Electing out of the BBA regime under IRC 6221(b)

What the election does

IRC 6221(b) turns the centralized regime off for one taxable year. Under Treas. Reg. 301.6221(b)-1(a), subchapter C of chapter 63 does not apply to that year and the IRS proceeds under the deficiency procedures of subchapter B. The IRM puts it this way: “If the partnership is not subject to the BBA regime, the examination is subject to deficiency procedures at the partner level.” Examiners then follow the investor level statute control (ILSC) procedures in IRM 4.31.5, issuing reports and notices of deficiency to each partner and protecting each partner's own assessment statute.

The election also affects reporting. IRC 6031(b)(1) lets a partnership that elected out amend the Schedules K-1 it furnished, which a BBA partnership generally cannot do. See amended return or AAR.

The election is binding. Treas. Reg. 301.6221(b)-1(e)(1) treats it as an action of the partnership that binds the partnership and all partners, and IRM 4.31.9.7.4 adds that “An election out is deemed valid until the IRS determines that the election is invalid.”

Test 1: only eligible partners

Every statement the partnership is required to furnish under IRC 6031(b) must go to an eligible partner, and the partner must have been eligible for the entire year (Treas. Reg. 301.6221(b)-1(b)(1)(ii)). Eligible partners are:

• individuals;
• C corporations;
• foreign entities that would be C corporations if domestic (per se corporations, default associations, or entities that elected association status);
• S corporations, regardless of who their shareholders are; and
• estates of deceased partners.

Ineligible partners, any one of which disqualifies the partnership, are listed in the regulation and in IRM 4.31.9.7.4.2.1: a partnership or LLC taxed as a partnership; any trust, including a grantor trust; a foreign entity that would not be a C corporation; a wholly owned disregarded entity; an estate other than the estate of a deceased partner; a nominee or anyone holding an interest on behalf of another person; and a qualified subchapter S subsidiary. The IRM notes separately that “Partnerships that have Q-Sub(s) as a direct partner are not permitted to elect out.”

The disregarded entity rule catches many small partnerships. A single-member LLC owned by an individual is not an eligible partner, even though the individual would be. The fix is to hold the interest directly before the year begins, because eligibility is tested for the entire year.

Test 2: 100 or fewer statements

The partnership must be required to furnish 100 or fewer Schedules K-1. Two counting rules apply:

• Required, not furnished. IRM 4.31.9.7.4.2.2 states “the standard is based upon the number of Schedule K-1s required to be furnished, not the actual number of Schedule K-1s furnished.” Partners who bought in or sold out during the year each count, and so does a partner's estate after death (Treas. Reg. 301.6221(b)-1(b)(2)(iii), Example 3).
• S corporation look-through. The Schedule K-1 to an S corporation partner counts as one, and every Schedule K-1 the S corporation must furnish to its shareholders counts too. The IRM example: two S corporation partners with 20 and 35 shareholders produce a count of 57. A partnership with 50 individual partners and one S corporation with 50 shareholders has 101 and cannot elect out (regulation Example 4).

Spouses who each own a separate interest count as two. An estate of a deceased partner counts as one, and the estate's own Schedules K-1 to beneficiaries are not counted.

How to make the election

1. Answer Yes to the elect-out question on Form 1065, Schedule B. The IRM table places it at Question 25 for 2018 to 2020, 29 for 2021, 30 for 2022, 31 for 2023, and 33 for 2024 and 2025; the 2025 Form 1065 instructions confirm Question 33. Enter the total from Schedule B-2, Part III, line 3.
2. Attach Schedule B-2 listing each partner's name, correct TIN and federal tax classification, with an affirmative statement that each is an eligible partner (Treas. Reg. 301.6221(b)-1(c)(2)). For an S corporation partner, also list each shareholder's name, TIN and classification.
3. File the return on time, including extensions. The election cannot be made on Form 1065-X or on a late return.
4. Notify every partner. The regulation says the partnership “must notify each of its partners of the election within 30 days of making the election in the form and manner determined by the partnership.”
5. Repeat the analysis next year. The election applies to one taxable year only.

Do not designate a partnership representative for an elected-out year; the Form 1065 instructions require a PR only “unless the partnership has made a valid election out of the centralized partnership audit regime”.

The timely-return requirement

IRC 6221(b)(1)(D)(i) requires that the election be made with a timely filed return. The IRM draws the consequences: “Delinquent returns and substitute for returns (SFRs) are subject to the BBA regime because an election out of the BBA regime can only be made on the eligible partnership’s timely filed return.” A late return that checks the box is automatically invalid, and a constructive or de facto partnership that never filed is under BBA.

Examiners use the TC 150 date to test timeliness but may accept proof of timely filing such as e-file receipts or certified mail slips, and must account for disaster postponements under IRC 7508A (IRM 4.31.9.7.4.1). There is one useful exception: if a partnership files early without the election and then files a superseding return on or before the due date that includes it, the election on the superseding return is valid if the other requirements are met (IRM 4.31.9.3).

How the IRS reviews an election out in an exam

When a return with an election out is selected, the examiner verifies the election on Form 15260 by cross-checking Schedule B-2 against the Schedules K-1, IDRS and other tools, and researches any LLC partner reported as a corporation to confirm it actually files as one (IRM 4.31.9.7.4.2.1.1). The examiner and manager have discretion to accept the election where Schedule B-2 information was transposed and the IRS has information that fixes it.

Three defects are automatic denials that do not need a referral to the BBA point of contact: a late return, an ineligible partner, and more than 100 Schedules K-1. Any other ground for invalidating the election requires a mandatory referral before the partnership is notified (IRM 4.31.9.7.2 and 4.31.9.7.4.3). The IRS notifies the partnership on Letter 6062, mailed separately and no earlier than Letter 2205-D, and then gives the partnership 30 days to file a BBA administrative adjustment request before the notices of administrative proceeding are issued.

The partnership cannot appeal the invalidity determination on its own: “A determination that an election out is invalid is not immediately and independently appealable.” If substantive issues are also unagreed, Appeals considers both, and the examiner works the case under dual procedures as both a BBA and an elected-out audit so that assessments are protected either way. Once the election is invalid, the IRC 6235(a)(1) date is set to three years after the Form 1065 filing date.

Revoking an election out

An election out cannot be revoked without IRS consent (Treas. Reg. 301.6221(b)-1(c)(1)). In an exam, the partnership generally has 30 days after Letter 2205-D to request revocation on Form 15288, one form per year, signed by a person authorized to sign the Form 1065 and accompanied by Form 8979 designating a PR (IRM 4.31.9.7.5). A manager approves or rejects the request. After the 30 days, the IRM is restrictive: “Only under unusual circumstances and when it is administratively convenient for the IRS and the partnership, will the IRS consider a request to revoke an election out of the BBA regime if received after the first 30 days upon the issuance of Letter 2205-D”. If the revocation is accepted, the partnership gets 30 days to file a BBA AAR before the NAPs.

The practical difference: after revocation the year is examined in one partnership-level proceeding that binds all partners and carries the modification and push-out options; without it, each partner faces its own deficiency proceeding. The trade-off is an entity-level IU computed at the highest rate unless the partnership modifies or pushes out.

Elected-out partnerships in tiered structures

Electing out does not insulate the partnership from a BBA audit of a partnership it invests in. Treas. Reg. 301.6221(b)-1(d)(1) provides that the election does not affect whether the regime applies to any other partnership, and IRC 6226(b)(4)(C) applies the push-out tracking rules to an elected-out partnership-partner notwithstanding its election. The consistency rules of IRC 6222 also apply to it with respect to its interest in a BBA partnership (IRM 4.31.9.8.2). See tiered partnerships and pass-through partners.

Questions practitioners ask