SECTION 2. BACKGROUND — Internal Revenue Bulletin 2021-27

.01 Longstanding Filing and Reporting Requirements

Section 6031 of the Internal Revenue Code (“Code”) and §§ 1.6031(a)-1 and 1.6031(b)-1T of the Income Tax Regulations generally require a partnership to do the following:

make a return for each taxable year stating the items of its gross income and deductions allowable by subtitle A of the Code and any other information as prescribed by forms and instructions for the purpose of carrying out the provisions of subtitle A of the Code, and
furnish to its partners statements containing each partner’s distributive share of the partnership’s items of income, gain, loss, deduction, or credit required to be shown on the partnership return and any additional infor

mation required to apply particular provisions of subtitle A of the Code to the partner with respect to items related to the partnership as prescribed by form or accompanying instructions. Section 6037(a) and (b) provide similar requirements with respect to an S corporation.

Section 6038(a)(1) and (a)(5) and §1.6038-3 of the Income Tax Regulations generally require a United States person that controls a foreign partnership or holds at least a 10-percent interest in a foreign partnership that is controlled by United States persons holding at least 10-percent interests (a U.S. partner) to furnish information relating to the partnership (a controlled foreign partnership or CFP), including information relating to the U.S. partner’s ownership interests in the partnership and allocations to the partner of partnership items. A U.S. partner that controls a CFP may also need to provide information relating to another U.S. partner’s ownership interest in the partnership and allocations to that partner of partnership items.

Pursuant to sections 6031, 6037, and 6038 and the accompanying Income Tax Regulations, the Internal Revenue Service (IRS) has, in forms and instructions, long required that any partnership, S corporation, or U.S. partner in a CFP report information of international tax relevance.

.02 New Schedules K-2 and K-3

Form 1065, Schedules K-2, Partners’ Distributive Share Items—International, and K-3, Partner’s Share of Income, Deductions, Credits, etc.—International, are new for taxable years beginning in 2021. These schedules replace, supplement, and clarify the reporting of certain amounts formerly reported on Form 1065, Schedule K, Partners’ Distributive Share Items, line 16, Foreign Transactions, and Schedule K-1 (Form 1065), Partner’s Share of Income, Deductions, Credits, etc., Part III, Partner’s Share of Current Year Income, Deductions, Credits, and Other Items, line 16, Foreign Transactions. Schedules K-2 and K-3 also replace, supplement, and clarify reporting of certain amounts formerly reported on Form 1065, Schedule K, line 20c, Other items and amounts, and

Schedule K-1 (Form 1065), Part III, line 20, Other information. The new standardized format assists partnerships in providing partners with the information necessary to complete their returns with respect to the international tax aspects of the Code and allows the IRS to more efficiently verify tax compliance.

For the same reasons, for taxable years beginning in 2021, Form 1120-S includes new Schedules K-2, Shareholders’ Pro Rata Share Items—International, and K-3, Shareholder’s Share of Income, Deductions, Credits, etc.—International. These schedules replace, supplement, and clarify the reporting of certain amounts formerly reported on line 14, Foreign Transactions, of both Form 1120-S, Schedule K, Shareholders’ Pro Rata Share Items, and Schedule K-1 (Form 1120-S), Shareholder’s Share of Income, Deductions, Credits, etc. Part III, Shareholder’s Share of Current Year Income, Deductions, Credits, etc. Schedules K-2 and K-3 also replace, supplement, and clarify the reporting of certain amounts formerly reported on Form 1120-S, Schedule K, line 17d, Other items and amounts, and Schedule K-1 (Form 1120-S), Part III, line 17, Other information. Finally, for the same reasons, for taxable years beginning in 2021, Form 8865 includes new Schedules K-2, Partners’ Distributive Share Items—International, and K-3, Partner’s Share of Income, Deductions, Credits, etc.—International. These schedules replace, supplement, and clarify the reporting of certain amounts formerly reported on line 16, Foreign Transactions, of both Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships, Schedule K, Partners’ Distributive Share Items, and Schedule K-1 (Form 8865), Partner’s Share of Income, Deductions, Credits, etc., Part III, Partner’s Share of Current Year Income, Deductions, Credits, and Other Items. Schedules K-2 and K-3 also replace, supplement, and clarify the reporting of certain amounts formerly reported on Form 8865, Schedule K, line 20c, Other items and amounts, and Schedule K-1 (Form 8865), Part III, line 20, Other information. The IRS released on July 14, 2020, for public comment drafts of the Form 1065, Schedules K-2 and K-3 and the associat

Bulletin No. 2021–27 3 July 6, 2021

ed instructions. At that time, the IRS also requested comments on the Forms 1120-S and 8865 with respect to which the IRS planned to issue similar Schedules K-2 and K-3. After considering the comments received, on June 3 and 4, 2021, the IRS released the final versions of new Schedules K-2 and K-3 for the Forms 1065, 1120-S and 8865 applicable for taxable years beginning in 2021.

.03 Penalties

(a) Failure to File or Show Information on Partnership Return

Section 6698 imposes a penalty for failing to file a return at the time prescribed therefor, or for filing a return that fails to show the information required under section 6031. A return required under section 6031 includes Form 1065 and Schedule K-1 (Form 1065). For partnership taxable years beginning in 2021, it will also include Schedules K-2 and K-3. A failure to file a timely partnership return that shows information required under section 6031 would generally subject a partnership to the section 6698 penalty. A section 6698 penalty will not be imposed if it is shown that the failure is due to reasonable cause.

(b) Failure to File or Show Information on an S Corporation Return

Section 6699 imposes a penalty for failing to file a return required under section 6037 at the time prescribed therefor, or for filing a return that fails to show the information required under that section. A return required under section 6037 includes Form 1120-S and Schedule K-1 (Form 1120-S). For S corporation taxable years beginning in 2021, it will also include Schedules K-2 and K-3. A failure to file a timely S corporation return that shows information required under section 6037 would generally subject an S corporation to the section 6699 penalty. A section 6699 penalty will not be imposed if it is shown that the failure is due to reasonable cause.

Section 6721 imposes a penalty for any failure to file an information return

on or before the required filing date, and for any failure to include all of the information required to be shown on the return or the inclusion of incorrect information. When regulations under section 6011 require a partnership to file a partnership return electronically, each schedule required to be included with the return with respect to each partner (that is, Schedules K-1 and K-3) is treated as a separate information return subject to the section 6721 penalty. See section 6724(e). Failure to electronically file a correct Schedule K-1 or K-3 when required would generally subject a partnership to a section 6721 penalty.

(d) Failure to Furnish Correct Payee Statements

Section 6722 imposes a penalty for failure to furnish a payee statement on or before the date prescribed therefor to the person to whom such statement is required to be furnished, and for any failure to include all of the information required to be shown on a payee statement or the inclusion of incorrect information. Section 6724(d)(2) provides a definition for “payee statement” that applies to section 6722. Under section 6724(d)(2)(A), a payee statement includes a statement required to be furnished to each partner under section 6031(b) or (c) and to each S corporation shareholder under section 6037(b). A failure to furnish a correct Schedule K-1 or K-3 as required under section 6031 would generally subject a partnership to the section 6722 penalty. A failure to furnish a correct Schedule K-1 or K-3 as required under section 6037 would generally subject an S corporation to the section 6722 penalty. Section 6724 provides an exception to a penalty for any failure under sections 6721 and 6722 if it is shown that the failure is due to reasonable cause and not to willful neglect. Under § 301.6724-1 of the Procedure and Administration Regulations, a penalty is waived for reasonable cause only if the filer establishes that either there are significant mitigating factors with respect to the failure or the failure arose from events beyond the filer’s control. In addition, the filer must establish that the filer acted in a responsible manner both before and after the failure occurred.

(e) Failure to furnish information required by section 6038

Section 6038(b) and (c) impose penalties for failing to furnish the information required under that section by its due date. The reporting required under section 6038 includes Form 8865 and each Schedule K-1 (Form 8865). For partnership taxable years beginning in 2021, it will also include Schedules K-2 and K-3. A U.S. partner is generally subject to penalties under section 6038 for failure to file a Form 8865 that shows information required under section 6038. No penalties are applicable under section 6038 for a partner that shows that the failure to file Form 8865 is due to reasonable cause.