# How to figure an imputed underpayment

Follow the steps in this example to figure an imputed underpayment (IU) for a partnership filing an administrative adjustment request (AAR) under the Bipartisan Budget Act of 2021 (BBA).

Find more details in instructions:

## Formula to figure the IU

To use this formula, follow Steps 1 through 3 to understand grouping, subgrouping and netting. Steps 4 through 6 show how to figure the total netted partnership adjustments (TNPA), determine the rate and enter results into the IU formula.

Enter only net positive adjustments from the reallocation and residual groupings in the IU formula:

Reallocation grouping + residual grouping = Total netted partnership adjustments (TNPA)
TNPA x rate* =
+ Sum of net positive adjustments from the creditable expenditure grouping and credit groupings:
= Total IU

* Highest rate in effect for the reviewed year under section 1 or 11.

## Summary of the formula to figure the IU

Component Value
Reallocation grouping \$
+ Residual grouping \$
Total netted partnership adjustment (TNPA) \$
Highest tax rate (section 1 or 11) %
TNPA x Highest tax rate \$
+ Creditable expenditure grouping \$
+ Credit grouping \$
Imputed underpayment (IU) \$

## Example overview

In this example, the partnership has these adjustments on the AAR:

1. (1a) and (1b) \$8,000 reallocate a liability from partner A to partner B and affect Schedules K-1, Part II, Line K1
2. \$3,000 reduction to rent expense reported on page 1 of Form 1065 and affects ordinary business income on Schedule K
3. \$5,000 increase to total gross rents on Form 8825 and affects Schedule K, line 2
4. \$1,500 increase to total expenses on Form 8825 and affects Schedule K, line 2
5. \$400 decreases to royalty income and affects Schedule K, line 7
6. \$600 increase to interest income and affects Schedule K, line 5
7. \$500 decrease to the research credit and affects Schedule K, line 15f (Code M)
8. \$6,500 increase to IRC 199A, Qualified Business Income (QBI) related to adjustments (2), (3)  and (4).  It was determined that only these adjustments affected QBI.

## Step 1: Group the adjustments

Place each adjustment into one of four defined groupings:

• Reallocation grouping - Any adjustment that allocates or reallocates a Partnership Related Item (PRI) to and from a particular partner(s), except for an adjustment to a credit or to a creditable expenditure.
• Residual grouping - Any adjustment to a PRI that doesn’t belong in the other groupings (reallocation, creditable expenditure or credits).
• Creditable expenditure grouping - Any adjustment to a PRI where any person could take the item that is being adjusted as a credit, such as a foreign tax expenditure.
• Credit grouping - Any adjustment to a PRI that is reported or could be reported by the partnership as a credit on the partnership’s return.

For each adjustments listed, the determination of each associated grouping is indicated.

### In this example

(1a) and (1b) \$8,000 reallocate a liability from partner A to partner B and affect Schedules K-1, Part II, Line K1 Reallocation
Any adjustment that allocates or reallocates a partnership-related item (PRI) to and from a particular partner(s), except for an adjustment to a credit or to a creditable expenditure.

(2) \$3,000 decreases rent expense on page 1 of Form 1065 and affects ordinary business income on Schedule K, line 1
(3) \$5,000 increases total gross rents on Form 8825 and affects Schedule K, line 2
(4) \$1,500 increases total expenses on Form 8825 and affects Schedule K, line 2
(5) \$400 decreases royalty income and affects Schedule K, line 7
(6) \$600 increases interest income and affects Schedule K, line 5
(8) \$6,500 increases IRC 199A, QBI and affects Schedule K, line 20c and Schedules K-1, line 20c (code Z)
Residual
Any adjustment to a PRI that doesn’t belong in the other groupings (reallocation, creditable expenditure or credits).
(7) \$500 decreases the research credit and affects Schedule K, line 15f (Code M). Credit
Any adjustment to a PRI that’s reported or could be reported by the partnership as a credit on the partnership’s return.
Any adjustment to a PRI where any person could take the item that is being adjusted as a credit, such as a foreign tax expenditure.

## Step 2: Determine if subgrouping is needed

Subgrouping is only needed when there are negative adjustments within a grouping.

A negative adjustment is any adjustment that is a decrease in an item of gain or income; an increase in an item of loss or deduction; an increase in an item of credit or creditable expenditure; a decrease in an item of tax, penalty, addition to tax, or additional amount for which the partnership is liable under chapter 1; or a decrease to an IU calculated by the partnership for the tax year.

Generally, each separate line item of Schedules K, K-1, K-2, and K-3 or return schedule (Schedule L, etc.) represents a separate and distinct subgrouping.

## Step 3: Net the adjustments

Apply netting rules to subgroupings first, then to groupings.

Only net positive and negative adjustments when they’re in the same subgrouping.

### Reallocation grouping

In this example, since there aren’t negative adjustments in this grouping, no subgroups are needed.

#### Netting the reallocation grouping adjustments

Adjustment Total From Partner A To Partner B
(1a) Qualified Nonrecourse Financing Liabilities, Sch K-1, Part II, line K1 (from Ptr A to Ptr B)   \$8,000
(1b) Qualified Nonrecourse Financing Liabilities, Sch K-1, Part II, line K1 (to Ptr B from Ptr A)     \$8,000 but treated as Zero
Sum of net positive totals   \$8,000 Zero
Sum of net negative totals (must be pushed out)
Total net positive adjustments \$8,000 \$8,000 Zero

#### Netting details

• Adjustment (1a) and (1b): Generally, a reallocation adjustment will have a positive and a negative “leg.” However, 1a and 1b are adjustments to items that aren’t items of income, gain, loss, deduction or credit. Therefore, both are positive adjustments, even though both are associated with a reallocation from one partner to another.
• \$8,000 but treated as Zero: Under Treas. Reg. § 301.6225-1(b)(4), a partnership that files an AAR may treat a positive adjustment as zero if the positive adjustment is related to, or results from, a positive adjustment to another item. Therefore, the partnership could treat either the adjustment in 1a or 1b (but not both) as zero solely for purposes of calculating the imputed underpayment. In this example, the partnership chose to treat adjustment 1b as zero.
• Total net positive adjustments: \$8,000 is the result of adding the net positive totals for partner A and partner B. This total for the reallocation grouping is the amount used in the IU calculation.
• Items of income, gain, loss deduction or credit: If the reallocation item had instead been one of these items, there would be a positive and a negative ‘leg’ to determine the imputed underpayment. The negative ‘leg’ would have been subject to push out because it would fall into the category of Adjustments That Do Not Result (ATDNR) in an imputed underpayment.

### Residual grouping example

In this example, subgrouping is needed in the residual grouping. This is because it’s the only group with negative adjustments ((4) and (6)).

The residual grouping has 5 subgroups because the adjustments relate to 4 different Sch K line items:

• Adjustment (2) is the only adjustment associated with ordinary business income: sch K, line 1 (subgroup A)
• Adjustments (3) and (4) are both associated with net rental real estate income (loss): sch K, line 2 (subgroup B)
• Adjustment (5) is the only adjustment that is associated with royalty income: sch K, line 7 (subgroup D)
• Adjustment (6) is the only adjustment that is associated with interest income: sch K, line 5 (subgroup C)
• Adjustment (8) is the only adjustment that is associated with IRC 199A QBI: sch K, line 20c, sch K-1, line 20c (code Z)

#### Netting the residual grouping adjustments

Adjustment Total Subgroup A Subgroup B Subgroup C Subgroup D Subgroup E
(2) Rent Expense (pg. 1), Ordinary Business Income, Sch K, line 1   \$3,000
(3) Form 8825, Total Gross Rents, Sch K, line 2     \$5,000
(4) Form 8825, Total Expenses, Sch K, line 2     (\$1,500)
(5) Royalties, Sch K, line 7       (\$400)
(6) Interest Income, Sch K, line 5         \$600
(8) IRC 199A QBI: sch K, line 20c, sch K-1, line 20c (code Z)           \$6,500 but treated as Zero
Sum of net positive totals   \$3,000 \$3,500   \$600 Zero
Sum of negative totals (must be pushed out)       (\$400)
Total net positive adjustments \$7,100 \$3,000 \$3,500   \$600 Zero

#### Netting details

• Adjustment (2) is positive and results a net positive amount of \$3,000 in subgroup A.
• Adjustments (3) and (4) are netted together because they’re in the same subgrouping. They result in a net positive amount of \$3,500 in subgroup B.
• Adjustment (5) is negative and results in a net negative amount of \$400 in subgroup C. Since it’s negative, it’s considered an ATDNR. This negative adjustment is treated as if the partnership had made an election to push out (under section 6227(b)(2)), but only with regard to adjustments that don't result in an imputed underpayment.  It is required to be reported on push out statements issued to reviewed year partners and filed with the AAR. See Forms 8985 and 8986 and the related instructions.
• Adjustment (6) is positive and results in a net positive amount of \$600 in subgroup D.
• Adjustment (8) is positive but treated as Zero: Under Treas. Reg. § 301.6225-1(b)(4), a partnership that files an AAR may treat a positive adjustment as zero if the positive adjustment is related to, or results from, a positive adjustment to another item. Therefore, the partnership can treat in this example, the partnership can choose to treat adjustment (8) as zero.
• Total net positive adjustments of \$7,100 is the result of netting subgroups A, B and D because they are net positive amounts. This total is the amount used in the IU calculation.

### Credit grouping

Find details on netting the adjustment below the table.

#### Netting the credit grouping adjustments

(7) Credit for increasing research activities (code M), Sch K, line 15f \$500
Sum of net positive totals \$500
Sum of net negative totals (pushed out)

#### Netting details

• Adjustment (7) is positive and there are no negative adjustments to credits. It’s an adjustment to decrease an R&E credit amount which results in a net positive amount of \$500.
• Total net positive adjustment of \$500 for the credit grouping is the amount used in the IU calculation.

### Creditable expenditure

Creditable expenditure adjustments aren’t included in this example.

Generally, a decrease in creditable expenditures is treated as a positive adjustment to credits, and an increase in creditable expenditures is treated as a negative adjustment.  A creditable expenditure is treated this way even if the partners claimed a deduction in lieu of a credit.

## Step 4: Figure the Total Netted Partnership Adjustments (TNPA)

To figure the TNPA, add the total net positive adjustments in the residual and reallocation groupings:

Reallocation grouping + residual grouping = TNPA

### In this example

\$8,000 + \$7,100 = \$15,100

## Step 5: Determine the highest tax rate in effect under Section 1 or 11 in the reviewed year

Assuming the reviewed year is 2023, the highest tax rate in effect is 37%.

### In this example

The highest tax rate in effect is 37%. Thus, the IU before credit and creditable expenditure is \$5,587 (that is \$15,100 x 37%).

## Step 6: Determine the sum of net positive adjustments in the credit grouping and creditable expenditure grouping

Credit grouping net positive adjustments + Creditable expenditure grouping net positive adjustments = Sum of net positive adjustments in credit and creditable expenditure groups

This sum increases the product of the TNPA multiplied by the highest rate in effect.

### In this example

The credit grouping is \$500 and there is no amount in the creditable expenditure grouping:

\$500 + Zero = \$500

## Step 7: Enter the results from Steps 3 through 5 in the IU formula

Enter only net positive adjustments in the IU formula:

Reallocation grouping + residual grouping = TNPA
TNPA x rate =
+ Sum of creditable expenditure grouping and credit grouping:
= Total IU

### In this example:

\$8,000 + \$7,100 = \$15,100
\$15,100 x 37% = \$5,587
+ \$500
= \$6,087 Total IU

Component Value
Reallocation grouping \$8,000
+ Residual grouping \$7,100
Total netted partnership adjustment (TNPA) \$15,100
Highest tax rate (section 1 or 11) 37%
TNPA x Highest tax rate \$5,587
+ Creditable expenditure grouping \$0
+ Credit grouping \$500
Imputed underpayment (IU) \$6,087

## Next steps: Pay the IU or make an election to push out the adjustments

When filing an AAR, the partnership may elect under section 6227(b)(2) to have the reviewed year partners take into account adjustments resulting in an IU. If the partnership makes the election, the partnership isn't liable for, nor required to pay, the IU related to the adjustments and the partnership will push out all of the adjustments.

Adjustments treated as zero solely for purposes of calculating the IU don’t make those adjustments ATDNR adjustments; the actual amounts of those adjustments are to be pushed out if a push out election is made.

• In this example: Adjustment (1b) in the reallocation grouping is treated as zero for purposes of the IU calculation.  Additionally, Adjustment (8) in the residual grouping is treated as zero for purposes of the IU calculation.   However, if a push out election was made, the \$8,000 adjustment (1b) to increase the liability and the \$6,500 adjustment (8) to increase QBI would be appropriately included on the push out statements.

When filing an AAR, if no push out election is made, the partnership must pay the IU and push out all the adjustments that are ATDNR.

• In this example: Adjustment (5) would not result in an imputed underpayment and must be pushed out even if the partnership chooses to pay the IU.