U.S. Return of Partnership Income

These instructions follow the line numbers on the first page of Form 1065. The accompanying schedules will be discussed separately. Specific instructions for most of the lines are provided. Lines that are not discussed are self-explanatory.

Fill in all applicable lines and schedules.

Enter any items specially allocated to the partners on the appropriate line of the applicable partner's Schedule K-1. Enter the total amount on the appropriate line of Schedule K. Do not enter separately stated amounts on the numbered lines on Form 1065, page 1, or on Schedule A or Schedule D.

File all four pages of Form 1065. However, if the answer to Question 5 of Schedule B is Yes, Schedules L, M-1, and M-2 on page 4 are optional. Also attach a Schedule K-1 to Form 1065 for each partner.

File only one Form 1065 for each partnership. Mark Duplicate Copy on any copy you give to a partner.

If a syndicate, pool, joint venture, or similar group files Form 1065, it must attach a copy of the agreement and all amendments to the return, unless a copy has previously been filed.

Note: A foreign partnership required to file a return generally must report all of its foreign and U.S. source income. For rules regarding whether a foreign partnership must file Form 1065, see Who Must File on page 2.

General Information

Name, Address, and Employer Identification Number

Use the label that was mailed to the partnership. Cross out any errors and print the correct information on the label.

Name. If the partnership did not receive a label, print or type the legal name of the partnership as it appears in the partnership agreement.

If the partnership has changed its name, check box G(3).

Address. Include the suite, room, or other unit number after the street address. If a preaddressed label is used, include this information on the label.

If the Post Office does not deliver mail to the street address and the partnership has a P.O. box, show the box number instead.

If the partnership's address is outside the United States or its possessions or territories, enter the information on the line for City or town, state, and ZIP code in the following order: city, province or state, and the foreign country. Follow the foreign country's practice in placing the postal code in the address. Do not abbreviate the country name.

If the partnership has had a change of address, check box G(4).

If the partnership changes its mailing address after filing its return, it can notify the IRS by filing Form 8822, Change of Address.

Employer identification number (EIN). Show the correct EIN in item D on page 1 of Form 1065. If the partnership does not have an EIN, it must apply for one on Form SS-4, Application for Employer Identification Number. Form SS-4 has information on how to apply for an EIN by mail or by telephone. If the partnership has not received its EIN by the time the return is due, write Applied for in the space for the EIN. See Pub. 583, Starting a Business and Keeping Records, for more information.

Do not request a new EIN for a partnership that terminated because of a sale or exchange of at least 50% of the total interests in partnership capital and profits.

Items A and C

Enter the applicable activity name and the code number from the list beginning on page 33.

For example, if, as its principal business activity, the partnership (a) purchases raw materials, (b) subcontracts out for labor to make a finished product from the raw materials, and (c) retains title to the goods, the partnership is considered to be a manufacturer and must enter Manufacturer in item A and enter in item C one of the codes (311110 through 339900) listed under Manufacturing on page 33.

Item F - Total Assets

You are not required to complete item F if the answer to Question 5 of Schedule B is Yes.

If you are required to complete this item, enter the partnership's total assets at the end of the tax year, as determined by the accounting method regularly used in keeping the partnership's books and records. If there were no assets at the end of the tax year, enter the total assets as of the beginning of the tax year.

Item G

Do not check Final return (box G(2)) for a partnership that terminated because of a sale or exchange of at least 50% of the total interests in partnership capital and profits. However, be sure to file a return for the short year ending on the date of termination. See Termination of the Partnership on page 3.

For information on amended returns, see page 6.

Income

Report only trade or business activity income on lines 1a through 8. Do not report rental activity income or portfolio income on these lines. See the instructions on Passive Activity Limitations beginning on page 9 for definitions of rental income and portfolio income. Rental activity income and portfolio income are reported on Schedules K and K-1. Rental real estate activities are also reported on Form 8825.

Do not include any tax-exempt income on lines 1a through 8. A partnership that receives any tax-exempt income other than interest, or holds any property or engages in any activity that produces tax-exempt income reports the amount of this income on line 20 of Schedules K and K-1.

Report tax-exempt interest income, including exempt-interest dividends received as a shareholder in a mutual fund or other regulated investment company, on line 19 of Schedules K and K-1.

See Deductions on page 15 for information on how to report expenses related to tax-exempt income.

If the partnership has had debt discharged resulting from a title 11 bankruptcy proceeding or while insolvent, see Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness, and Pub. 908, Bankruptcy Tax Guide.

Line 1a - Gross Receipts or Sales

Enter the gross receipts or sales from all trade or business operations except those that must be reported on lines 4 through 7. For example, do not include gross receipts from farming on this line. Instead, show the net profit (loss) from farming on line 5. Also, do not include on line 1a rental activity income or portfolio income.

In general, advance payments are reported in the year of receipt. To report income from long-term contracts, see section 460. For special rules for reporting certain advance payments for goods and long-term contracts, see Regulations section 1.451-5. For permissible methods for reporting advance payments for services by an accrual method partnership, see Rev. Proc. 71-21, 1971-2 C.B. 549.

Installment sales. Generally, the installment method cannot be used for dealer dispositions of property. A dealer disposition is any disposition of:

1. Personal property by a person who regularly sells or otherwise disposes of personal property of the same type on the installment plan or
2. Real property held for sale to customers in the ordinary course of the taxpayer's trade or business.

Exception. These restrictions on using the installment method do not apply to dispositions of property used or produced in a farming business or sales of timeshares and residential lots. However, if the partnership elects to report dealer dispositions of timeshares and residential lots on the installment method, each partner's tax liability must be increased by the partner's allocable share of the interest payable under section 453(l)(3).

Enter on line 1a the gross profit on collections from installment sales for any of the following:

• Dealer dispositions of property before
  March 1, 1986.
• Dispositions of property used or produced in the trade or business of farming.
• Certain dispositions of timeshares and residential lots reported under the installment method.

Attach a schedule showing the following information for the current year and the 3 preceding years:

• Gross sales.
• Cost of goods sold.
• Gross profits.
• Percentage of gross profits to gross sales.
• Amount collected.
• Gross profit on amount collected.

Line 2 - Cost of Goods Sold

See the instructions for Schedule A on page 18.

Line 4 - Ordinary Income (Loss) From Other Partnerships, Estates, and Trusts

Enter the ordinary income (loss) shown on Schedule K-1 (Form 1065) or Schedule K-1 (Form 1041), or other ordinary income (loss) from a foreign partnership, estate, or trust. Show the partnership's, estate's, or trust's name, address, and EIN on a separate statement attached to this return. If the amount entered is from more than one source, identify the amount from each source.

Do not include portfolio income or rental activity income (loss) from other partnerships, estates, or trusts on this line. Instead, report these amounts on the applicable lines of Schedules K and K-1, or on line 20a of Form 8825 if the amount is from a rental real estate activity.

Ordinary income or loss from another partnership that is a publicly traded partnership is not reported on this line. Instead, report the amount separately on line 7 of Schedules K and K-1.

Treat shares of other items separately reported on Schedule K-1 issued by the other entity as if the items were realized or incurred by this partnership.

If there is a loss from another partnership, the amount of the loss that may be claimed is subject to the at-risk and basis limitations as appropriate.

If the tax year of your partnership does not coincide with the tax year of the other partnership, estate, or trust, include the ordinary income (loss) from the other entity in the tax year in which the other entity's tax year ends.

Line 5 - Net Farm Profit (Loss)

Enter the partnership's net farm profit (loss) from Schedule F (Form 1040), Profit or Loss From Farming. Attach Schedule F (Form 1040) to Form 1065. Do not include on this line any farm profit (loss) from other partnerships. Report those amounts on line 4. In figuring the partnership's net farm profit (loss), do not include any section 179 expense deduction; this amount must be separately stated.

Also report the partnership's fishing income on this line.

For a special rule concerning the method of accounting for a farming partnership with a corporate partner and for other tax information on farms, see Pub. 225, Farmer's Tax Guide.

Note: Because the election to deduct the expenses of raising any plant with a preproductive period of more than 2 years is made by the partner and not the partnership, farm partnerships that are not required to use an accrual method should not capitalize such expenses. Instead, state them separately on an attachment to Schedule K, line 24, and on Schedule K-1, line 25, Supplemental Information. See Regulations section 1.263A-4 for more information.

Line 6 - Net Gain (Loss) From Form 4797

Include only ordinary gains or losses from the sale, exchange, or involuntary conversion of assets used in a trade or business activity. Ordinary gains or losses from the sale, exchange, or involuntary conversion of rental activity assets are reported separately on line 19 of Form 8825 or line 3 of Schedules K and K-1, generally as a part of the net income (loss) from the rental activity.

A partnership that is a partner in another partnership must include on Form 4797, Sales of Business Property, its share of ordinary gains (losses) from sales, exchanges, or involuntary conversions (other than casualties or thefts) of the other partnership's trade or business assets.

Do not include any recapture of section 179 expense deduction. See the instructions for line 25, Supplemental Information, item 4, and the Instructions for Form 4797 for more information.

Line 7 - Other Income (Loss)

Enter on line 7 trade or business income (loss) that is not included on lines 1a through 6. Examples of such income include:

1. Interest income derived in the ordinary course of the partnership's trade or business, such as interest charged on receivable balances.
2. Recoveries of bad debts deducted in earlier years under the specific charge-off method.
3. Taxable income from insurance proceeds.
4. The amount of credit figured on Form 6478, Credit for Alcohol Used as Fuel.
5. All section 481 income adjustments resulting from changes in accounting methods. Show the computation of the section 481 adjustments on an attached schedule.
6. The amount of any deduction previously taken under section 179A that is subject to recapture. See Pub. 535, Business Expenses, for details, including how to figure the recapture.
7. The recapture amount for section 280F if the business use of listed property drops to 50% or less. To figure the recapture amount, the partnership must complete Part IV of Form 4797.

Do not include items requiring separate computations that must be reported on Schedules K and K-1. See the instructions for Schedules K and K-1 later in these instructions.

Do not report portfolio or rental activity income (loss) on this line.

Deductions

Report only trade or business activity deductions on lines 9 through 21.

Do not report the following expenses on lines 9 through 21:

• Rental activity expenses. Report these expenses on Form 8825 or line 3b of
  Schedule K.
• Deductions allocable to portfolio income. Report these deductions on line 10 of Schedules K and K-1.
• Nondeductible expenses (e.g., expenses connected with the production of tax-exempt income). Report nondeductible expenses on line 21 of Schedules K and K-1.
• Qualified expenditures to which an election under section 59(e) may apply. The instructions for lines 18a and 18b of Schedules K and K-1 explain how to report these amounts.
• Items the partnership must state separately that require separate computations by the partners. Examples include expenses incurred for the production of income instead of in a trade or business, charitable contributions, foreign taxes paid, intangible drilling and development costs, soil and water conservation expenditures, amortizable basis of reforestation expenditures, and exploration expenditures. The distributive shares of these expenses are reported separately to each partner on Schedule K-1.

Limitations on Deductions

Section 263A uniform capitalization rules. The uniform capitalization rules of section 263A require partnerships to capitalize or include in inventory costs, certain costs incurred in connection with:

• The production of real and tangible personal property held in inventory or held for sale in the ordinary course of business.
• Real property or personal property (tangible and intangible) acquired for resale.
• The production of real property and tangible personal property by a partnership for use in its trade or business or in an activity engaged in for profit.

The costs required to be capitalized under section 263A are not deductible until the property to which the costs relate is sold, used, or otherwise disposed of by the partnership.

Exceptions: Section 263A does not apply to:

• Inventoriable items accounted for in the same manner as materials and supplies that are not incidental. See Schedule A - Cost of Goods Sold on page 18 for details.
• Personal property acquired for resale if the partnership's average annual gross receipts for the 3 prior tax years were $10 million or less.
• Timber.
• Most property produced under a long-term contract.
• Certain property produced in a farming business. See the note at the end of the instructions for line 5.

The partnership must report the following costs separately to the partners for purposes of determinations under section 59(e):

• Research and experimental costs under section 174.
• Intangible drilling costs for oil, gas, and geothermal property.
• Mining exploration and development costs.

Tangible personal property produced by a partnership includes a film, sound recording, video tape, book, or similar property.

Partnerships subject to the rules are required to capitalize not only direct costs but an allocable part of most indirect costs (including taxes) that benefit the assets produced or acquired for resale, or are incurred by reason of the performance of production or resale activities.

For inventory, some of the indirect costs that must be capitalized are:

• Administration expenses.
• Taxes.
• Depreciation.
• Insurance.
• Compensation paid to officers attributable to services.
• Rework labor.
• Contributions to pension, stock bonus, and certain profit-sharing, annuity, or deferred compensation plans.

Regulations section 1.263A-1(e)(3) specifies other indirect costs that relate to production or resale activities that must be capitalized and those that may be currently deductible.

Interest expense paid or incurred during the production period of designated property must be capitalized and is governed by special rules. For more details, see Regulations sections 1.263A-8 through 1.263A-15.

For more details on the uniform capitalization rules, see Regulations sections 1.263A-1 through 1.263A-3.

Transactions between related taxpayers. Generally, an accrual basis partnership may deduct business expenses and interest owed to a related party (including any partner) only in the tax year of the partnership that includes the day on which the payment is includible in the income of the related party. See section 267 for details.

Business start-up expenses. Business start-up expenses must be capitalized. An election may be made to amortize them over a period of not less than 60 months. See Pub. 535 and Regulations section 1.195-1.

Organization costs. Amounts paid or incurred to organize a partnership are capital expenditures. They are not deductible as a current expense.

The partnership may elect to amortize organization expenses over a period of 60 or more months, beginning with the month in which the partnership begins business. Include the amortization expense on line 20. On the balance sheet (Schedule L) show the unamortized balance of organization costs. See the instructions for line 10 for the treatment of organization expenses paid to a partner. See Pub. 535 for more information.

Syndication costs. Costs for issuing and marketing interests in the partnership, such as commissions, professional fees, and printing costs, must be capitalized. They cannot be depreciated or amortized. See the instructions for line 10 for the treatment of syndication fees paid to a partner.

Reducing certain expenses for which credits are allowable. For each of the following credits, the partnership must reduce the otherwise allowable deductions for expenses used to figure the credit by the amount of the current year credit:

1. The work opportunity credit.
2. The welfare-to-work credit.
3. The credit for increasing research activities.
4. The enhanced oil recovery credit.
5. The disabled access credit.
6. The empowerment zone employment credit.
7. The Indian employment credit.
8. The credit for employer social security and Medicare taxes paid on certain employee tips.
9. The orphan drug credit.

If the partnership has any of these credits, figure each current year credit before figuring the deductions for expenses on which the credit is based.

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