Do Private Equity LPs Get Tax Distributions on a Schedule K-1?
Original post by Michael Dreiser of Demand Media
In the United States, private-equity limited partners (LPs) are taxed on their distributive share of the partnership's current-year income, deductions, credits and other tax items. These distributive shares are reported to the limited partners on Schedule K-1 of Internal Revenue Service Form 1065, U.S. Return of Partnership Income.
A partnership is a relationship between two or more persons looking to carry on a business or investment relationship. These persons are referred to as partners in the partnership and may be individuals or other business entities, such as a corporation. In the United States, for purposes of federal taxation, a partnership includes syndicates, groups, pools, joint ventures and similar organizations that are not classified as a trust, estate or corporation.
Private-Equity Limited Partnership
A private-equity limited partnership is typically comprised of one general partner and multiple limited partners. The general partner is the managing member of the partnership and is responsible for the day-to-day running of the business. The limited partners are investors. They contribute money or other forms of capital to the business and have little say or input in the day-to-day operations of the business. The Internal Revenue Service (IRS) requires that a private-equity limited partnership file Form 1065, U.S. Return of Partnership Income on an annual basis to report the taxable activities of the partnership.
Schedule K-1 and Partnership Taxation
In the United States, the net income of the partnership is typically not taxed. Instead, the gains or losses and other taxable activity of the partnership is reported to the partners who then pick up their distributive share of the activity on their individual income-tax returns. This reporting is done through Schedule K-1 to Form 1065, which requires the partnership to report 20 broad categories of income, deductions, credits and other tax items distributable to each partner. As way of a broad example, a partnership with $100 in ordinary business income would typically allocate $5 of that income to a limited partner with a 5 percent interest in the profits of the partnership.
Categories of Schedule K-1 Reporting
Private-equity limited partnerships commonly report on ordinary business income and investment income - such as interest, dividends and capital gains. Private-equity limited partnerships with real-estate holdings are required to report net rental real-estate income or loss as well as certain transactions related to the depreciation of real property. In addition, Schedule K-1 must include information regarding the limited partner's capital account, share of profit and loss and the limited partner's share of capital at the end of the year.
- Internal Revenue Service: Instructions to Form 1065
- Internal Revenue Service: Publication 541, Partnerships
- SmartPros Ltd., "Partnership Taxation v.2", 2009
About the Author
Michael Dreiser started writing professionally in 2010. He is a certified public accountant with experience working for a large New York City accountancy and expertise in areas ranging from private equity taxation to investment management. He holds a Master of Business Administration in international finance from l’École Nationale des Ponts et Chaussées in Paris.