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Partnership capital account analysis and Schedule M-2 in ProConnect Tax

by Intuit• Updated 8 months ago

This article will help provide answers to frequently asked questions regarding the partnership capital account analysis and Schedule M-2 in ProConnect Tax.

Since tax year 2021, federal Form 1065 instructions for line 3 have been modified. This line has gone through a few changes in the past years, including;

  • 2019 and Prior Schedule M-2, line 3 was the same value as the Schedule M-1, line 1 (net income per books).
  • 2020 Schedule M-2, line 3 would default to utilize the Schedule M-1, line 3. However, there were options available on the Schedule M-2 screen, to Recompute Sch. M-2, line 3 if partnership books are NOT on tax basis, which could cause Schedule M-2, line 3 to be different from the Schedule M-1, line 3.
  • 2021 Schedule M-2, line 3 changed the instructions to no longer reference Net Income per Books (Schedule M-1, line 1), but instead to be Net Income (Schedule M-1, line 9).

Impacts:

Schedule M-2, line 9 balance at end of year, impacts the Balance Sheet, line 21 Partners’ capital accounts, column (d).

Adjustments may need to be accounted for on:

  • The Schedule M-2 screen, in Other increases line 4, and
  • The Schedule M-2 screen, in Other decreases (code 107) line 7.

How to report partners' capital accounts on the tax basis

For 2020 and beyond, tax basis capital account reporting is required on all federal partnership returns. The Recompute Sch. M-2, Line 3 feature can help you ensure compliance; this can be found on the Schedule M-2 (Capital Accounts) screen. To learn more, refer to Tax basis capital account reporting in ProConnect.

Why the beginning capital on Schedule K-1, Item L, is zero

ProConnect Tax allocates the beginning capital based on partner percentages by default. If a partner's ending percentage of ownership was zero, you'll need to specially allocate the correct amount of beginning capital. To learn more, refer to Why is partners' capital account analysis blank for Schedule K-1, Item L (1065)?

How to zero out the partners' ending capital on a final return

Distributions of cash or property, or other decreases, must be entered to reduce the partners' ending capital to zero. To adjust the partners' capital account on Form 1065:

  1. Go to the Input Return tab.
  2. From the left of the screen, select Balance Sheet, M-1, M-2 and choose Schedule M-2 (Capital Account).
  3. Scroll down to the Other Decreases (-) subsection.
  4. Enter the correct amount in Other decreases (Click on button to expand).
    • Or, you may enter the correct amount in the Cash and marketable securities or Property fields, under the Distributions subsection.
ProConnect Tax

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