Spouses May Elect Out of Partnership Rules

A provision of tax law allows a husband and wife who file a joint return to elect out of the partnership rules. Thus, a joint venture between them is not treated as a partnership for tax purposes.

All items of income, gain, loss, deduction, and credit are divided between the spouses according to their respective interests in the venture, and each spouse takes into account his or her respective share of these items as if they were attributable to a trade or business conducted by the spouse as a sole proprietor. Thus, each electing spouse will report his or her shares on the appropriate form, such as Schedule C.

A qualified joint venture means any joint venture involving the conduct of a trade or business if:

(1) The only members of the joint venture are a husband and wife,
(2) Both spouses materially participate (1) in the trade or business, and
(3) Both spouses elect the application of this rule.

(1) Generally, to qualify as materially participating, 500 hours of participation are required during the year, or if participation is less than 500 hours, the taxpayers must provide substantially all of the participation. The details of this definition can be complicated, so please contact this office for assistance determining if you meet the definition.

Notwithstanding other self-employment rules, each spouse's share of income or loss from a qualified joint venture is taken into account under the above rules in determining the spouse's net earnings from self-employment.

Similarly, each spouse's share of income or loss from a qualified joint venture is taken into account under the above rules in determining the spouse's net earnings from self-employment for purposes of the Social Security benefit rules. Thus, each spouse will receive credit for his or her self-employment tax contributions for purposes of receiving Social Security benefits. However, this rule is not intended to prevent allocations or reallocations, to the extent permitted under pre-2007 Small Business Act law, by courts or by the Social Security Administration, of net earnings from self-employment for purposes of determining Social Security benefits of an individual.

If you would like to discuss how this provision might fit your current or planned business model, please give us a call.

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