HW have filed 2 Sch Cs for 20 years for their
professional-services business (a “disregarded entity” in Cal,
a community-property state). The business is small enough that
none of the assets (just some minor home office equipment) are
held in the name of the partnership " all owned as
community-property by HW. No separate bank account exists for the “disregarded” entity (partnership expenses are minimal and
paid from the joint (personal) bank account and supported by
“meticulous” records). W is providing professional services
(and takes the home-office deduction); H does everything else (all
the IT & clerical). Now that California enacted its pass- through
entity tax election (Tax Alert : https://www2.deloitte.com/content/dam/Deloitte/us/Documents/Tax/us- tax-mta-california-enacts-pass-through-entity-tax-election.pdf),
they consider fining a general-partnership 1065/Cal 565 to avail
themselves of the 9.3% business state-tax deduction. (Their whole
1065 would have one line for ordinary income = self-employment
income, and split 50/50 on the K-1s, & shown as all distributed to
them every year, so no capital-account basis. The partnership
profit & assets are small enough that most of the Schedules (L,
Ms) are not required to be filled out.) My questions:
1. What exactly is the practical meaning of this statement in
Rev Proc 2002-69 “A change in reporting position [b/w a
“disregarded entity” v. a partnership] will be treated for
federal tax purposes as a conversion of the entity”?
2. Could they go back to a “disregarded entity” in the
future if for some reason they decide that partnership reporting
is too cumbersome to justify the resulting tax savings?
3. Would it raise any flags if they’d suddenly start filing
a 1065 (& a Cal 565) as a GP, & their prior Sch Cs would suddenly
become Sch Es?
4. Could one even deduct a home-office on a Sch E (for a
“genera” partner)? If not, should that K-1 (1065) income go
to W’s Sch C, not Sch E?
5. Would there be any problem b/c assets or a bank account are
not formally owned by the partnership proper?
Thank you for your insights. I will really appreciate your advice,
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