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IRS Issues Draft Instructions for Schedules K-2 and K-3

S.J. Steinhardt
Published Date:
Nov 2, 2022

GettyImages-174879501 IRS Internal Revenue Service

Responding to feedback from stakeholders, the IRS has released draft versions of its 2022 Partnership Instructions for Schedules K-2 and K-3 and its 2022 Partner's Instructions for Schedule K-3, both for Form 1065.

The former now includes a new domestic filing exception.

“A domestic partnership (as defined under section 7701(a)(2) and (4)) does not need to (a) complete and file with the IRS the Schedules K-2 and K-3, or (b) furnish to a partner the Schedule K-3 (except where requested by a partner after the 1-month date)…if each of the following four criteria are met with respect to the partnership’s tax year 2022,” the draft reads. The four criteria are:

1. No or limited foreign activity;

2. U.S. citizen/resident alien partners;

3. Partner notification; and

4. No 2022 Schedule K-3 requests by the 1-month date (which is Feb. 15, 2023 for tax year 2022).

In addition to the new exception, the other instructions in the draft provide the following:

• Further guidance and examples concerning the need for reporting by domestic partnerships with solely domestic activity and with partners that are U.S. persons;

• Revision of reporting of gains rather than both proceeds and basis;

• Clarification of reporting with respect to Forms 5471, 8621, 8858 and 8865.

• A new box 12 on Schedule K-3, Part I, for Form 8865 that concerns partnership transference of property to a foreign partnership that would subject one or more of its domestic partners to reporting under certain sections;

• A new box 13 on Part I for other items of international tax relevance;

• Clarification of the use of country codes and the addition a new code “XX”;

• Clarifications of when partnerships must complete certain sections when it comes to research and experimental expense apportionment, and interest expense and stewardship expense apportionment;

• Clarification of partnerships required to report information in partnerships required to report information in Part III, Sections 3 and 4;

• Final regulations apply(ing) aggregate treatment to domestic partnerships for certain purposes.

• Clarification of reporting on foreign-derived intangible income deduction;

• Other exceptions and updates; and

• Clarification of when a partnership must report information to foreign partners.

“The new schedules K-2 and K-3 were created to provide consistency in the reporting to partners and shareholders,” the IRS posted earlier this year. “The new schedules K-2 and K-3 provide greater certainty and consistency, helping partners and shareholders to voluntarily comply with their filing and reporting obligations. The greater certainty also enables the IRS to verify that partnership and S corporation items are properly reported on partners’ and shareholders’ returns.”

Accounting Today reported that while  schedules K-2 and K3 were meant to standardize the reporting of international items, many organizations were unclear about how to fill them out because not all parts of them are necessary for every exempt organization, and it requires extra analysis to determine which parts are relevant. Accounting Today suggested that tax professionals might choose to weigh in on the draft instructions, as there still seem to be some problematic areas.

Written comments on the draft instructions should be sent to by Nov. 8.

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