Form 1065 - U.S. Return of Partnership Income: all you need to know

Partnerships file an information return to report their income, gains, losses, deductions, credits, etc.

A partnership does not pay tax on its income but "passes through" any profits or losses to its partners. Partners must include partnership items on their tax or information returns.

Beginning January 1, 2024, partnerships are required to file Form 1065 and related forms and schedules electronically if they file 10 or more returns of any type during the tax year, including information, income tax, employment tax, and excise tax returns. Certain exceptions apply.

Who is required to file Form 1065?

Domestic partnerships

All domestic business partnerships headquartered in the United States must file Form 1065 each year, including general partnerships, limited partnerships, and limited liability companies (LLCs) classified as partnerships with at least two members. If a partnership neither receives income nor incurs any expenses that would qualify it to claim deductions or tax credits, it doesn’t need to file Form 1065.

Similarly to corporations and partnerships, religious or apostolic organizations that are exempt from income tax under Section 501(d) are required to report their taxable income using Form 1065. This income must be allocated to members as a dividend, whether distributed or not. Alternatively, the organization may utilize Form 1120, U.S. Corporation Income Tax Return, for this purpose.

Foreign partnerships

When a foreign partnership earns gross income that is connected to a trade or business conducted within the United States (or has gross income derived from sources in the United States), it is generally required to file Form 1065 to report its income and how it will be distributed to partners. This obligation applies even if the partnership's main office is located outside the United States or if all its members are foreign individuals. Foreign partnerships that must file Form 1065 typically need to report all relevant foreign and US partnership items on the form.

Two exceptions for foreign partnerships are required to file Form 1065:

1. Exception for foreign partnerships with US partners: To qualify for an exception to filing Form 1065, the foreign partnership with US partners must meet the following criteria:
   
   1. The partnership had no U.S.-derived income from a trade or business during its tax year (also called effectively connected income);
   2. The partnership had US source income of $20,000 or less during its tax year;
   3. Less than 1% of any partnership item of income, gain, loss, deduction, or credit was allocable in the aggregate to direct US partners at any time during its tax year; and
   4. The partnership isn't a withholding foreign partnership as defined in Regulations section 1.1441-5(c)(2)(i).
      
      
2. Exception for foreign partnerships with no US partners and no effectively connected income: A foreign partnership is not mandated to file a return if it meets the following criteria:
   
   1. The partnership had no effectively connected income from a trade or business during its tax year;
   2. The partnership had no US partners at any time during its tax year;
   3. The partnership isn't a withholding foreign partnership as defined in Regulations section 1.1441-5(c)(2)(i);
   4. All required Forms 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons, and 1042-S, Foreign Person's U.S. Source Income Subject to Withholding, were filed by the partnership or another withholding agent as required by Regulations sections 1.1461-1(b) and (c); and
   5. The tax liability of each partner for amounts reportable under Regulations sections 1.1461-1(b) and (c) has been fully satisfied by the withholding of tax at the source.

What does a "pass-through" entity mean?

Various business structures exist, all organized at the state level. (Keep in mind, designations like an S-corp aren't exactly business structures; they're tax elections made on federal taxes.) This means that rules and regulations regarding business structures may vary by state, with some structures receiving little attention at the federal level.

The IRS recognizes pass-through entities as one of the two types of business structures (the other being a C corporation). Pass-through entities are aptly named as they pass all their income to their owners to be taxed as the owners' income.

Pass-through entity structures encompass sole proprietorships, partnerships, and S corporations. Additionally, there are Limited Liability Companies or LLCs, which are among the most popular business structures. Despite their popularity, the IRS generally overlooks LLCs for tax purposes. Business structure formation is governed at the state level, and the IRS has opted not to establish a separate tax structure for LLC taxes.

Instead, LLCs have the flexibility to choose how they want to be taxed. Options include being taxed as a Sole proprietorship (one owner), partnership (multiple owners), S corporation (one or more owners), or C corporation (one or more owners).

Is it necessary for partners to submit a Form 1065?

The partnership is required to submit a Form 1065 to outline the tax information for the business during the tax year. This form is then utilized to generate individual Schedule K-1s for the partners, allowing them to report their portion of the partnership's income and losses on their personal tax returns.

When is Form 1065 needed?

Typically, a domestic partnership that is required to file Form 1065 (or a foreign partnership that does not meet the exceptions for filing Form 1065) must submit the form by the 15th day of the 3rd month after the end of its tax year, as indicated at the top of Form 1065. For a calendar year partnership (January to December), the deadline is March 15. However, if the tax year spans a different period, such as July to June, Form 1065 must be filed by September 15.

In cases where the due date falls on a Saturday, Sunday, or legal holiday in the District of Columbia or the state where you file your return, the IRS allows you to file your return by the next business day.

We can assist you with the tax preparation of this form

At H&CO, we have over 30 years of experience in preparing these types of income tax returns for companies in the United States. Our dedicated team of US tax experts is here to assist you with any questions you may have.

Furthermore, our extensive range of tax services includes Individual tax services, Business tax services, International tax services, SAP Business One, and Entity Management for global families and foreign investors. Please reach out to us, and one of our advisors will be happy to get in touch with you!