Rough Sailing for TEFRA Partnerships

By Josh N. Wheeler, CPA, Dallas

Editor: Frank J. O’Connell Jr., CPA, Esq.

Partners & Partnerships

With the Taxpayer Equity and Fiscal Responsibility Act of 1982 (TEFRA), P.L. 97-248, Congress hoped to make partnership audits easier and more efficient for both the IRS and taxpayers, but in many ways it has not. Before TEFRA was enacted, the IRS treated partnerships as aggregates of individual partners. Audits were conducted solely at the partner level, regardless of how many partners there were and where they were located. Audits of partnerships with numerous partners were burdensome for the IRS, and audit adjustments were often inconsistently applied. The partnership-level audit rules enacted under TEFRA attempt to mitigate this burden and inconsistency by conducting an audit at the entity level. However, several recent cases illustrate the need for taxpayers to be extremely careful when involved in a TEFRA audit.

Kearney Partners

In Kearney Partners Fund, LLC, No. 2:10-cv-153-FtM-SPC (M.D. Fla. 5/22/13), the IRS notified a taxpayer of his right to opt out of a partnership-level audit because the IRS had not properly informed him of the TEFRA proceedings. The taxpayer subsequently opted out in order to convert his share of partnership items into nonpartnership items. However, the IRS was mistaken—the IRS was never obligated to provide notice to the taxpayer in the first place because the taxpayer had not provided his information properly to the IRS under Sec. 6223(c)(3) (notice to indirect partners), which otherwise would have entitled him to notice of partnership-level proceedings. Thus, the partner was not entitled to opt out.

Wise Guys Holdings

In Wise Guys Holdings, LLC, 140 T.C. No. 8 (2013), a taxpayer did not petition the Tax Court in a timely manner following receipt of a Final Partnership Administrative Adjustment (FPAA). The IRS mailed the first of two FPAAs on March 18, 2011; almost nine months later, the IRS mailed a second, nearly identical FPAA from a different office. Generally, the IRS may not mail multiple FPAAs for the same years, but likely did so as a result of internal miscommunication. Unfortunately, the taxpayer relied on the second FPAA when petitioning the Tax Court. In this case, the court held that it did not have jurisdiction to review the adjustments because the taxpayer did not petition the court within the 150-day period after receiving the original FPAA.

NPR Investments

In NPR Investments, LLC, 732 F. Supp. 2d 676 (E.D. Tex. 2010), a partnership reported on its return that it was not subject to TEFRA, although it designated a tax matters partner (a requirement under TEFRA). Furthermore, some partners were passthrough entities. The IRS relied on the incorrect classification, did not conduct the audit at the entity level, and concluded the audit with a no-change letter. Later, the IRS determined the TEFRA audit rules did in fact apply, and a subsequent FPAA was mailed with various adjustments and considerable penalties. Sec. 6223(f) bars the IRS from mailing a second FPAA without showing fraud, malfeasance, or misrepresentation of material fact. The court found the incorrect classification was a misrepresentation of material fact. Because the IRS reasonably relied on the misrepresentation, the second FPAA was valid.


The TEFRA audit rules are difficult for both taxpayers and the IRS. Partnership-level audits are complex and considerably different from partner-level audits conducted before TEFRA was enacted. A taxpayer should pay particular attention to whether TEFRA applies and ensure all tax return disclosures are correct and consistent. Also, the TEFRA rules provide different rights and duties to partners depending on various criteria, e.g., a partner’s level of economic interest. As the aforementioned cases demonstrate, a taxpayer should have a detailed understanding of TEFRA applicability, partner rights and duties, and important deadlines during the various audit phases. In addition, it is important that a taxpayer engage competent tax advisers during audit proceedings. Advisers well-versed in the TEFRA rules can help taxpayers avoid the many pitfalls that can occur in a TEFRA audit.


Frank J. O’Connell Jr. is a partner with Crowe Horwath LLP in Oak Brook, Ill.

For additional information about these items, contact Mr. O’Connell at 630-574-1619 or

Unless otherwise noted, contributors are members of or associated with Crowe Horwath LLP.

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