An increasing number of business entities, including investment funds like the Carlyle Group, along with private hedge funds, private equity firms and venture capital funds, largely escape Internal Revenue Service audits due to the way they are organized, according to a new report.

The report, which appears in this week’s issue of Tax Notes, published by Tax Analysts, notes that the IRS has few resources devoted to auditing the many complex entities created by the funds.

“Large, widely held partnerships, including publicly traded partnerships (PTPs)—which generally have thousands of direct and indirect partners—seem largely to escape the scrutiny that the Service gives to their C corporation counterparts,” wrote Tax Notes correspondent Amy Elliott.
“PTPs (such as oil and gas and real estate funds and investment funds like the Blackstone Group LP, the Carlyle Group LP, and KKR & Co. LP) aren’t the only lucky ones,” she added. “While private hedge, private equity, and venture capital funds might not be widely held in terms of the number of direct partners, if one of their investors is a fund of funds, the number of indirect partners balloons.”

The IRS's treatment of PTPs contrasts sharply with its treatment of many large C corporations, more than 800 of which are audited year after year. IRS agents even maintain offices at the corporate headquarters of many large corporations, Elliott noted. Those audits reportedly take up only about 20 percent of the IRS's examination resources but result in about two-thirds of the proposed dollar adjustments.

Conversely the agency lacks the capacity to audit more than a few large, widely held partnerships each year, Elliott noted. The growth in such partnerships raises serious questions about the IRS's ability to audit large businesses if more of them adopt partnership models.

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