Yesterday, Treasury and the IRS released final and temporary regulations under Section 7701 meant to clarify issues related to the employment of owners of disregarded entities.  In 2009, the IRS issues regulations that required disregarded entities be treated as a corporation for purposes of employment taxes including federal income tax withholding and Federal Insurance Contribution Act (FICA) taxes for Social Security and Medicare.  The regulations provided that a disregarded entity was disregarded, however, for purposes of self-employment taxes and included an example that demonstrated the application of the rule to an individual who was the single owner of a disregarded entity.  In the example, the disregarded entity is treated as the employee of its employees but the owner remains subject to self-employment tax on the disregarded entity's activities.  In other words, the owner is not treated as an employee. Rev. Rul. 69-184 provides that partners are not employees of the partnership for purposes of FICA taxes, Federal Unemployment Tax Act (FUTA) tax, and federal income tax withholding.  This is true even if the partner would qualify as an employee under the common law test.  This made it difficult—if not impossible—for partnerships to allow employees to participate in the business with equity ownership such as options even if the employee owned only a very small portion of the partnership.  The 2009 regulations raised questions, however, provided some hope that a disregarded entity whose sole owner was a partnership could be used to as the employer of the partnership's partners. Doing so would have allowed partners in the partnership to be treated as employees of the disregarded entity and participate in tax-favored employee benefit plans, such as cafeteria plans.  The final and temporary regulations clarify that that an individual who owns and portion of a partnership may not be treated as an employee of the partnership or of a disregarded entity owned by the partnership. As a result, payments made to partners should not be reported on Form W-2, but should be reported on Schedule K-1.  Such payments are not subject to federal income tax withholding or FICA taxes, but will be subject to self-employment taxes when the partner files his or her individual income tax return.  In addition, if partners are currently participating in a disregarded entity's employee benefit plans, such as a health plan or cafeteria plan, the plan has until the later of August 1, 2016, or the first day of the latest-starting plan year following May 4, 2016.

The information contained in this communication is not intended as legal advice or as an opinion on specific facts. This information is not intended to create, and receipt of it does not constitute, a lawyer-client relationship. For more information, please contact one of the senders or your existing Miller & Chevalier lawyer contact. The invitation to contact the firm and its lawyers is not to be construed as a solicitation for legal work. Any new lawyer-client relationship will be confirmed in writing.

This, and related communications, are protected by copyright laws and treaties. You may make a single copy for personal use. You may make copies for others, but not for commercial purposes. If you give a copy to anyone else, it must be in its original, unmodified form, and must include all attributions of authorship, copyright notices, and republication notices. Except as described above, it is unlawful to copy, republish, redistribute, and/or alter this presentation without prior written consent of the copyright holder.