On May 9, the IRS and Treasury Department released proposed regulations permitting domestic unincorporated entities to elect to be "associations taxable as corporations" (associations). If no election to be an association is made, the entity is classified as a partnership or nonentity (if owned by a single owner). Therefore, a solely-owned LLC with an individual owner is taxed as a proprietorship and one owned by an entity is treated as a branch or division. The effective date will be the date final regulations are issued. The hearing on the proposed regulations is August 20, so the final regulations will not be issued before sometime this fall.

The overall approach taken by the regulations is to describe the entities that are corporations--generally all entities called corporations formed under state or Federal law. Domestic, unincorporated entities are presumed not to be associations. So an LLC need not file an election
to be treated as a partnership or proprietorship. An election will only be necessary if an eligible entity wishes to betaxed as a corporation.

The rule for foreign eligible entities is a little more complicated. The proposed regulation drafters wanted to provide a default for foreign entities that tries to match the owners' intent in forming the organization. The regulation uses unlimited liability as the litmus test. Therefore, if the foreign entity has one or more owners with unlimited liability, it will be presumed to be a partnership or a nonentity. If all owners have limited liability, it will be presumed to be an association. If the default classification is not the desired one, the entity may elect to be classified as the desired type of taxpayer.

Eligible entities formed before the regulations become effective and wishing to retain their current classification need take no action. The proposed regulations also contain a transition rule stating that the IRS will not challenge the classification of an existing entity during the period the existing regulations apply, if it had a reasonable basis for the classification.

If an eligible entity wants to be classified differently than the default classification, change its classification, or file a protective election, it needs to file an election that includes the--

* name of the eligible entity,

* address,

* taxpayer ID number (TIN),

* chosen classification,

* whether the election results in a change in
classification,

* whether the entity is domestic or foreign, and

* optional effective date for election.

An election must be signed either by all members of the entity or by an officer, manager, or owner who is authorized to make the election and who represents to having such authorization under penalties of perjury. If the entity is singly owned and electing to be treated as a non-entity, the owner's TIN is used. To reduce paperwork burden, an entity changing its classification is not required to get a new TIN.

As a general rule, an entity electing to change its classification may not do so again for 60 months. This restriction does not apply to elections made effective on the effective date of the new regulations. Also, for these purposes, an election made at the formation of an entity is not "an election to change" the classification.

The election may be made retroactive up to 75 days before the filing date. If no date is stated, the election becomes effective on the filing date. The election must also be attached to the entity's or the nonentity's owner's tax return for the year the election is effective.