General Instructions for Schedules K and K-1 - Partners' Shares of Income, Credits, Deductions, Etc.

Important: If the foreign partnership filed Form 1065 or 1065-B, do not complete Schedules K and K-1 on Form 8865. Instead, attach to Form 8865 a copy of the Schedules K and K-1 from Form 1065 or 1065-B.

Schedule K

Schedule K is a summary schedule of all of the partners' shares of the partnership income, credits, deductions, etc. Only Category 1 filers must complete Schedule K.

Schedule K-1

Schedule K-1 is used to report a specific partner's share of the partnership income, credits, deductions, etc.

All Category 1 and 2 filers must complete Schedule K-1 for any direct interest they hold in the partnership. A Category 1 or 2 filer that does not own a direct interest is not required to complete Schedule K-1.

Category 1 filers must also complete Schedule K-1 for each U.S. person that directly owns a 10% or greater direct interest in the partnership.

On Schedule K-1, provide the partner's beginning and year-end percentage interest in partnership profits, capital, deductions, or losses. These percentages should include any interest constructively owned by the filer.

Lines 1 through 23 are the same for both Schedule K and Schedule K-1. However, Schedule K-1 contains information about a particular partner's distributive share, rather than information about the partnership as a whole. Complete lines 1 through 25 for any direct interest that partner owns in the partnership.

Example. Partner A owns a 45% direct interest in foreign partnership (FPS). Partner A also owns 100% of the stock of a domestic corporation (DC), which owns a 10% direct interest in FPS. Therefore, Partner A is considered to own a 55% interest in FPS and is thus a Category 1 filer. When Partner A completes Schedule K-1 for itself, Partner A must report the distributive share of items allocated to Partner A's direct interest of 45% but not any items allocated to DC's 10% interest. When Partner A completes Schedule K-1 for DC (which Partner A must do because DC owns a direct 10% interest), Partner A must report on DC's Schedule K-1 only items allocated to DC's direct 10% interest.

Although the partnership is not subject to income tax, the partners are liable for tax on their shares of the partnership income, whether or not distributed, and must include their share of such items on their tax returns. Allocations of income, gains, losses, deductions, or credits among the partners generally should be made according to the partnership agreement. See section 704 and the regulations thereunder.

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Specific Instructions (Schedules K and K-1, Except as Noted)

Note: Generally, Schedules K and K-1 on Form 8865 and Form 1065 are the same. If more guidance is needed to complete Schedules K and K-1 of Form 8865, refer to the Form 1065 instructions.

Special Allocations

An item is specially allocated if it is allocated to a partner in a ratio different from the ratio for sharing income or loss generally.

Report specially allocated ordinary gain (loss) on Schedules K and K-1, line 7. Report other specially allocated items on the applicable lines of the partner's Schedule K-1, with the total amount on the applicable line of Schedule K. For example, specially allocated long-term capital gain is entered on line 4e(1) of the partner's Schedule K-1, and the total is entered on line 4e(1) of Schedule K, along with any net long-term capital gain (or loss) from line 12 column (f), of Schedule D.

Income (Loss)

Line 1 - Ordinary Income (Loss) From Trade or Business Activities

Enter the amount from Schedule B, line 22. Enter the income (loss) without reference to (a) the basis of the partners' interests in the partnership, (b) the partners' at-risk limitations, or (c) the passive activity limitations. These limitations, if applicable, are determined at the partner level.

If the partnership has more than one trade or business activity, identify on an attachment to Schedule K-1 the amount from each separate activity.

Line 1 should not include rental activity income (loss) or portfolio income (loss).

Line 2 - Net Income (Loss) From Rental Real Estate Activities

Enter the net income (loss) from rental real estate activities of the partnership from Form 8825. Attach this form to Form 8865. If the partnership has more than one rental real estate activity, identify on an attachment to Schedule K-1 the amount attributable to each activity.

Line 3 - Net Income (Loss) From Other Rental Activities

On Schedule K, line 3a, enter gross income from rental activities other than those reported on Form 8825. See Pub. 925, Passive Activity and At-Risk Rules, for a definition of rental activities. Include on line 3a, the gain (loss) from line 18 of Form 4797 that is attributable to the sale, exchange, or involuntary conversion of an asset used in a rental activity other than a rental real estate activity.

On line 3b of Schedule K, enter the deductible expenses of the activity. Attach a schedule of these expenses to Form 8865.

Enter the net income (loss) on line 3c of Schedule K. Enter the partner's share on line 3 of Schedule K-1.

If the partnership has more than one rental activity reported on line 3, identify on an attachment to Schedule K-1 the amount from each activity.

Lines 4a Through 4f - Portfolio Income (Loss)

Enter portfolio income (loss) on lines 4a through 4f.

Do not reduce portfolio income by deductions allocable to it. Report such deductions (other than interest expense) on line 10 of Schedules K and K-1. Interest expense allocable to portfolio income is generally investment interest expense and is reported on line 14a of Schedules K and K-1.

Lines 4a and 4b. Enter only taxable interest and ordinary dividends on these lines. Taxable interest is interest from all sources except interest exempt from tax and interest on tax-free covenant bonds.

Lines 4d, 4e(1), 4e(2), and 4e(3). Enter on line 4d of Schedule K the gain or loss (that is portfolio income (loss) from line 5 of Schedule D plus any short-term capital gain (loss) that is specially allocated to partners. Report a partner's share on line 4d of Schedule K-1.

Enter on line 4e(1) the gain or loss that is portfolio income (loss) from line 12 of Schedule D plus any long-term capital gain (loss) that is specially allocated to partners. Enter on line 4e(2) the gain or loss from line 11 of Schedule D plus any 28% rate gain (loss) that is included on line 12 of Schedule D. Enter on line 4e(3) the gains (not losses) from the disposition of assets (excluding property that could qualify for section 1202 gain) held more than 5 years that are portfolio income included on line 12 of Schedule D.

If any gain or loss from lines 5, 11, and 12 of Schedule D is not portfolio income (e.g., gain or loss from the disposition of nondepreciable personal property used in a trade or business), do not report this income or loss on lines 4d and 4e(1) through 4e(3). Instead, report it on line 7 of Schedules K and K-1. If the partnership had a gain from such property held more than 5 years, show the total of all such gains on an attachment to Schedule K-1. Indicate on the statement that the shareholder should include this amount on line 4 of the worksheet for line 29 of Schedule D (Form 1040).

If the income or loss is attributable to more than one activity, report the income or loss amount separately for each activity on an attachment to Schedule K-1 and identify the activity to which the income or loss relates.

If any gain or loss from lines 5, 11, and 12 of Schedule D is from the disposition of nondepreciable personal property used in a trade or business, it may not be treated as portfolio income. Report such gain or loss on line 7 of Schedules K and K-1. If the partnership had a gain from such property held more than 5 years, show the total of all such gains on an attachment to Schedule K-1. Indicate on the statement that the partner should include this amount on line 4 of the worksheet for line 29 of Schedule D (Form 1040). If the gain or loss is attributable to more than one activity, report the gain or loss amount separately for each trade or business activity on an attachment to Schedule K-1 and identify the activity to which the gain or loss relates.

Line 4f. Report and identify other portfolio income or loss on an attachment for line 4f.

For example, income reported to the partnership from a real estate mortgage investment conduit (REMIC), in which the partnership is a residual interest holder, would be reported on an attachment for line 4f. If the partnership holds a residual interest in a REMIC, report on the attachment for line 4f the partner's share of the following:

• Taxable income (net loss) from the REMIC (line 1b of Schedules Q (Form 1066), Quarterly Notice to Residual Interest Holder of REMIC Taxable Income or Net Loss Allocation).
• Excess inclusion (line 2c of Schedules Q (Form 1066)).
• Section 212 expenses (line 3b of Schedules Q (Form 1066)). Do not report these section 212 expenses on line 10 of Schedules K and K-1.

Because Schedule Q (Form 1066) is a quarterly statement, you must follow the Schedule Q instructions to figure the amounts to report to the partner for the partnership's tax year.

Line 5 - Guaranteed Payments to Partners

Guaranteed payments to partners include:

• Payments for salaries, health insurance, and interest deducted by the partnership and reported on Schedule B, line 10; Form 8825; or on Schedule K, line 3b; and
• Payments the partnership must capitalize. See the Instructions for Schedule B, line 10.

Generally, amounts reported on line 5 are not considered to be related to a passive activity. For example, guaranteed payments for personal services paid to a partner would not be passive activity income. Likewise, interest paid to any partner is not passive activity income.

Line 6 - Net Section 1231 Gain (Loss) (Other Than Due to Casualty or Theft)

Enter on line 6 the net section 1231 gain (loss) from Form 4797, line 7. Do not include specially allocated ordinary gains and losses or net gains or losses from involuntary conversions due to casualties or thefts on this line. Instead, report them on line 7. If the partnership has more than one activity, attach a statement to Schedule K-1 that identifies the activity to which the section 1231 gain (loss) relates.

Attach a statement to each Schedule K-1 indicating the aggregate amount of all gains from section 1231 property held more than 5 years. Do not include any gain attributable to straight-line depreciation from section 1250 property. Indicate on the statement that this amount should be included in the partner's computation of qualified 5-year gain only if the amount on the partner's Form 4797, line 7, is more than zero. Do not include any unrecaptured section 1250 gain.

Line 7 - Other Income (Loss)

Use line 7 to report other items of income, gain, or loss not included on lines 1 through 6. If the partnership has more than one activity, identify on an attachment the amount and the activity to which each amount relates.

Include the following items on line 7:

• Gains from the disposition of farm recapture property (see Form 4797) and other items to which section 1252 applies.
• Gains from the disposition of an interest in oil, gas, geothermal, or other mineral properties (section 1254).
• Any net gain or loss from section 1256 contracts from Form 6781, Gains and Losses From Section 1256 Contracts and Straddles.
• Recoveries of tax benefit items (section 111).
• Gambling gains and losses subject to the limitations in section 165(d).
• Any income, gain, or loss to the partnership under section 751(b).
• Specially allocated ordinary gain (loss).
• Net gain (loss) from involuntary conversions due to casualty or theft. The amount for this line is shown on Form 4684, Casualties and Thefts, line 38a, 38b, or 39.

  The partner's share must be entered on Schedule K-1. If there was a gain (loss) from a casualty or theft to property not used in a trade or business or for income-producing purposes, do not complete Form 4684 for this type of casualty or theft. Instead, the partner will complete his or her own Form 4684.

• Gain from the sale or exchange of qualified small business stock that is eligible for the 50% section 1202 exclusion. The section 1202 exclusion applies only to qualified small business stock issued after August 10, 1993, and held by the partnership for more than 5 years. Corporate partners are not eligible for the section 1202 exclusion. Additional limitations apply at the partner level. Report the partner's share of section 1202 gain on Schedule K-1. The partner will determine if he or she qualifies for the section 1202 exclusion. Report on an attachment to Schedule K-1 for each sale or exchange the name of the corporation that issued the stock, the partner's share of the partnership's adjusted basis and sales price of the stock, and the dates the stock was bought and sold.
• Gain eligible for section 1045 rollover (replacement stock not purchased by the partnership). Include only gain from the sale or exchange of qualified small business stock the partnership held for more than 6 months but that was not deferred by the partnership under section 1045. A partner (other than a corporation) may be eligible to defer his or her distributive share of this gain under section 1045 if he or she purchases other qualified small business stock during the 60-day period that began on the date the stock was sold by the partnership. Additional limitations apply at the partner level. Report on an attachment to Schedule K-1 for each sale or exchange the name of the corporation that issued the stock, the partner's share of the partnership's adjusted basis and sales price of the stock, and the dates the stock was bought and sold.

Deductions

Line 8 - Charitable Contributions

Enter the total amount of charitable contributions made by the partnership during its tax year on Schedule K. Enter the partner's distributive share on Schedule K-1. On an attachment to Schedules K and K-1, show separately the dollar amount of contributions subject to each of the 50%, 30%, and 20% of adjusted gross income limits. For additional information, see Pub. 526, Charitable Contributions.

Certain contributions made to an organization conducting lobbying activities are not deductible. See section 170(f)(9) for more details.

If the partnership made a qualified conservation contribution, include the FMV of the underlying property before and after the donation and describe the conservation purpose furthered by the donation.

Line 9 - Section 179 Expense Deduction

If the partnership files Form 1065 or 1065-B, it may elect to expense part of the cost of certain tangible property the partnership purchased this year for use in its trade or business or certain rental activities. See Pub. 946, How to Depreciate Property, for a definition of what kind of property qualifies for the section 179 expense deduction and the Instructions for Form 4562 for limitations on the amount of the section 179 expense deduction.

If the foreign partnership received a Schedule K-1 from another partnership reporting a section 179 expense deduction, complete lines 6 through 13 of Form 4562. Report the eligible partners' distributive shares of the amount on line 12 of Form 4562 on Schedule K-1, line 9. An estate or trust is not an eligible partner.

See the instructions for line 25 of Schedule K-1, item 4, for any recapture of a section 179 amount.

Line 10 - Deductions Related to Portfolio Income

Enter on line 10 and attach an itemized list of the deductions clearly and directly allocable to portfolio income (other than interest expense and section 212 expenses from a REMIC). Interest expense related to portfolio income is investment interest expense and is reported on line 14a of Schedules K and K-1. Section 212 expenses from the partnership's interest in a REMIC are reported on an attachment for line 4f of Schedules K and K-1.

No deduction is allowable under section 212 for expenses allocable to a convention, seminar, or similar meeting.

Line 11 - Other Deductions

Use line 11 to report deductions not included on lines 8, 9, 10, 17g, and 18b. On an attachment, identify the deduction and amount and, if the partnership has more than one activity, the activity to which the deduction relates.

Examples of items to be reported on an attachment to line 11 include:

• Amounts paid by the partnership that would be allowed as itemized deductions on any of the partners' income tax returns if they were paid directly by a partner for the same purpose. However, do not enter expenses related to portfolio income or investment interest expense on this line.

  If there was a loss from an involuntary conversion due to casualty or theft of income-producing property, include in the total amount for this line the relevant amount from Form 4684, line 32.

• Any penalty on early withdrawal of savings.
• Soil and water conservation expenditures (section 175).
• Contributions to a capital construction fund.
• Any amounts paid during the tax year for health insurance coverage for a partner (including that partner's spouse and dependents). For 2001, a partner may be allowed to deduct up to 60% of such amounts on Form 1040, line 28.
• Payments for a partner to an IRA, qualified plan, simplified employee pension (SEP) or a SIMPLE IRA plan. If a qualified plan is a defined benefit plan, a partner's distributive share of payments is determined in the same manner as his or her distributive share of partnership taxable income. For a defined benefit plan, attach to the Schedule K-1 a statement showing the amount of benefit accrued for the tax year.
• Interest expense allocated to debt-financed distributions. See Notice 89-35 for more information.
• Interest paid or accrued on debt properly allocable to each general partner's share of a working interest in any oil or gas property (if the partner's liability is not limited).

Credits

Line 12a - Low-Income Housing Credit

Section 42 provides a credit that may be claimed by owners of low-income residential rental buildings. If the partners are eligible to take the low-income housing credit, complete and attach Form 8586, Low-Income Housing Credit; Form 8609, Low-Income Housing Credit Allocation Certification; and Schedule A (Form 8609), Annual Statement, to Form 8865.

Report on line 12a(1) the total low-income housing credit for property with respect to which a partnership is to be treated under section 42(j)(5) as the taxpayer to which the low-income housing credit was allowed. Report any other low-income housing credit on line 12a(2).

If part or all of the credit reported on line 12a(1) or 12a(2) is attributable to additions to qualified basis of property placed in service before 1990, report on an attachment to Schedules K and K-1 the amount of the credit on each line that is attributable to property placed in service (a) before 1990 and (b) after 1989.

Line 12b - Qualified Rehabilitation Expenditures Related to Rental Real Estate Activities

Enter total qualified rehabilitation expenditures related to rental real estate activities of the partnership. Also complete the applicable lines of Form 3468, Investment Credit, that apply to qualified rehabilitation expenditures for property related to rental real estate activities of the partnership for which income or loss is reported on line 2 of Schedule K. See Form 3468 for details on qualified rehabilitation expenditures. Attach Form 3468 to Form 8865.

For line 12b of Schedule K-1, enter the partner's distributive share of the expenditures. On the dotted line to the left of the entry space for line 12b, enter the line number of Form 3468 on which the partner should report the expenditures. If there is more than one type of expenditure, or the expenditures are from more than one rental real estate activity, report this information separately for each expenditure or activity on an attachment to Schedules K and K-1.

Qualified rehabilitation expenditures for property not related to rental real estate activities must be listed separately on line 25 of Schedule K-1.

Line 12c - Credits (Other Than Credits Shown on Lines 12a and 12b) Related to Rental Real Estate Activities

Report any information that the partners need to figure credits related to a rental real estate activity, other than the low-income housing credit and qualified rehabilitation expenditures. On the dotted line to the left of the entry space for line 12c (or in the margin), identify the type of credit. If there is more than one type of credit or the credit is from more than one activity, report this information separately for each credit or activity on an attachment to Schedules K and K-1.

Line 12d - Credits Related to Other Rental Activities

Use this line to report information that the partners need to figure credits related to a rental activity other than a rental real estate activity. On the dotted line to the left of the entry space for line 12d, identify the type of credit. If there is more than one type of credit or the credit is from more than one activity, report this information separately for each credit or activity on an attachment to Schedules K and K-1.

Line 13 - Other Credits

Enter on line 13 any other credit, except credits or expenditures shown or listed for lines 12a through 12d of Schedules K and K-1. On the dotted line to the left of the entry space for line 13, identify the type of credit. If there is more than one type of credit or the credit is from more than one activity, report this information separately for each credit or activity on an attachment to Schedules K and K-1. The credits to be reported on line 13 and other required attachments are as follows:

• Credit for backup withholding on dividends, interest, or patronage dividends.
• Nonconventional source fuel credit. The credit is figured at the partnership level and then is apportioned to the partners based on their distributive shares of partnership income attributable to sales of qualified fuels. Attach a separate schedule to the return to show the computation of the credit. See section 29 for more information.
• Qualified electric vehicle credit (Form 8834).
• Unused credits from cooperatives. The unused credits are apportioned to persons who were partners in the partnership on the last day of the partnership's tax year.
• Work opportunity credit (Form 5884). This credit is apportioned among the partners according to their interest in the partnership at the time the wages on which the credit is figured were paid or accrued.
• Welfare-to-work credit (Form 8861). This credit is apportioned in the same manner as the work opportunity credit.
• Credit for alcohol used as fuel (Form 6478). This credit is apportioned to persons who were partners on the last day of the partnership's tax year. The credit must be included in income on line 7 of Schedule B.

If this credit includes the small ethanol producer credit, identify on a statement attached to each Schedule K-1 (a) the amount of the small producer credit included in the total credit allocated to the partner, (b) the number of gallons of qualified ethanol fuel production allocated to the partner, and (c) the partner's share in gallons of the partnership's productive capacity for alcohol.

• Credit for increasing research activities (Form 6765).
• Enhanced oil recovery credit (Form 8830).
• Disabled access credit (Form 8826).
• Renewable electricity production credit (Form 8835).
• Empowerment zone employment credit (Form 8844).
• Indian employment credit (Form 8845).
• Credit for employer social security and Medicare taxes paid on certain employee tips (Form 8846).
• Orphan drug credit (Form 8820).
• New markets credit (Form 8874).
• Credit for contributions to selected community development corporations (Form 8847).
• General credits from an electing large partnership.

See the instructions for line 25, item 13 of Schedule K-1 to report expenditures qualifying for the (a) rehabilitation credit not related to rental real estate activities, (b) energy credit, or (c) reforestation credit.

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