IRS Launches New Initiative Targeting Pass-Through Entities and Their Owners

The Internal Revenue Service (IRS) has launched a new initiative targeting pass-through entities and their owners. Pass-through entities include partnerships, S-corporations, limited liability companies (LLCs) and trusts—which do not pay federal income tax at the entity level but instead “pass through” their tax liability to their owners (subject to certain exceptions). While millions of business owners rely on this pass-through tax treatment to lawfully minimize the amount they owe, the IRS nonetheless views pass-through entities as a potential red flag for fraud. Learn more from Maryland tax attorney Kevin E. Thorn, Managing Partner of US International Tax Advisors.

New IRS Pass-Through Field Operations Unit to Focus on Auditing Partnerships, S-Corporations, LLCs and Trusts

As part of the IRS’ new initiative, it has established a new pass-through field operations unit that will focus specifically on auditing partnerships, S-corporations, LLCs and trusts. This new unit will be operating nationwide, and it will be targeting pass-through entities of all sizes. As the IRS explains in an October 22, 2024 News Release:

“Going forward, revenue agents in pass-through field operations will be assembled into geographically based teams that are responsible for primary exams of pass-through entity returns. [The Large Business and International (LB&I) division] will be responsible for starting pass-through exams, regardless of entity size. [The Small Business/Self-Employed (SB/SE) division] will continue to examine pass-through entities as part of a related exam of a tax return.”

However, as the IRS also explains, while the new pass-through field operations unit will be auditing pass-through entities both large and small, it will be placing particular emphasis on high-income taxpayer compliance. The new unit’s auditing efforts will constitute “a significant part of the overall expanded enforcement efforts that focus on high-income and high-wealth individuals, partnerships and large corporations that have seen sharp drops in audit rates during the past decade.”

Potential Issues in IRS Pass-Through Entity Audits

When conducting audits, the IRS’ new pass-through field operations unit will be examining taxpayers’ returns for signs of any and all forms of tax evasion and tax fraud. This includes forms that are both specific and non-specific to pass-through entities. Based on our experience, some of the issues that are most likely to lead to trouble for pass-through entities (and their owners) during these audits include things like:

• Failing to pay entity-level tax (pass-through entities must still pay tax in some cases)
• Failing to properly report offshore accounts and other foreign assets held by pass-through entities
• Improperly calculating or reporting pass-through income tax liability
• Improperly claiming deductions that are not available to pass-through entity owners
• Improperly claiming pass-through eligibility
• Using pass-through entities as shell companies to evade federal tax liability
• Using pass-through entities for other unlawful tax avoidance schemes

Speak with a Maryland Tax Attorney at US International Tax Advisors

If you have concerns about facing scrutiny from the IRS related to its new pass-through entity enforcement initiative, we invite you to get in touch. To speak with a Maryland tax attorney at US International Tax Advisors in confidence, please call 240-235-5096 or tell us how we can reach you online today.