Question

Define a partnership for tax purposes. Summarize the rules for partnership income reporting

Answer 1

Partnership - Definition

From the point of view of Federal taxation, a partnership is an association of two or more people who join together to conduct a business with the motive of sharing profits or losses.

Rules pertinent to partnership income reporting

• A partnership is not a taxable entity. Hence the partnership should pass on the incomes and expenses to each of its partners. This pass-through treatment would be an application of the conduit principle. Any items that does not require separate reporting treatment are passed on to the partners as ordinary income or loss from partnership operations.
• Partnerships are not employees and hence they should not be issued the W-2 form.
• The partnership form should furnish copies of Schedule K-1 i.e Form 1065 to its respective partners before the due date.
• Partnership should file Form 1065 along with its extensions. Schedule D or Form 1065 supports the calculation of the partnership's long-term or short-term capital gains and losses.
• Rental income, interest, dividends, royalties and gains or losses from the sale of capital assets should be reported in Schedule K and K-1.
• The partnership firm should file form 4797 to summarize any gains or losses arising from the sale of business properties.
• Individuals must file tax-exempt interest on their tax returns itself.
• State and local bond interest is exempt from Federal Income tax but they form part of state income tax.
• Tax-exempt interest must be reported on Schedule K and K-1 as individually stated items.

Upon completing the partnership tax return, all income and expenses must be subdivided under the heads separately stated items and ordinary income respectively. The items which does not require separate tax treatment are shown on page 1 of Form 1065 and thereby result in ordinary income or loss for the partnership. Ordinary income generally consists of the receipts arising out of the partnership's principal business operations.