • Form 1120-S, U.S. Income Tax Return for an S Corporation
  • Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships

Schedules K-2 and K-3 replace, supplement, and clarify the reporting of certain amounts formerly reported on a partner’s or shareholder’s Schedule K-1 as foreign transactions. These new schedules are longer and will likely require additional time for tax preparers to complete. We expect this will increase the annual cost of completing a pass-through entity income tax return.

The new standardized format assists pass-through entities in providing partners or shareholders with the information necessary to complete their own returns with respect to international tax aspects.  It also allows the IRS to verify tax compliance more efficiently. Failure to file such forms or properly provide these information statements to partners or shareholders can result in significant penalties.

There are nuances to the reporting requirements, such as potentially determining whether each partner’s or shareholder’s respective income tax returns contain Form 1116 (Foreign Tax Credit) or other international tax forms. If applicable, the pass-through entity may be required to file Schedules K-2 and K-3 even if it has no foreign activity itself. To help determine if Schedules K-2 and K-3 are needed, entities should consider surveying the partners or shareholders for certain information to help with compliance.

The IRS has provided some transitional relief that may apply to your entity for the 2021 tax year. Because of these new rules and delays with the IRS accepting these schedules for electronically filed returns, a tax return filing extension may be needed to file a complete and accurate return. The team at AZ can help you determine if an exception to the reporting requirements applies to you.

This article was written by Erin Stockwell, CPA and Shareholder in our Great Falls office.

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