Partnerships and certain LLCs must file Form 1065 every year to report their income and expenses. Income and expenses reported on Form 1065 flow through to partners and are taxed on their tax return. While Form 1065 does not generate a tax liability, it is very important to complete it on time and accurately. The penalty for a late or incomplete Form 1065 is $205 per month times the number of partners in the partnership.
It is vital you have accurate information available when it’s time to file your partnership tax return. With QuickBooks, you can save time and stay organized by automatically generating reports, including the profit and loss accounts and balance sheets. Get started today with up to 50% off QuickBooks Online.
What Is Form 1065 & How Does It Work?
Form 1065 is the partnership tax return used by partnerships to report business income and expenses. Multimember limited liability companies (LLCs) not being taxed as S corporations also must file Form 1065. Income on Form 1065 is not taxed, but rather flows through to the partners. The Form 1065 is much easier to complete if you first understand the general flow of information.
Page 1 of the partnership tax return is similar to an income statement and shows all the partnership’s ordinary income and expenses for the year. Form 1065, Schedule K reports the total net ordinary income from page 1 along with any other special items of income and expenses for the year. All of the partnership-level income and expenses on Schedule K is then allocated to individual partners and reported on Schedule K-1s. Each partner receives a Schedule K-1 and uses it to determine their share of income and expenses to report on their individual returns.
Now that you understand the flow of information on the partnership tax return, here are Form 1065 instructions in eight steps:
1. Gather Information Needed to File Form 1065
Before preparing Form 1065, you need financial statements for the tax year, information for each of the partners, and in-depth details about fixed assets and tax payments. We created a free Form 1065 checklist to help you gather this information.
The information and reports needed to prepare Form 1065 for a partnership include: READ MORE
- Profit and loss statement: Summarizes the partnership’s income and expenses for the tax year and calculates the bottom line net profit and loss. If you use an accounting program like QuickBooks, you can run a profit and loss report in just a few minutes.
- Balance sheet statement: Summarizes the assets, liabilities, and owner’s equity as of the end of the tax year. You can easily run a balance sheet report if you use QuickBooks.
- Last year’s Form 1065: You will need to refer to last year’s partnership return when preparing this year’s return.
- Employer Identification Number: This is your federal employer identification number, also known as a taxpayer identification number. If this is the first return for a new partnership, you will need to apply for one from the IRS before filing the partnership return.
- Business start date: You will need to provide the date you started the business.
- Principal Business Activity Code: This numeric code represents the principal line of business the partnership is engaged in. Select the code that best describes your partnership from the list provided in the Form 1065 Instructions.
- Principal business activity: This is a short description of the nature of the partnership’s business activity. Examples include manufacturing, retail, food service, and professional services.
- Principal product or service: This is a short description of the primary product or service the partnership offers. Examples include toys, restaurant, and accounting.
- Accounting method: Cash or accrual are the most common accounting methods. For more details, check out our guide on the cash versus accrual method.
- Number of partners: Total number of partners in the business.
- Partners information: For each partner, you will need their name, address, taxpayer identification number, the amount of capital they invested during the year, and a signed Form W-9 or Form W-8BEN.
- Distributions made to partners: You will need reports showing the amount of payments to each partner, and whether those payments are classified as guaranteed payments or as distributions of profit, and any federal or state tax withheld on these payments.
- Form 1099 reporting requirements: You will need to know if the partnership is required to issue any Forms 1099, and whether the partnership actually issued them. For more details, check out our guide on Form 1099 reporting.
- Fixed asset purchases: You will need a report showing the date and amount for each purchase of a fixed asset (such as machinery, equipment, computers, furniture, or buildings). You will also need to know the date each asset was placed in service for business use.
2. Fill Out Form 1065 General Info Section
Now that you have financial statements and information about the partnership and the partners, let’s start preparing the partnership tax return, starting at the top of Form 1065. The top portion of Form 1065 asks for general information about the partnership, such as the name, address, and type of business the partnership operates.
Information that is reported at the top of Form 1065 includes:
- Name of the partnership
- Address of the partnership
- Principal business activity and business code
- Federal employer identification number (EIN)
- Date that the business started
- Accounting method
3. Fill Out Form 1065 Income & Deductions Section
Page 1 of Form 1065 reports the business income and deductions of the partnership. The purpose of this section is to calculate the net ordinary business income (or loss) for the tax year. Details about income and expenses will come from the partnership’s profit and loss statement.
Page 1, Form 1065 Includes only ordinary business income and deductions, the net of which then flows to Form 1065, Schedule K, line 1 (step 5). Investment income, such as dividends, interest, and rental activities, should not be included on page 1 as they are reported directly on Schedule K. Including them on both page 1 and Schedule K would double-count them.
Special tax deductions, such as Section 179, are also shown directly on Schedule K instead of page 1. Briefly skip ahead to step 5 and review the income and deductions included separately on Schedule K lines 2 through 13 to ensure you don’t also include them on page 1.
4. Fill Out Form 1065 Schedule B
Schedule B, found on pages 2 and 3 of Form 1065, asks 28 questions that require a yes/no response. These questions are very technical. You will need to refer to the Form 1065 instructions for a detailed discussion of each question being asked.
Some tips for answering the questions on Schedule B: READ MORE
- Question 2a asks if any entity (i.e., corporations, partnerships) owns 50% or more of the partnership.
- Question 2b asks if any individual or estate owns 50% or more of the partnership.
- Questions 3a and 3b ask if the partnership owns any corporations (3a) or partnerships (3b).
- If the partnership has bank or investment accounts in countries outside the United States, pay particular attention to question 8.
- If any partners in your partnership are foreign nationals, pay attention to question 14. The partnership may need to withhold tax on income allocated to foreign partners.
Form 1065 Schedule B Questions 4A–4D
The purpose of question four is to determine if you must prepare the balance sheet (Schedule L), book-to-tax reconciliations (Schedule M-1), and analysis of partners’ capital accounts (Schedule M-2). If you can answer “Yes” to all four questions, then you are not required to complete Schedules L, M-1, or M-2 of Form 1065.
The four parts of question four are:
- Total gross receipts: Did the partnership earn less than $250,000 in gross receipts during the year? This can be answered by referring to line 1 of the first page of Form 1065.
- Total assets: Was the partnership’s assets less than $1 million during the year? Refer to your balance sheet to answer this question.
- Timely filing of K-1s: Did the partnership furnish a Schedule K-1 to its partners on or before the due date, including any extensions? You should always furnish each partner a K-1 by the due date. However, if you are filing Form 1065 late, you must answer “No” to this question.
- Schedule M-3: Is the partnership required to file Schedule M-3, net income reconciliation, for the year? Most small businesses are not required to file Schedule M-3. Among other things, Schedule M-3 is required when a partnership has total assets of at least $10 million, has total receipts of at least $35 million, or owns at least 50% in another partnership that is required to file an M-3.
5. Fill Out Form 1065 Schedule K
Schedule K is a summary of the partnership’s income, deductions, and credits for the year. The amounts shown on Schedule K will be allocated to each partner using Schedule K-1. Each partner will receive a Schedule K-1 so that they can include the income from the partnership on their personal tax returns.
Line 1 of Schedule K reports the ordinary business income or loss from page 1. Lines 2 through 13 report other items of income and deductions. Be careful not to report any income or deduction on both page 1 and lines 2 through 13.
Amounts reported on lines 14 through 20 of Schedule K are informational and required to correctly calculate a partner’s liability on their individual tax return. It is fine for amounts on lines 14 through 20 to also be included on page 1. For instance, foreign interest payments disclosed on line 16(i) should also be deducted as interest expense on page 1.
6. Fill Out Form 1065 Schedule L Balance Sheet
The purpose of Schedule L is to provide the IRS with the details of all assets, liabilities, and equity of the partnership as of the beginning and the end of the tax year. If you use an accounting program like QuickBooks Online, this information will come directly from your balance sheet report. If you answered “Yes” to question 4 on Schedule B, you do not need to complete Schedule L.
7. Fill Out Form 1065 Schedule M-1
The purpose of Schedule M-1 is to show any differences in how income and expenses are reported for bookkeeping purposes and for tax purposes. Any differences between the two methods are summarized on Schedule M-1. If you answered “Yes” to Schedule B, question 4, you do not need to complete Schedule M-1.
Some common book-tax differences include:
- The adjustment for 50% of meals
- Tax-exempt interest income
- Non-deductible expenses such as fines and penalties
Many people struggle with Schedule M-1, but in my 25 years of experience preparing and teaching this, I’ve developed a method. First, review your profit and loss statement and enter the net income on Schedule M-1, line 1. Next, review the income and deductions you’ve reported on page 1 and Schedule K lines 2 through 13 and enter the net of those amounts on Schedule M-1, Line 9.
Compare the profit and loss statement and tax return income line-by-line to determine all differences. These differences must be shown on Schedule M-1, lines 2 through 9. For instance, if depreciation expense on the profit and loss statement is greater than depreciation expense on page 1 of Form 1065, then the difference must be reported on Schedule M-1, line 4.
8. Fill Out Form 1065 Schedule M-2
The purpose of Schedule M-2 is to show changes to the partners’ capital account for the year and to calculate the ending balance. Remember, if you answered “Yes” to question 4 on Schedule B, you don’t have to complete Schedule M-2. The beginning and ending capital accounts (lines 1 and 9) should agree to the beginning and ending capital accounts on line 21 of the Schedule L. Net income on line 3 should agree to the net income from line 1 of Schedule M-1.
Form 1065 Due Dates
The deadline to file Form 1065 is March 15 for calendar year partnerships. A six-month extension to September 15 is available, but keep in mind that the partners can’t file their individual returns until the Form 1065 is filed. Deadlines falling on weekends or holidays move to the following business day. For fiscal year partnerships, Form 1065 is due on the 15th day of the third month following the fiscal year-end.
Form 1065 Frequently Asked Questions (FAQs)
We’ve discussed how to prepare partnership tax returns using Form 1065. Below we answer some common questions that come up about preparing partnership tax returns.
Do a husband & wife have to file partnership returns?
If you formed a limited liability company or other business entity with the state, then you will need to file Form 1065. However, if you have an unincorporated general partnership and both spouses own and operate the business, then you may elect to file two Schedule Cs under the rules for qualified joint ventures. Read this IRS page for more information.
Does each partner need to file a Form 1065?
The partnership or LLC files one Form 1065 for the year. That Form 1065 tallies up income, deductions, and credits for the year. It then allocates that income, deductions, and credits to each partner using Schedule K-1. Each partner uses Schedule K-1 to prepare his or her own personal tax return.
Can an LLC have a foreign partner?
LLCs and partnerships can have foreign partners. There are some additional tax responsibilities, though. The LLC or partnership will need to withhold federal and state tax on the income allocated to foreign partners. Foreign partners need a U.S. taxpayer identification number and need to file their own tax returns in the U.S.
You now have a good understanding of who is required to file Form 1065 and the information necessary to complete the form. You can download a Form 1065 from the IRS and complete it by hand, or save time by purchasing tax software that will prepare Form 1065 for you.
We recommend TurboTax Business to prepare Form 1065, partnership tax returns. QuickBooks Desktop users can automatically import their financial information to help complete page 1, Schedule K, and Schedule L of Form 1065.