PDF document

- 1 -

Userid: CPM Schema: instrx Leadpct: 100% Pt. size: 9 Draft Ok to Print
AH XSL/XML Fileid: … 65schm-3/202112/a/xml/cycle02/source (Init. & Date) _______

Page 1 of 20 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

Department of the Treasury
Internal Revenue Service
Instructions for

Schedule M-3 (Form 1065)

(Rev. December 2021)
Net Income (Loss) Reconciliation for Certain Partnerships

Section references are to the Internal Revenue 1. The amount of total assets at the For any part of Schedule M-3 (Form
Code unless otherwise noted. end of the tax year reported on 1065) that is completed, all columns must
Schedule L, line 14, column (d), is equal to be completed, all applicable questions
Future Developments $10 million or more. must be answered, all numerical data
For the latest information about 2. The amount of adjusted total assets requested must be provided, and any
developments related to Schedule M-3 for the tax year is equal to $10 million or statement required to support a line item
(Form 1065) and its instructions, such as more. See Total Assets and Adjusted must be attached and provide the
legislation enacted after they were Total Assets, later. information required for that line item. Any
published, go to IRS.gov/Form1065. partnership required to file Schedule M-3
3. The amount of total receipts for the must check all boxes above Part I that
tax year is equal to $35 million or more. apply for the reason(s) for which the
General Instructions Total receipts is defined in the instructions Schedule M-3 is required to be filed. A
for Codes for Principal Business Activity partnership not required to file
Applicable schedule and instructions. and Principal Product or Service in the Schedule M-3, but that is doing so
Use the December 2021 Schedule M-3 Instructions for Form 1065. voluntarily, should check box E above Part
(Form 1065) with these instructions for tax
years ending December 31, 2021, and 4. An entity that is a reportable entity I.
until a new revision of the form and partner with respect to the partnership (as
instructions are available. For previous tax defined under these instructions) owns or Total Assets and Adjusted
years, see the applicable Schedule M-3 is deemed to own, directly or indirectly, an Total Assets
(Form 1065) and instructions. (For interest of 50% or more in the The partnership should figure its adjusted
example, use the 2020 Schedule M-3 partnership's capital, profit, or loss on any total assets using the Adjusted Total
(Form 1065) with the 2020 instructions for day during the tax year of the partnership. Assets Worksheet, later.
tax years ending December 31, 2020, A common trust fund or foreign For purposes of determining for
through December 30, 2021.) partnership must file Schedule M-3 if it Schedule M-3 whether the partnership's
meets any of the tests discussed above. adjusted total assets (under these
instructions) equal $10 million or more, the
Purpose of Schedule Note. All references to a U.S. partnership partnership's total assets at the end of the
Schedule M-3, Part I, asks certain in these instructions refer to any entity tax year must be determined on an overall
questions about the partnership's financial required to file Schedule M-3 (Form 1065), accrual method of accounting unless both
statements and reconciles financial where appropriate. of the following apply: (a) the tax return of
statement net income (loss) for the Partnerships not required to file the partnership is prepared using an
consolidated financial statement group to Schedule M-3 may voluntarily file overall cash method of accounting, and
income (loss) per the income statement Schedule M-3. (b) the partnership doesn't prepare
for the partnership. financial statements using, and isn't
Completing Schedule M-3 included in financial statements prepared
Schedule M-3, Parts II and III, reconcile on, an accrual basis.
financial statement net income (loss) for (Form 1065)
the partnership (per Schedule M-3, Part I, Form 1065 filers that are required to file See Part I. Financial Information and
line 11) to line 1 of the Analysis of Net Schedule M-3 (Form 1065) and have at Net Income (Loss) Reconciliation
Income (Loss) found on Form 1065. least $50 million total assets at the end of regarding non-tax-basis income
the tax year must complete Schedule M-3 statements and related non-tax-basis
Where To File (Form 1065) entirely. balance sheets to be used in the
If the partnership is required to file (or Form 1065 filers that (a) are required to preparation of Schedule M-3 and the
voluntarily files) Schedule M-3 (Form file Schedule M-3 (Form 1065) and have related non-tax-basis balance sheets to be
1065), the partnership must file Form less than $50 million total assets at the used in the preparation of Schedule L.
1065 and all attachments and schedules, end of the tax year, or (b) aren't required In the case of a partnership year ending
including Schedule M-3 (Form 1065), at to file Schedule M-3 (Form 1065) and because of a section 708 termination, the
the following address. voluntarily file Schedule M-3 (Form 1065) total assets of the partnership at the end of
must either (i) complete Schedule M-3 the year for determining the requirement
Department of the Treasury (Form 1065) entirely, or (ii) complete to file Schedule M-3 are determined
Internal Revenue Service Center Schedule M-3 (Form 1065) through Part I immediately before the section 708
Ogden, UT 84201-0011 and complete Schedule M-1 instead of termination and any actual or deemed
completing Parts II and III of Schedule M-3 contribution or distribution of the
Who Must File (Form 1065). If the filer chooses to partnership assets under the provisions of
Any entity that files Form 1065 must file complete Schedule M-1 instead of section 708 are taken into account.
Schedule M-3 (Form 1065) if any of the completing Parts II and III of Schedule M-3
following is true. (Form 1065), line 1 of Schedule M-1 must Example 1.
equal line 11 of Part I of Schedule M-3 1. U.S. partnership A, a limited liability
(Form 1065). company (LLC), owns 60% of the income

Dec 21, 2021 Cat. No. 38800Y

- 2 -

Page 2 of 20     Fileid: … 65schm-3/202112/a/xml/cycle02/source                                         14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

and capital of U.S. partnership B, also an     instead of completing Parts II and III of       Schedule M-2, line 7, but did report a 
LLC. For its tax year ending December 31,      Schedule M-3.                                   negative adjustment of ($3 million) on 
2019, A prepares non-tax-basis GAAP            4. Same facts as in Example 1.3                 Schedule M-2, line 4. T has adjusted total 
(generally accepted accounting principles)     except that the amount of total liabilities at  assets for 2019 in the tentative amount of 
consolidated financial statements with B       the end of 2019 reported to R's partners        $10.5 million, the sum of $7.5 million plus 
that report total assets at the end of the     on Schedules K-1 is $11 million. R made         $3 million (the amount of the negative 
year of $12 million. A files Form 1065 and     distributions of $1.5 million during 2019 as    adjustment stated as a positive amount 
reports on its non-tax-basis                   reflected on Schedule M-2, line 6. R has        that must be added back to determine 
unconsolidated GAAP Schedule L total           adjusted total assets for 2019 equal to $11     adjusted total assets for 2019), an amount 
assets at the end of the year of $7 million.   million, the greater of the tentative amount    that isn't less than the total liabilities at the 
The $7 million total includes $3 million for   of $9 million, the sum of $7.5 million plus     end of 2019 reported to T's partners on 
its investment in B under the equity           $1.5 million (the amount of distributions       Schedules K-1. Because T has adjusted 
method of accounting. The amount of total      that must be added back to determine            total assets of $10 million or more for its 
liabilities at the end of the year reported to adjusted total assets for 2019), or $11         tax year ending December 31, 2019, T 
A's partners on Schedules K-1 is $5            million (the amount of the total liabilities at must file Schedule M-3 for 2019 and either 
million. A made distributions of $1 million    the end of 2019 reported to R's partners        (i) complete Schedule M-3 entirely, or (ii) 
during the year reflected on                   on Schedules K-1). Because R has                complete Schedule M-3 through Part I and 
Schedule M-2, line 6. The amount of A's        adjusted total assets of $10 million or         complete Schedule M-1 instead of 
adjusted total assets is $8 million for the    more for its tax year ending December 31,       completing Parts II and III of 
tax year. A has total receipts for the tax     2019, R must file Schedule M-3 for 2019         Schedule M-3.
year of $15 million. A has no reportable       and either (i) complete Schedule M-3             7. Z has $50 million in total assets at 
entity partners (as defined under              entirely, or (ii) complete Schedule M-3         the end of its 2019 tax year ending 
Reportable Entity Partner Reporting            through Part I and complete Schedule M-1        December 31, 2019, and files Form 1065. 
Responsibilities, later). A isn't required to  instead of completing Parts II and III of       Z must file Schedule M-3 and complete it 
file Schedule M-3 under any of the four        Schedule M-3.                                   entirely.
tests discussed earlier. A may voluntarily 
file Schedule M-3 for the tax year. If A       5. S, a U.S. partnership, files Form 
doesn't file Schedule M-3, it must             1065 for the tax year ending December           Reportable Entity Partner 
complete Schedule M-1. If A files              31, 2019. S has total assets at the end of      Reporting Responsibilities
Schedule M-3, it must either (i) complete      2019 reported on Schedule L, line 14,           For the purposes of these instructions, a 
Schedule M-3 entirely, or (ii) complete        column (d), of $7.5 million. The amount of      reportable entity partner with respect to a 
Schedule M-3 through Part I and complete       total liabilities at the end of 2019 reported   partnership filing Form 1065 is an entity 
Schedule M-1 instead of completing Parts       to S's partners on Schedules K-1 is $5          that:
II and III of Schedule M-3.                    million. S made no distributions during          Owns or is deemed to own, directly or 
                                               2019 reflected on Schedule M-2, line 6. S       •
                                                                                               indirectly, under these instructions, a 50% 
2. Same facts as in Example 1.1                reported a loss of ($3 million) for 2019 on     or greater interest in the income, loss, or 
except that A has total receipts for 2019 of   Schedule M-2, line 3. S didn't report           capital of the partnership on any day of the 
$40 million. A must file Schedule M-3 for      adjustments to capital on Schedule M-2,         tax year; and
2019 and either (i) complete                   line 4 or 7. S has adjusted total assets for     Was required to file Schedule M-3 on its 
Schedule M-3 entirely, or (ii) complete        2019 in the tentative amount of $10.5           •
                                                                                               most recently filed U.S. federal income tax 
Schedule M-3 through Part I and complete       million, the sum of $7.5 million plus $3        return or return of income filed prior to that 
Schedule M-1 instead of completing Parts       million (the amount of the loss stated as a     day.
II and III of Schedule M-3.                    positive amount that must be added back 
3. R, a U.S. partnership, files Form           to determine adjusted total assets for           For the purposes of these instructions, 
1065 for the tax year ending December          2019). This tentative amount is compared        the following rules apply.
31, 2019. R has total assets at the end of     to the total liabilities at the end of 2019 as 
the tax year reported on Schedule L,           reported to S's partners on Schedules K-1,       1. The parent corporation of a 
line 14, column (d), of $7.5 million. The      and the greater of the two amounts is           consolidated tax group is deemed to own 
aggregate amount of total liabilities at the   considered the adjusted total assets.           all corporate and partnership interests 
end of 2019 reported to R's partners on        Because S has adjusted total assets of          owned or deemed to be owned under 
Schedules K-1 is $5 million. R made            $10 million or more for its tax year ending     these instructions by any member of the 
distributions of $3 million during 2019        December 31, 2019, S must file                  tax consolidated group.
reflected on Schedule M-2, line 6. R didn't    Schedule M-3 for 2019 and either (i)             2. The owner of a disregarded entity 
report a loss for 2019 on Schedule M-2,        complete Schedule M-3 entirely, or (ii)         is deemed to own all corporate and 
line 3. R didn't report adjustments to         complete Schedule M-3 through Part I and        partnership interests owned or deemed to 
capital on Schedule M-2, line 4 or 7. R has    complete Schedule M-1 instead of                be owned under these instructions by the 
adjusted total assets for 2019 in the          completing Parts II and III of                  disregarded entity.
tentative amount of $10.5 million, the sum     Schedule M-3.                                    3. The owner of 50% or more of a 
of $7.5 million plus $3 million (the amount    6. T, a U.S. partnership, files Form            corporation by vote on any day of the 
of distributions that must be added back to    1065 for the tax year ending December           corporation tax year is deemed to own all 
determine adjusted total assets for 2019),     31, 2019. T has total assets at the end of      corporate and partnership interests owned 
an amount that isn't less than the total       the tax year reported on Schedule L,            or deemed to be owned under these 
liabilities at the end of 2019 reported to R's line 14, column (d), of $7.5 million. The       instructions by the corporation during the 
partners on Schedules K-1. Because R           amount of total liabilities at the end of       corporation tax year.
has adjusted total assets of $10 million or    2019 reported to T's partners on                 4. The owner of 50% or more of 
more for its tax year ending December 31,      Schedules K-1 is $5 million. T made no          partnership income, loss, or capital on any 
2019, R must file Schedule M-3 for 2019        distributions during 2019 reflected on          day of the partnership tax year is deemed 
and either (i) complete Schedule M-3           Schedule M-2, line 6. T didn't report a loss    to own all corporate and partnership 
entirely, or (ii) complete Schedule M-3        for 2019 on Schedule M-2, line 3. T didn't      interests owned or deemed to be owned 
through Part I and complete Schedule M-1       report adjustments to capital on                under these instructions by the 

                                                             -2-

- 3 -

Page 3 of 20                  Fileid: … 65schm-3/202112/a/xml/cycle02/source                                              14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

                                                                                                                     October 5, 2019, P reports to K, as it is 
Adjusted Total Assets Worksheet                                                      Keep for Your Records           required to do, that P is a reportable entity 
                                                                                                                     partner as of September 16, 2019, 
1.   Enter total assets at the end of the tax year on Schedule L,                                                    deemed to own under these instructions a 
      line 14, column (d) .    . . . . . . . . . . . . . . . . . . . . . . . . . . . .   1.                          50% interest in K. K is therefore required 
2.   Enter capital distributions on Schedule M-2, lines 6a and 6b                                                    to file Schedule M-3 when it files its Form 
      (shown as a positive amount)           . . . . . . . . . . . . . . . . . . . . .   2.                          1065 for its tax year ending December 31, 
3.   Enter any loss reported on Schedule M-2, line 3 (shown as a                                                     2019.
      positive amount) .     . . . . . . . . . . . . . . . . . . . . . . . . . . . . .   3.                          2. Throughout 2019, A, an LLC filing 
4.   Enter the amount of any positive adjustment on Schedule M-2,                                                    Form 1065 for calendar year 2019, owns, 
      line 7 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4.                          as its only asset, 50% of each of B, C, D, 
5.   Enter the amount of any negative adjustment on Schedule M-2,                                                    and E, each also an LLC filing Form 1065 
      line 4 (shown as a positive amount)            . . . . . . . . . . . . . . . . .   5.                          for calendar year 2019. A is owned by 
6.   Add lines 1 through 5  .    . . . . . . . . . . . . . . . . . . . . . . . . . . .   6.                          individuals and S corporations not 
7.   Enter combined total liabilities (recourse and nonrecourse) on all                                              required to file Schedule M-3 for 2018, 
      Schedules K-1 (Form 1065), Part II, Item K .             . . . . . . . . . . . .   7.                          2019, or 2020. B, C, D, and E are owned 
8.   Adjusted Total Assets. Enter the greater of line 6 or                                                           by A and by individuals and S 
      line 7 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8.                          corporations not required to file 
                                                                                                                     Schedule M-3 for 2018, 2019, or 2020. For 
Note. For line 2 above, if the partnership reflects partner capital account changes resulting from the sale of a     the partnership tax years ending 
partnership interest on Schedule M-2 as matching contributions and distributions (on lines 2a and 2b and on lines 6a 
and 6b, respectively), reduce the amounts shown on lines 6a and 6b by such matching amounts.                         December 31, 2019, each of B, C, D, and 
                                                                                                                     E has no year-end liabilities, $3 million in 
                                                                                                                     total assets and $6 million in adjusted total 
                                                                                                                     assets (the difference equal to the 
partnership during the partnership tax                                   The reportable entity partner must          distributions by each in 2019), and 2019 
year.                                                              retain copies of required reports it makes        total receipts of $20 million. As of 
5. The beneficial owner of 50% or                                  to partnerships under these instructions.         December 31, 2019, no owner, direct or 
more of the beneficial interest of a trust or                      Each partnership must retain copies of the        indirect, of B, C, D, or E was required to 
nominee arrangement on any day of the                              required reports it receives under these          file Schedule M-3 on its most recently filed 
trust or nominee arrangement tax year is                           instructions from reportable entity               U.S. income tax return or return of income. 
deemed to own all corporate and                                    partners.                                         None of B, C, D, or E is required to file 
partnership interests owned or deemed to                                 For more information, see Item D.           Schedule M-3 for 2019. For the 
be owned under these instructions by the                           Reportable Entity Partner, later.                 partnership tax year ending December 31, 
                                                                                                                     2019, A has no year-end liabilities, $6 
trust or nominee arrangement.                                            Example 2.                                  million in total assets and $12 million in 
A reportable entity partner with respect                                 1. P, a U.S. corporation, is the parent     adjusted total assets (the difference equal 
to a partnership (as defined above) must                           of a financial consolidation group with 50        to the distributions in 2019), and 2019 total 
report the following to the partnership                            domestic subsidiaries, DS1 through DS50,          receipts of $6 million. As of December 31, 
within 30 days of first becoming a                                 and 50 foreign subsidiaries, FS1 through          2019, no owner, direct or indirect, of A 
reportable entity partner and, after first                         FS50, all 100% owned on September 16,             was required to file Schedule M-3 on its 
reporting to the partnership under these                           2019. On September 15, 2019, P filed a            most recently filed U.S. income tax return. 
instructions, thereafter within 30 days of                         consolidated tax return on Form 1120 and          A must file Schedule M-3 when it files its 
the date of any change in the interest it                          was required to file Schedule M-3 for the         Form 1065 for 2019 because A has 
owns or is deemed to own, directly or                              tax year ending December 31, 2018. On             adjusted total assets of $10 million or 
indirectly, under these instructions, in the                       September 16, 2019, DS1, DS2, DS3,                more.
partnership.                                                       FS1, and FS2 each acquire a 10%                   3. Same ownership facts as in 
1. Name.                                                           partnership interest in partnership K,            Example 2.2 continued to calendar year 
                                                                   which files Form 1065 for the tax year            2020. On March 3, 2020, A files its Form 
2. Mailing address.                                                ending December 31, 2019. P is deemed             1065 with Schedule M-3 for the 
3. Employer identification number                                  to own, directly or indirectly, under these       partnership tax year ending December 31, 
(EIN), if applicable.                                              instructions all corporate and partnership        2019. As of March 4, 2020, A becomes a 
4. Entity or organization type.                                    interests of DS1, DS2, and DS3, as the            reportable entity partner with respect to 
                                                                   parent of the tax consolidation group, and        any partnership in which it owns or is 
5. State or country in which it is                                 therefore is deemed to own 30% of K on            deemed to own, directly or indirectly, 
organized.                                                         September 16, 2019. P is deemed to own,           under these instructions a 50% or greater 
6. Date on which it first became a                                 directly or indirectly, under these               interest in the income, loss, or capital of 
reportable entity partner.                                         instructions all corporate and partnership        the partnership. A owns 50% of each of B, 
7. Date with respect to which it is                                interests of FS1 and FS2 as the owner of          C, D, and E and is therefore a reportable 
reporting a change in its ownership                                50% or more of each corporation by vote           entity partner with respect to each as of 
interest in the partnership, if applicable.                        and therefore is deemed to own 20% of K           March 4, 2020, the day after it filed its 
                                                                   on September 16, 2019. P is therefore 
8. The interest in the partnership it                                                                                2019 Form 1065 with a required 
                                                                   deemed to own 50% of K on September 
owns or is deemed to own in the                                                                                      Schedule M-3. On March 20, 2020, A 
                                                                   16, 2019. P owns or is deemed to own, 
partnership, directly or indirectly (as                                                                              reports to B, C, D, and E, as it is required 
                                                                   directly or indirectly, under these 
defined under these instructions), as of                                                                             to do within 30 days of March 4, that it is a 
                                                                   instructions 50% or more of K on 
the date with respect to which it is                                                                                 reportable entity partner owning a 50% 
                                                                   September 16, 2019, and was required to 
reporting.                                                                                                           interest. Each of B, C, D, and E is required 
                                                                   file Schedule M-3 on its most recently filed      to file Schedule M-3 for 2020 because 
9. Any change in that interest as of the                           U.S. income tax return filed before that          each has a reportable entity partner. A will 
date with respect to which it is reporting.                        date. Therefore, P is a reportable entity 
                                                                   partner of K as of September 16, 2019. On 

                                                                                             -3-

- 4 -

Page 4 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

determine if it must file Schedule M-3 for Generally, total assets at the beginning to account for its investment in B. On its
2020 based on its separate facts for 2020. of the year (Schedule L, line 14, column non-tax-basis books and records, A
4. Same ownership facts as in (b)) must equal total assets at the close of initially reports $2 million as its investment
Example 2.2 for calendar year 2019, the prior year (Schedule L, line 14, column in B, the amount of A's capital contribution.
except that A is owned 50% by (d)). For each Schedule L balance sheet A then reduces its $2 million investment in
corporation Z that was first required to file item reported for which there is a B by its share of B's allocable losses.
Schedule M-3 for its corporate tax year difference between the current opening Because A's allocable share of B's losses
ending December 31, 2018, and that filed balance sheet amount and the prior is $6 million, A's investment in B under the
its Form 1120 with Schedule M-3 for 2018 closing balance sheet amount, attach a equity method is reduced to $0. Because
on September 15, 2019. As of September statement that reports the balance sheet A isn't liable to repay any of B's liabilities
16, 2019, Z was a reportable entity partner item, the prior closing amount, the current and isn't obligated to restore any deficit
with respect to A and, through A, with opening amount, and a short explanation with respect to its capital account in B, A
respect to B, C, D, and E. On October 5, of the change. Such reasons for these doesn't report any of B's liabilities on A's
2019, Z reports to A, B, C, D, and E, as it differences include technical terminations Schedule L balance sheet.
is required to do within 30 days of and mergers.
Entity Considerations for
September 16, that Z is a reportable entity
partner directly owning (with respect to A) For purposes of measuring total assets Schedule M-3
or deemed to own indirectly (with respect at the end of the year, the partnership's For purposes of Schedule M-3, references
to B, C, D, and E) a 50% interest. assets may not be netted or reduced by to the classification of an entity (for
Therefore, because Z was a reportable partnership liabilities. In addition, total example, as a corporation, a partnership,
entity partner for 2019, each of A, B, C, D, assets may not be reported as a negative or a trust) are references to the treatment
and E is required to file Schedule M-3 for amount. If Schedule L is prepared on a of the entity for U.S. income tax purposes.
2019, regardless of whether it would non-tax-basis method, an investment in An entity that is generally disregarded as
otherwise be required to file Schedule M-3 another partnership may be shown as separate from its owner for U.S. income
for that year. appropriate under the partnership's tax purposes (disregarded entity) must not
non-tax-basis method of accounting, be separately reported on Schedule M-3
Other Form 1065 Schedules including, if required by the partnership's except, if required, on Part I, line 7a or 7b.
reporting methodology, the equity method On Schedule M-3, Parts II and III, any item
Affected by Schedule M-3 of accounting for investments. If of income, gain, loss, deduction, or credit
Requirements Schedule L is prepared on a tax-basis of a disregarded entity must be reported
Schedule L method, an investment by the partnership as an item of its owner. In particular, the
in another partnership must be shown as income or loss of a disregarded entity
If a non-tax-basis income statement and an asset and measured by the must not be reported on Part II, line 7, 8, or
related non-tax-basis balance sheet are partnership's adjusted basis in its 9, as from a separate partnership or other
prepared for any purpose for a period partnership interest. Any liabilities pass-through entity. The financial
ending with or within the tax year, contributing to such adjusted basis must statement income or loss of a disregarded
Schedule L must be prepared showing be shown on Schedule L as partnership entity is included on Part I, line 7a or 7b,
non-tax-basis amounts. See the liabilities. only if its financial statement income or
discussion in Part I. Financial Information loss is included on Part I, line 11, but not
and Net Income (Loss) Reconciliation Example 3. A, an LLC, files Form
regarding non-tax-basis income 1065 for calendar year 2019. B, a general on Part I, line 4a.
statements and related non-tax-basis partnership, also files Form 1065 for
balance sheets prepared for any purpose calendar year 2019. A is a general partner Specific Instructions
and the impact on the selection of the in B. A's capital account in B at the close
income statement used for Schedule M-3 of 2019 is negative $4 million. This reflects
and the related non-tax-basis balance A's 2019 contribution to B's capital of $2 Item D. Reportable Entity
sheet amounts that must be used for million reduced by A's share of 2019
Schedule L. losses passing through to it from B, $6 Partner
million. A's adjusted basis in B on On Schedule M-3, page 1, if the
December 31, 2019, is $16 million, its $4 partnership has any reportable entity
Total assets at the end of the tax year million negative tax capital account in B partners for the year, check Item D. A
shown on Schedule L, line 14, column (d), plus its $20 million share of B's liabilities partnership must report the name, EIN (if
must equal the total assets of the under section 752. A prepares only applicable), and maximum percentage of
partnership as of the last day of the tax tax-basis income statements and balance actual or deemed ownership of each
year, and must be the same total assets sheets. On its Schedule L, A reports as an reportable entity partner if there are one or
reported by the partnership in the asset the adjusted basis of its investment two reportable entity partners for the tax
non-tax-basis financial statements, if any, in B, $16 million. A also reports its $20 year of the partnership, or, if there are
used for Schedule M-3. If the partnership million share of B's liabilities in the more than two reportable entity partners
prepares non-tax-basis financial liabilities section of Schedule L. A doesn't for the tax year of the partnership, of the
statements, Schedule L must report the report its $4 million negative capital two reportable entity partners with the
non-tax-basis financial statement total account in B on Schedule L. largest maximum percentage of actual or
assets. If the partnership doesn't prepare deemed ownership for the tax year of the
non-tax-basis financial statements, Example 4. Same facts as in partnership. The maximum percentage of
Schedule L must be based on the Example 3, except that B is an LLC and A actual or deemed ownership for a
partnership's books and records. The is a member of B. None of B's liabilities reportable entity partner for a tax year of
Schedule L balance sheet can show are recourse with respect to A. A isn't the partnership is the maximum
tax-basis balance sheet amounts if the obligated to restore any deficit capital percentage interest owned or deemed
partnership is allowed to use books and account in B. A prepares non-tax-basis owned under these instructions by the
records for Schedule M-3 and the income statements and balance sheets reportable entity partner in the
partnership's books and records reflect under an accounting method that requires
only tax-basis amounts. the use of the equity method of accounting

-4-

- 5 -

Page 5 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

partnership's capital, profit, or loss on any non-tax-basis income statement is partnership's net income included in the
day during the tax year of the partnership. prepared for the period ending with or consolidated financial statements with the
The reportable entity partner must within the tax year, the partnership must entity parent, the partnership must answer
retain copies of required reports it makes check “Yes” for line 1c and use that questions 1a, 1b, and 1c, as appropriate,
to partnerships under these instructions. income statement for Schedule M-3. for its own tax return, based on its own
separate non-tax-basis income statement,
Each partnership must retain copies of the Order of priority in accounting stand-
and must report on line 4a the net income
required reports it received under these ards. If no Form 10-K is filed and two or
(loss) amounts shown on its separate
instructions from reportable entity more non-tax-basis income statements
income statement.
partners. See Reportable Entity Partner are both certified non-tax-basis income
Reporting Responsibilities, earlier. statements for the period, the income Lines 2 and 3. Questions
statement prepared according to the Regarding Income Statement
following order of priority in accounting
Part I. Financial standards must be used. Period and Restatements
Information and Net 1. U.S. Generally Accepted Enter the beginning and ending dates on
Income (Loss) Accounting Principles (GAAP). line 2 for the partnership's annual income
statement period ending with or within the
Reconciliation 2. International Financial Reporting current tax year.
Standards (IFRS).
Line 1. Questions Regarding 3. Any other International Accounting The questions on lines 3a and 3b,
the Type of Income Statement Standards (IAS). regarding income statement restatements,
refer to the worldwide consolidated
Prepared 4. Any regulatory accrual accounting. income statement issued by the
For lines 1 through 11, use only the 5. Any other accrual accounting partnership filing Form 1065 and used to
financial statements of the U.S. standard. prepare Schedule M-3. Answer “Yes” on
partnership filing Form 1065. If the U.S. 6. Section 704(b) book accounting. lines 3a and/or 3b if the partnership's
partnership filing Form 1065 is controlled annual income statement has been
by another entity, the U.S. partnership 7. Any other fair market value
must use for its Schedule M-3, Part I, its reporting standard. restated for any reason. Attach a short
statement of the reasons for the
own financial statements and not the 8. Any cash basis standard. restatement in net income for each annual
financial statements of the controlling income statement period that is restated,
If no non-tax-basis income statement is
entity. including the original amount and restated
certified and two or more non-tax-basis
income statements are prepared, the amount of each annual statement period's
Non-Tax-Basis Financial income statement prepared according to net income. The attached statement isn't
Statements and Tax-Basis the first listed of the accounting standards required to report restatements on an
Financial Statements above must be used. entity-by-entity basis.
Line 4. Worldwide Consolidated
A tax-basis income statement is allowed If no non-tax-basis financial statements
for Schedule M-3 and a tax-basis balance are prepared for the U.S. partnership filing Net Income (Loss) per Income
sheet for Schedule L only if neither a Schedule M-3, the U.S. partnership must Statement
non-tax-basis income statement nor a check “No” on questions 1a, 1b, and 1c, Report on line 4a the worldwide
non-tax-basis balance sheet were skip lines 2 through 3b, and enter the net consolidated net income (loss) per the
prepared for any purpose and the books income (loss) per the books and records income statement (or books and records,
and records of the partnership reflect only of the U.S. partnership on line 4a. if applicable) of the partnership.
tax-basis amounts. The partnership is
deemed to have non-tax-basis income Consolidated Financial Statements In completing Schedule M-3, the
statements and the related non-tax-basis partnership must use financial statement
balance sheets for the current tax year for If a partnership filing a Schedule M-3 amounts from the financial statement type
purposes of Schedule M-3 and (a) is included in the non-tax-basis checked “Yes” on line 1, or from its books
Schedule L if such non-tax-basis financial consolidated financial statements of a and records if line 1c is checked “No.” If
statements were prepared for and group (consolidated financial statement line 1a is checked “Yes,” report on line 4a
presented to management, creditors, group) with an entity parent filing a U.S tax the net income amount reported in the
members or partners, government return and Schedule M-3, (b) has its income statement presented to the SEC
regulators, or any other third parties for a income (loss) included and removed by on the partnership's Form 10-K.
period ending with or within the tax year. the entity parent on that entity parent's
Schedule M-3, Part I, and (c) doesn't have If a partnership prepares non-tax-basis
If a Form 10-K is filed with the a separate non-tax-basis financial financial statements, the amount on
Securities and Exchange Commission statement (certified or otherwise) of its line 4a must equal the financial statement
(SEC) for the period ending with or within own, the partnership must answer net income (loss) for the income statement
the tax year, the partnership must check questions 1a, 1b, and 1c, as appropriate, period ending with or within the tax year as
“Yes” for line 1a and use that income for its own tax return and must report on its indicated on line 2.
statement for Schedule M-3. If Form 10-K own Schedule M-3, as appropriate, the If the partnership prepares
isn't filed and a non-tax-basis income amount for the partnership's net income non-tax-basis financial statements and the
statement is prepared that is a certified (loss) that is equal to the amount included income statement period differs from the
non-tax-basis income statement for the and removed in the entity parent's partnership's tax year, the income
period ending with or within the tax year, Schedule M-3, Part I. However, if in the statement period indicated on line 2
the partnership must check “Yes” for circumstances described immediately applies for purposes of lines 4a through 8.
line 1b and use that income statement for above, the partnership does have
Schedule M-3. If Form 10-K isn't filed and separate non-tax-basis financial If the partnership doesn't prepare
no certified non-tax-basis income statements (certified or otherwise) of its non-tax-basis financial statements and
statement is prepared but an unaudited own, independent of the amount of the has checked “No” on line 1c, enter the net

-5-

- 6 -

Page 6 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

income (loss) per the books and records For example, if the net income (after entries (for intercompany dividends,
of the partnership on line 4a. consolidation and elimination entries) of a minority interests, etc.) not reportable on
Check the appropriate box on line 4b to nonincludible foreign sub-consolidated line 8 should be reported on the attached
indicate which of the following accounting group is being reported on line 5a, the supporting statement as a net amount on
standards was used for line 4a. attached supporting statement should a line separate and apart from lines that
report the income (loss) of each separate report each nonincludible U.S. entity's
1. U.S. Generally Accepted nonincludible foreign legal entity from separate net income (loss).
Accounting Principles (GAAP). each such entity's own financial
2. International Financial Reporting accounting net income statement or books Lines 7a and 7b. Net Income
Standards (IFRS). and records, and any consolidation or (Loss) of Other Foreign
3. Section 704(b). elimination entries (for intercompany Disregarded Entities and Net
dividends, minority interests, etc.) not
Income (Loss) of Other U.S.
4. Tax-basis. reportable on line 8 should be reported on
5. Other (specify). the attached supporting statement as a Disregarded Entities
Report on lines 5a through 10, as net amount on a line separate and apart Include on line 7a or 7b the financial net
instructed below, all adjustment amounts from lines that report each nonincludible income or (loss) of each disregarded
required to adjust worldwide net income foreign entity's separate net income (loss). entity in the U.S. tax return that isn't
included in the consolidated financial
(loss) reported on line 4a (whether from Line 6. Net Income (Loss) of group, and therefore not included in the
financial statements or books and records) Nonincludible U.S. Entities income reported on line 4a, but that is
to net income (loss) of the partnership that
must be reported on line 11. Report on Remove the financial statement net included on line 11. Include on line 7a the
line 12a the worldwide consolidated total income (line 6a) or loss (line 6b) of each financial income or (loss) of any foreign
assets and total liabilities amounts for the U.S. entity that is included on line 4a and disregarded entity that isn't included in the
partnership using the same financial isn't an includible entity in the partnership income reported on line 4a but that is
statements (or books and records) used return (nonincludible U.S. entity). In included on line 11 (other foreign
for the worldwide consolidated income addition, on line 8, adjust for consolidation disregarded entities). Include on line 7b
(loss) amount reported on line 4a. eliminations and correct for minority the financial income or (loss) of any U.S.
interest and intercompany dividends disregarded entity that isn't included in the
Line 5. Net Income (Loss) of between any nonincludible U.S. entity and income reported on line 4a but that is
Nonincludible Foreign Entities any includible entity. Don't remove in Part I included on line 11 (other U.S.
Remove the financial statement net the financial statement net income (loss) disregarded entities). In addition, on line 8,
income (line 5a) or loss (line 5b) of each of any nonincludible U.S. entity accounted adjust for consolidation eliminations and
foreign entity that is included on line 4a for on line 4a using the equity method. correct for minority interest and
intercompany dividends for any other
and isn't the partnership (nonincludible Attach a supporting statement that disregarded entity.
foreign entity). In addition, on line 8, adjust provides the name, EIN (if applicable),
for consolidation eliminations and correct and net income (loss) included on line 4a Attach a supporting statement that
for minority interest and intercompany that is removed on line 6a or 6b for each provides the name, EIN, and net income
dividends between any nonincludible separate nonincludible U.S. entity. Also (loss) per the financial statement or books
foreign entity and the partnership filing state the total assets and total liabilities for and records included on line 7a or 7b for
Form 1065. Don't remove in Part I the each such separate nonincludible U.S. each separate foreign or U.S. disregarded
financial statement net income (loss) of entity and include those assets and entity. Also state the total assets and total
any nonincludible foreign entity accounted liabilities amounts in the total assets and liabilities for each such separate included
for on line 4a using the equity method. total liabilities reported on Part I, line 12c. entity and include those assets and
Attach a supporting statement that The amounts of income (loss) detailed on liabilities amounts in the total assets and
provides the name, EIN (if applicable), the supporting statement should be total liabilities reported on Part I, line 12d.
and net income (loss) included on line 4a reported for each separate nonincludible The amounts of income (loss) detailed on
that is removed on this line 5 for each U.S. entity without regard to the effect of the supporting statement should be
separate nonincludible foreign entity. Also consolidation or elimination entries. If reported for each separate other
state the total assets and total liabilities for there are consolidation or elimination disregarded entity without regard to the
each such separate nonincludible foreign entries relating to nonincludible U.S. effect of consolidation or elimination
entity and include those assets and entities whose income (loss) is reported entries solely between or among the
liabilities amounts in the total assets and on the attached statement that aren't entities listed. If there are consolidation or
total liabilities reported on Part I, line 12b. reportable on line 8, the net amounts of all elimination entries relating to such
The amounts of income (loss) detailed on such consolidation and elimination entries separate other disregarded entities whose
the supporting statement should be must be reported on a separate line on the income (loss) is reported on the attached
reported for each separate nonincludible attached statement, so that the separate statement that aren't reportable on line 8,
foreign entity without regard to the effect financial accounting income (loss) of each the net amounts of all such consolidation
of consolidation or elimination entries. If nonincludible U.S. entity remains and elimination entries must be reported
there are consolidation or elimination separately stated. on a separate line on the attached
statement, so that the separate financial
entries relating to nonincludible foreign For example, if the net income (after accounting income (loss) of each separate
entities whose income (loss) is reported consolidation and elimination entries) of a other disregarded entity remains
on the attached statement that aren't nonincludible U.S. sub-consolidated group separately stated.
reportable on line 8, the net amounts of all is being reported on line 6a, the attached
such consolidation and elimination entries supporting statement should report the For example, if the net income (after
must be reported on a separate line on the income (loss) of each separate consolidation and elimination entries) of a
attached statement, so that the separate nonincludible U.S. legal entity from each sub-consolidated group of other foreign
financial accounting income (loss) of each such entity's own financial accounting net disregarded entities is being reported on
nonincludible foreign entity remains income statement or books and records, line 7a, the attached supporting statement
separately stated. and any consolidation or elimination should report the income (loss) of each

-6-

- 7 -

Page 7 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

separate other foreign disregarded entity (b) fully consolidates the other entity in the line 11 includes the net income of entities
from each disregarded entity's own owner's consolidated financial statements, not includible in the U.S. income tax
financial accounting net income statement but that entity isn't includible in the owner's return. A principal purpose of
or books and records, and any Form 1065, then, as part of reversing all Schedule M-3 is to report on line 11 only
consolidation or elimination entries (for consolidation and elimination entries for the financial accounting net income of only
intercompany dividends, minority the nonincludible entity, the owner must the partnership (including any other
interests, etc.) not reportable on line 8 reverse on line 8 the elimination of the includible entities) filing Form 1065.
should be reported on the attached equity income inclusion from the other
supporting statement as a net amount on entity. If the owner doesn't account for the Whether or not the partnership
a line separate and apart from lines that other entity on the equity method on its prepares financial statements, line 11
report each other foreign disregarded own general ledger, it won't have must include all items that impact the net
entity's separate net income (loss). eliminated the equity income for income (loss) of the partnership even if
consolidated financial statement they aren't recorded in the profit and loss
Line 8. Adjustment to purposes, and therefore will have no accounts in the partnership's general
Eliminations of Transactions elimination of equity income to reverse. ledger, including, for example, all
post-closing adjusting entries (including
Between Includible Entities and The attached supporting statement for workpaper adjustments) and dividend
Nonincludible Entities line 8 must identify the type (for example, income or other income received from
Adjustments on line 8 to reverse certain minority interest, intercompany dividends, nonincludible entities. If the partnership
financial accounting consolidation or etc.) and amount of consolidation or prepares unconsolidated financial
elimination entries are necessary to elimination entries reported, as well as the statements using the same accounting
ensure that transactions between names of the entities to which they pertain. method used to determine worldwide
includible entities and nonincludible U.S. It isn't necessary, but it is permitted, to consolidated net income (loss) for Part I,
or foreign entities aren't eliminated, in report on line 8 intercompany eliminations line 4, and if it uses the equity method for
order to report the correct total amount on that net to zero, such as intercompany investments, the amount reported on Part
line 11. Also, additional consolidation interest income and expense. I, line 11, will equal the amount of the
entries and elimination entries may be unconsolidated net income (loss) reported
necessary on line 8 related to transactions Line 9. Adjustment to Reconcile on the unconsolidated financial
between includible entities that are in the Income Statement Period to statements. See Examples 5.3, 5.4, and
consolidated financial statement group Tax Year 5.5 below.
and other includible entities that aren't in Include on line 9 any adjustments Example 5.
the consolidated financial statement group necessary to the income (loss) of the 1. U.S. partnership P owns 60% of
but that are reported on line 7a or 7b in partnership to reconcile differences corporation DS1 which is fully
order to report the correct total amount on between the partnership's income consolidated in P's financial statements. P
line 11. statement period reported on line 2 and doesn't account for DS1 in P's separate
Include on line 8 the total of the the partnership's tax year. Attach a general ledger on the equity method. DS1
following: (a) amounts of any adjustments statement describing the adjustment. has net income of $100 (before minority
to consolidation entries and elimination Line 10. Other Adjustments to interests) and pays dividends of $50, of
entries that are contained in the amount which P receives $30. The dividend is
reported on line 4a, required as a result of Reconcile to Amount on Line 11 eliminated in the consolidated financial
removing amounts on line 5 or 6; and (b) Include on line 10 any other adjustments statements. In its financial statements, P
amounts of any additional consolidation to reconcile net income (loss) on line 4a consolidates DS1 and includes $60 of net
entries and elimination entries that are through line 9, with net income (loss) of income ($100 less the minority interest of
required as a result of including amounts the partnership reported on line 11. $40) on line 4a.
on line 7a or 7b. This is necessary in order P must remove the $100 net income of
that the consolidation entries and For any adjustment reported on line 10,
intercompany elimination entries included attach a supporting statement with an DS1 on line 6a. P must reverse on line 8
in the amount reported on line 11 are only explanation of each net adjustment the elimination of the $40 minority interest
those applicable to the financial net included on line 10. net income of DS1. In addition, P reverses
its elimination of the $30 intercompany
income (loss) of includible entities for the Line 11. Net Income (Loss) per dividend in its financial statements on
financial statement period. For example, line 8. The net result is that P includes the
Income Statement of the
adjustments must be reported on line 8 to $30 dividend from DS1 on line 11 and on
remove minority interest and to reverse Partnership
Part II, line 6, column (a). P's dividend
the elimination of intercompany dividends Report on line 11 the net income (loss) per income included on the tax return from
included on line 4a that relate to the net the income statement (or books and DS1 must be reported on Part II, line 6,
income of entities removed on line 5 or 6 records, if applicable) of the partnership. column (d).
because the income to which the Amounts reported in column (a) of Parts II
consolidation or elimination entries relate and III must be reported on the same 2. U.S. partnership C owns 60% of the
has been removed. Also, for example, accounting method as is used to report the capital and profits interests in U.S. LLC N.
consolidation or elimination entries must amount of net income (loss) per income C doesn't account for N in C's separate
be reported on line 8 to eliminate any statement of the partnership on line 11. general ledger on the equity method. N
intercompany dividends between entities has net income of $100 (before minority
whose income is included on line 7a or 7b Don't, in any event, report on line 11 interests) and makes no distributions
and other entities included in the U.S. the net income of entities other than the during the tax year. C treats N as a
income tax return. partnership filing Form 1065 for the tax corporation for financial statement
year. For example, it isn't permissible to purposes and as a partnership for U.S.
If an entity owner of an interest in remove the income of nonincludible income tax purposes. In its financial
another entity (a) accounts for the interest entities on lines 5 and/or 6, above, then to statements, C consolidates N and
in the other entity in the owner's separate add back such income on lines 7 through includes $60 of net income ($100 less the
general ledger on the equity method, and 10, such that the amount reported on minority interest of $40) on line 4a.

-7-

- 8 -

Page 8 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

C must remove the $100 net income of and pays a $50 cash distribution, of which Line 12. Total Assets and
N on line 6a. C must reverse on line 8 the C receives $30. The distribution reduces
Liabilities of Entities Included
elimination of the $40 minority interest net C's investment in N for equity method
income of N. The result is that C includes reporting on C's separate general ledger. or Removed on Part I, Lines 4,
no income for N either on line 11 or on C treats N as a corporation for financial 5, 6, and 7
Part II, line 7, column (a). C's taxable statement purposes and as a partnership Line 12 must be completed by all
income from N must be reported by C on for U.S. income tax purposes. For equity partnerships that file Schedule M-3.
Part II, line 7, column (d). method reporting on C's separate general Report on lines 12a, 12b, 12c, and 12d the
3. U.S. partnership P owns 60% of ledger, C includes its 60% equity share of total amounts (not just the partnership's
corporation DS1, which is fully N income, which is $60. In its financial share) of assets and liabilities of entities
consolidated in P's financial statements. P statements, C eliminates the $60 of N included or removed on Part I, lines 4, 5,
accounts for DS1 in P's separate general equity method income, consolidates N, 6, and 7. All assets and liabilities reported
ledger on the equity method. DS1 has net and includes $60 of net income ($100 less on Part I, lines 12a through 12d, must be
income of $100 (before minority interests) the minority interest of $40) on line 4a. reported as positive amounts. On line 12a,
and pays dividends of $50, of which P C must remove the $100 net income of enter the worldwide consolidated total
receives $30. The dividend reduces P's N on line 6a. C must reverse on line 8 the assets and total liabilities of all of the
investment in DS1 for equity method elimination of the $40 minority interest net entities included in completing Part I,
reporting on P's separate general ledger income of N and the elimination of the $60 line 4. On line 12b, enter the total assets
where P includes its 60% equity share of of N equity method income. The result is and total liabilities of the entities removed
DS1 income, which is $60. In its financial that C includes the $60 of equity method in completing Part I, line 5. On line 12c,
statements, P eliminates the DS1 equity income for N on line 11 and on Part II, enter the total assets and total liabilities of
method income of $60 and consolidates line 7, column (a). C's taxable income from the entities removed in completing Part I,
DS1, including $60 of net income ($100 N must be reported by C on Part II, line 7, line 6. On line 12d, enter the total assets
less the minority interest of $40) on column (d). and total liabilities of the entities included
line 4a. 6. U.S. partnership P owns 100% of in completing Part I, line 7.
P must remove the $100 net income of the stock of U.S. LLC Q, a disregarded
DS1 on line 6a. P must reverse on line 8 entity. Q is included in P's federal income
the elimination of the $40 minority interest tax return, even though Q isn't included in Parts II and III
net income of DS1 and the elimination of P's consolidated financial statements on General Reporting Information
the $60 of DS1 equity income. The net either a consolidated basis or on the
result is that P includes the $60 of equity equity method. Q has 2019 net income of A schedule or statement may be attached
method income from DS1 on line 11 and $100 after taking into account its $40 to any line even if none is required.
on Part II, line 5, column (a). P's dividend interest payment to P. P has net income of For each line item in Parts II and III,
income on the tax return from its $1,040 after recognition of the interest report in column (a) the amount of net
investment in DS1 must be reported on income from Q. Because Q is a income (loss) included on Part I, line 11,
Part II, line 6, column (d). disregarded entity, 100% of the net and report in column (d) the amount
4. U.S. partnership C owns 60% of the income of both P and Q must be reported included on line 1 of the Analysis of Net
capital and profits interests in U.S. LLC N. on P's Form 1065 and the intercompany Income (Loss) found on Form 1065.
C accounts for N in C's separate general interest income and expense must be
ledger on the equity method. N has net removed by consolidation elimination Note. Part II, line 26, column (a), must
income of $100 (before minority interests) entries. equal Part I, line 11, and column (d) must
equal line 1 of the Analysis of Net Income
and makes no distributions during the tax P must report its financial statement net (Loss) found on Form 1065. Thus, column
year. C treats N as a corporation for income of $1,040 on line 4a and reports (d) on Part II and Part III must include
financial statement purposes and as a Q's net income of $100 on line 7b as a certain of the separately stated items on
partnership for U.S. income tax purposes. U.S. disregarded entity not included on Schedule K.
For equity method reporting on C's line 4a, but included on line 11. Then, in
separate general ledger, C includes its order to reflect the full consolidation of the For any item of income, gain, loss,
60% equity share of N income, which is financial accounting net income of P and expense, or deduction for which there is a
$60. In its financial statements, C Q on line 11, the following consolidation difference between columns (a) and (d),
eliminates the $60 of N equity method and elimination entry is reported on line 8: the portion of the difference that is
income and consolidates N, including $60 offsetting entries to remove the $40 of temporary must be entered in column (b)
of net income ($100 less the minority interest income received from Q included and the portion of the difference that is
interest of $40) on line 4a. by P on line 4a, and to remove the $40 of permanent must be entered in column (c).
C must remove the $100 net income of interest expense of Q included in line 7b
N on line 6a. C must reverse on line 8 the for a net change of zero. The result is that If financial statements are prepared by
elimination of the $40 minority interest net line 11 reports $1,140: $1,040 from the partnership under GAAP, differences
income of N and the elimination of the $60 line 4a, and $100 from line 7. Stated that are treated as temporary under GAAP
of N equity method income. The result is another way, line 11 includes the entire must be reported in column (b) and
that C includes the $60 of equity method $1,000 net income of P, measured before differences that are permanent (that is, not
income for N on line 11 and on Part II, recognition of the intercompany interest temporary) for GAAP must be reported in
line 7, column (a). C's taxable income from income from Q and the consolidation of Q column (c). Generally, under GAAP, a
N must be reported by C on Part II, line 7, operations, plus the entire $140 net temporary difference affects (creates,
column (d). income of Q, measured before interest increases, or decreases) a deferred tax
expense to P. P isn't required to include on asset or liability.
5. U.S. partnership C owns 60% of the the attached supporting statement for If the partnership doesn't prepare
capital and profits interests in U.S. LLC N. line 8 the offsetting adjustment to the financial statements, or the financial
C accounts for N in C's separate general intercompany elimination of interest statements aren't prepared under GAAP,
ledger on the equity method. N has net income and interest expense (though it is report in column (b) any difference that the
income of $100 (before minority interests) permitted to do so). partnership believes will reverse in a future

-8-

- 9 -

Page 9 of 20           Fileid: … 65schm-3/202112/a/xml/cycle02/source                                 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

tax year (that is, have an opposite effect     amount and the amount included in net          Part III, line 26, in column (a), regardless 
on taxable income in a future tax year (or     income (loss) for tax purposes unless (a)      of whether the amounts are recorded or 
years) due to the difference in timing of      otherwise instructed in these instructions,    stated under different nomenclature in the 
recognition for financial accounting and       or (b) the amount is attributable to a         financial statements or the books and 
U.S. income tax purposes) or is the            reportable transaction described in            records such as “Provision for doubtful 
reversal of such a difference that arose in    Regulations section 1.6011-4(b) and is         accounts,” “Expense for uncollectible 
a prior tax year. Report in column (c) any     therefore reported on Part II, line 10. For    notes receivable,” or “Impairment of trade 
difference that the partnership believes       example, with the exception of interest        accounts receivable.” Likewise, as stated 
won't reverse in a future tax year (and isn't  income reflected on a Schedule K-1             in the preceding paragraph, all fines and 
the reversal of such a difference that arose   received by the partnership as a result of     penalties must be included on Part III, 
in a prior tax year).                          the partnership's investment in a              line 7, column (a), regardless of the 
                                               partnership or other pass-through entity,      terminology or nomenclature attached to 
If the partnership is unable to                all interest income included on Part I,        them by the partnership in its books and 
determine whether a difference between         line 11, whether from unconsolidated           records or financial statements.
column (a) and column (d) for an item will     affiliated entities, third parties, banks, or 
reverse in a future tax year or is the         other entities, whether from foreign or        With limited exceptions, Part II includes 
reversal of a difference that arose in a       domestic sources, whether taxable or           lines for specific items of income, gain, or 
prior tax year, report the difference for that exempt from tax, and whether classified        loss (income items). (See lines 1 through 
item in column (c).                            as some other type of income for U.S.          21.) If an income item is described on 
Example 6.        At the end of Partnership    income tax purposes (such as dividends),       lines 1 through 21, report the amount of 
A’s first tax year, December 31, 2019, it      must be included on Part II, line 11,          the item on the applicable line, regardless 
wasn't required to file Schedule M-3 for       column (a). Likewise, all fines and            of whether there is a difference for the 
any reason.                                    penalties included on Part I, line 11, paid    item. If there is a difference for the income 
A may elect to file Schedule M-3               to a government or other authority for the     item, or only a portion of the income item 
instead of completing Schedule M-1.            violation of any law for which fines or        has a difference and a portion of the item 
                                               penalties are assessed must be included        doesn't have a difference, and the item 
If A elects to file Schedule M-3, it must      on Part III, line 7, column (a), regardless of isn't described on lines 1 through 21, 
either (i) complete Schedule M-3 entirely,     the government authority that imposed the      report and describe the entire amount of 
or (ii) complete Schedule M-3 through Part     fines or penalties, regardless of whether      the item on line 22.
I and complete Schedule M-1 instead of         the fines or penalties are civil or criminal, 
completing Parts II and III of                 and regardless of the classification,          With limited exceptions, Part III 
Schedule M-3.                                  nomenclature, or terminology attached to       includes lines for specific items of 
If A elects to complete Schedule M-3           the fines or penalties by the imposing         expense or deduction (expense items). 
entirely, it must complete all columns of      authority in its actions or documents.         (See lines 1 through 29.) If an expense 
Parts II and III.                                                                             item is described on lines 1 through 29, 
If A completes Schedule M-3 through               If a partnership would be required to       report the amount of the item on the 
Part I and completes Schedule M-1              report in column (a) of Parts II and III the   applicable line, regardless of whether 
instead of completing Parts II and III of      amount of any item specifically listed on      there is a difference for the item. If there is 
Schedule M-3, line 11 of Part I of             Schedule M-3 in accordance with the            a difference for the expense item, or only a 
Schedule M-3 must equal line 1 of              preceding paragraph, except that the           portion of the expense item has a 
Schedule M-1.                                  partnership has capitalized the item of        difference and a portion of the item 
                                               income or expense and reports the              doesn't have a difference and the item 
Reporting Requirements for                     amount in its financial statement balance      isn't described on lines 1 through 29, 
Parts II and III                               sheet or in asset and liability accounts       report and describe the entire amount of 
                                               maintained in the partnership's books and      the item on line 30.
                                               records, the partnership must report the 
General Reporting Requirements                 proper tax treatment of the item in            If there is no difference between the 
If an amount is attributable to a reportable   columns (b), (c), and (d), as applicable.      financial accounting amount and the 
transaction described in Regulations                                                          amount reported for tax purposes of an 
section 1.6011-4(b), the amount must be           Furthermore, in applying the two            entire item of income, loss, expense, or 
reported in columns (a), (b), (c), and (d),    preceding paragraphs, a partnership is         deduction and the item isn't described or 
as applicable, of Part II, line 10, Items      required to report in column (a) of Parts II   included on Part II, lines 1 through 22, or 
relating to reportable transactions,           and III the amount of any item specifically    Part III, lines 1 through 30, report the entire 
regardless of whether the amount would         listed on Schedule M-3 that is included in     amount of the item in columns (a) and (d) 
otherwise be reported on Schedule M-3,         the partnership's financial statements or      of Part II, line 25.
Part II or Part III. Thus, if a taxpayer files exists in the partnership's books and 
Form 8886, Reportable Transaction              records, regardless of the nomenclature        Separately stated and adequately dis-
Disclosure Statement, the amounts              associated with that item in the financial     closed. Each difference reported in Parts 
attributable to that reportable transaction    statements or books and records.               II and III must be separately stated and 
must be reported on Part II, line 10.          Accurate completion of Schedule M-3            adequately disclosed. In general, a 
                                               requires reporting amounts according to        difference is adequately disclosed if the 
A partnership is required to report in         the substantive nature of the specific line    difference is labeled in a manner that 
column (a) of Parts II and III the amount of   items included in Schedule M-3 and             clearly identifies the item or transaction 
any item specifically listed on                consistent reporting of all transactions of    from which the difference arises. For 
Schedule M-3 that is in any manner             like substantive nature that occurred          further guidance about adequate 
included in the partnership's current year     during the tax year. For example, all          disclosure, see Regulations section 
financial statement net income (loss) or in    expense amounts that are included in the       1.6662-4(f). If a specific item of income, 
an income or expense account maintained        financial statements or exist in the books     gain, loss, expense, or deduction is 
in the partnership's books and records,        and records that represent some form of        described on Part II, lines 7 through 21, or 
even if there is no difference between that    “Bad debt expense” must be reported on         Part III, lines 1 through 29, and the line 

                                                     -9-

- 10 -

Page 10 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

doesn't indicate to “attach schedule” or for financial statement purposes. In 2019, meets the requirements for Part III, line 30,
“attach details,” and the specific B records an impairment charge on the discussed earlier under Required
instructions for the line don't call for an goodwill of $5,000. B must report the statements for Part II, line 22, and Part III,
attachment of a schedule or explanation, amortization attributable to the IP on Part line 30. In this example, an acceptable
then the item is considered separately III, line 21, and report $6,000 in column description for warranty costs would be
stated and adequately disclosed if the (a), a temporary difference of $3,000 in “Future Warranty Expense Reserve.”
item is reported on the applicable line and column (b), and $9,000 in column (d). B
the amount(s) of the item(s) is reported in must report the goodwill impairment on Note. There is no need to add the title of
the applicable columns of the applicable Part III, line 19, and report $5,000 in the reserve account to the description if
line. See the instructions for Part II, lines 1 column (a), a permanent difference of the account name for the amount in
through 9, for specific additional ($5,000) in column (c), and $0 in column column (a) is already part of the
information required to be provided for (d). adjustment description.
these particular lines. Example 8. Partnership C is a Example 10. Partnership E is a
Except as otherwise provided, calendar year partnership that files and calendar year partnership that files and
differences for the same item must be entirely completes Schedule M-3 for its entirely completes Schedule M-3 for its
combined or netted together and reported 2019 tax year. C placed in service 10 2019 tax year. On January 2, 2019, E
as one amount on the applicable line of depreciable fixed assets in a previous tax establishes an allowance for uncollectible
Schedule M-3. However, differences for year. C's total depreciation expense for its accounts receivable (bad debt reserve) of
separate items must not be combined or 2019 tax year for five of the assets is $100,000. During 2019, E increases the
netted together. Each item (and $50,000 for income statement purposes reserve by $250,000 for additional
corresponding amount attributable to that and $70,000 for U.S. income tax accounts receivable that may become
item) must be separately stated and purposes. C's total annual depreciation uncollectible. Additionally, during 2019, E
adequately disclosed on the applicable expense for its 2019 tax year for the other decreases the reserve by $75,000 for
line of Schedule M-3 or any statement five assets is $40,000 for income accounts receivable that were discharged
required to be attached, even if the statement purposes and $30,000 for U.S. in bankruptcy during 2019. The balance in
amounts are below a certain dollar income tax purposes. C treats the the reserve account on December 31,
amount. differences between financial statement 2019, is $275,000. The $100,000 amount
Required statements for Part II, and U.S. income tax depreciation expense to establish the reserve account and the
line 22, and Part III, line 30. A separate as giving rise to temporary differences that $250,000 to increase the reserve account
statement must be attached to will reverse in future years. C must are expenses on E's 2019 financial
Schedule M-3 (Form 1065) that includes a combine all of its depreciation statements but aren't deductible for U.S.
detailed description of each item and adjustments. Accordingly, C must report income tax purposes in 2019. However,
adjustment entered on Part II, line 22, and on Part III, line 25, for its 2019 tax year the $75,000 decrease to the reserve is
Part III, line 30. income statement depreciation expense of deductible for U.S. income tax purposes in
$90,000 in column (a), a temporary 2019. In its financial statements, E treats
The description for each amount difference of $10,000 in column (b), and the reserve account as giving rise to a
entered in column (a) must be readily U.S. income tax depreciation expense of temporary difference that will reverse in
identifiable to the name of the account in $100,000 in column (d). future tax years. E must report on Part III,
the financial statements or books and
records of the taxpayer, under which the Example 9. Partnership D is a line 26, Bad debt expense, for its 2019 tax
amount in column (a) was recorded in the calendar year partnership that files and year income statement bad debt expense
accounting records. Also, the description entirely completes Schedule M-3 for its of $350,000 in column (a), a temporary
for each amount entered in column (a) 2019 tax year. On December 31, 2019, D difference of ($275,000) in column (b),
must include detailed information establishes three reserve accounts in the and U.S. income tax bad debt expense of
supporting each adjustment reported in amount of $100,000 for each account. $75,000 in column (d).
columns (b) and (c), including how the One reserve account is an allowance for Example 11. During 2019, partnership
adjustment is identified in the accounting accounts receivable that are estimated to F had $100 of meals expenses, $100 of
records. The entire description is be uncollectible. The second reserve is an entertainment expenses, and therefore
considered the tax description for the estimate of coupons outstanding that may deducted $200 on its income statement.
amount reported in column (d) for each have to be paid. The third reserve is an For federal income tax purposes, the $100
item reported on Part II, line 22, or Part III, estimate of future warranty expenses. In of meals expenses is subject to section
line 30. its financial statements, D treats the three 274(n) (50% allowance) and the $100 of
reserve accounts as giving rise to entertainment expenses is subject to
Each description should adequately temporary differences that will reverse in section 274(a) (0% allowance). F must
describe all four columns of Part II, line 22, future years. The three reserves are report on Part III, line 6: $200 in column
or Part III, line 30. If additional information expenses in D's 2019 financial statements (a), $150 in column (c), and $50 in column
is required to provide an acceptable but aren't deductions for U.S. income tax (d). F must report all of its meals and
description, provide a supporting purposes in 2019. D must not combine the entertainment expenses only on this line
statement. Schedule M-3 differences for the three whether there is a difference or not
Example 7. Partnership B prepares reserve accounts. D must report the because meals and entertainment
GAAP financial statements. In prior years, amounts attributable to the allowance for expenses are specifically described.
B acquired intellectual property (IP) and uncollectible accounts receivable on Part
goodwill. The IP is amortizable for both III, line 26, Bad debt expense, and must
U.S. income tax and financial statement separately state and adequately disclose
purposes. In 2019, B's annual the amounts attributable to each of the
amortization expense for IP is $9,000 for other two reserves, coupons outstanding,
U.S. income tax purposes and $6,000 for and warranty costs, on a required,
financial statement purposes. The attached statement that supports the
goodwill isn't amortizable for U.S. income amounts on Part III, line 30. D must also
tax purposes and is subject to impairment provide a description for each reserve that

-10-

- 11 -

Page 11 of 20  Fileid: … 65schm-3/202112/a/xml/cycle02/source                                        14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

                                              Line 3. Subpart F, QEF, and                   time during the tax year, report on an 
                                                                                            attached supporting statement for line 6: 
Part II. Reconciliation of                    Similar Income Inclusions
                                                                                            (1) the name of the dividend payer, (2) the 
Net Income (Loss) per                         Report on line 3, column (d), the amount      payer's EIN (if applicable), (3) the class of 
Income Statement of                           included in taxable income under section      voting stock on which the dividend was 
Partnership With Income                       951 (relating to Subpart F), gains or other   paid, (4) the percentage of the class 
                                              income inclusions resulting from elections    directly or indirectly owned, and (5) the 
(Loss) per Return                             under sections 1291(d)(2) and 1298(b)(1),     amounts for columns (a) through (d).
                                              and any amount included in taxable 
Lines 1 Through 9. Additional                 income pursuant to section 1293 (relating     Line 7. Income (Loss) From 
Information for Each Entity                   to QEFs). See Form 5471, Information          U.S. Partnerships, and
For any item reported on lines 1 or 3         Return of U.S. Persons With Respect to        Line 8. Income (Loss) From 
through 5, attach a supporting statement      Certain Foreign Corporations, and Form 
that provides the name of the entity for      8621, Information Return by a                 Foreign Partnerships
which the item is reported, the entity's EIN  Shareholder of a Passive Foreign              For any interest owned by the partnership 
(if applicable), the type of entity           Investment Company or Qualified Electing      that is treated as an investment in a 
(corporation, partnership, etc.), and the     Fund, for more information.                   partnership for U.S. income tax purposes 
item amounts for columns (a) through (d).     Also include on line 3 passive foreign        (other than an interest in a disregarded 
See the instructions for lines 2 and 6        investment company mark-to-market             entity), report amounts on line 7 or 8, as 
through 9 for the specific information        gains and losses under section 1296.          described below.
required for those particular lines.          Don't report such gains and losses on            1. In column (a), the sum of the 
Line 1. Income (Loss) From                    line 14.                                      partnership's distributive share of income 
                                                                                            or loss from a U.S. or foreign partnership 
Equity Method Foreign                         Line 4. Gross Foreign                         that is included on Part I, line 11.
Corporations                                  Distributions Previously Taxed                   2. In column (b) or (c), as applicable, 
Report on line 1, column (a), the financial   Report on line 4, column (a), any             the sum of all differences, if any, 
income (loss) included on Part I, line 11,    distributions received from foreign           attributable to the partnership's distributive 
for any foreign corporation accounted for     corporations that were included on Part I,    share of income or loss from a U.S. or 
on the equity method and remove such          line 11, and that were previously taxed for   foreign partnership.
amount in column (b) or (c), as applicable.   U.S. income tax purposes. For example,           3. In column (d), the sum of all 
Report the amount of dividends received       include in column (a) amounts that are        amounts of income, gain, loss, or 
and other taxable amounts received or         excluded from taxable income under            deduction attributable to the partnership's 
includible from foreign corporations on       sections 959 and 1293(c). Remove such         distributive share of income or loss from a 
lines 2 through 4, as applicable.             amounts in column (b) or (c), as              U.S. or foreign partnership (that is, the 
                                              applicable. Report the full amount of the     sum of all amounts reportable on the 
Line 2. Gross Foreign                         distribution before any withholding tax.      partnership's Schedule(s) K-1 received 
Dividends Not Previously                      Report withholding taxes on Part III,         from the partnership (if applicable)), 
Taxed                                         line 30, Other expense/deduction items        without regard to any limitations computed 
Except as otherwise provided in this          with differences, or line 25, Other items     at the partner level (for example, 
paragraph, report on line 2, column (d),      with no differences, as applicable. Since     limitations on utilization of charitable 
the amount (before any withholding tax) of    previously taxed foreign distributions        contributions, capital losses, and interest 
any foreign dividends included on line 1 of   aren't currently taxable, line 4, column (d), expense).
the Analysis of Net Income (Loss) found       is shaded. (Also, see the instructions 
on Form 1065, and report on line 2,           above for line 2.)                               For each partnership reported on line 7 
                                                                                            or 8, attach a supporting statement that 
column (a), the amount of dividends from      Line 5. Income (Loss) From                    provides the name, EIN (if applicable), 
any foreign corporation included on Part I, 
line 11. Don't report on line 2 any amounts   Equity Method U.S.                            end of year profit-sharing percentage (if 
that must be reported on line 3 or            Corporations                                  applicable), end of year loss-sharing 
                                                                                            percentage (if applicable), and the amount 
dividends that were previously taxed and      Report on line 5, column (a), the financial   reported in column (a), (b), (c), or (d) of 
must be reported on line 4. (See the          income (loss) included on Part I, line 11,    line 7 or 8, as applicable.
instructions below for lines 3 and 4.)        for any U.S. corporation accounted for on 
Report withholding taxes on Part III,         the equity method and remove such                Example 12.  U.S. partnership H is a 
line 30, Other expense/deduction items        amount in column (b) or (c), as applicable.   calendar year partnership that files and 
with differences, or line 25, Other items     Report on line 6 the amount of dividends      entirely completes Schedule M-3 for its 
with no differences, as applicable.           received from any U.S. corporations.          2019 tax year. H has an investment in a 
                                                                                            U.S. partnership USP. H prepares 
   For any dividends reported on line 2       Line 6. U.S. Dividends                        financial statements in accordance with 
that are received on a class of voting stock  Report on line 6, column (a), the amount      GAAP. For its 2019 tax year, H's financial 
of which the partnership directly or          of dividends included on Part I, line 11,     statement net income includes $10,000 of 
indirectly owned 10% or more of the           that were received from any U.S.              income attributable to its share of USP's 
outstanding shares of that class at any       corporation. Report on line 6, column (d),    net income. H's Schedule K-1 from USP 
time during the tax year, report on an        the amount of any U.S. dividends included     reports $5,000 of ordinary income, $7,000 
attached supporting statement for line 2:     in taxable income on line 1 of the Analysis   of long-term capital gains, $4,000 of 
(a) the name of the dividend payer, (b) the   of Net Income (Loss) found on Form 1065.      charitable contributions, and $200 of 
payer's EIN (if applicable), (c) the class of                                               section 179 expense. H must report on 
voting stock on which the dividend was        For any dividends reported on line 6 
                                                                                            line 7 $10,000 in column (a), a permanent 
paid, (d) the percentage of the class         that are received on classes of voting 
                                                                                            difference of ($2,200) in column (c), and 
directly or indirectly owned, and (e) the     stock in which the partnership directly or 
                                                                                            $7,800 in column (d).
amounts for columns (a) through (d).          indirectly owned 10% or more of the 
                                              outstanding shares of that class at any 

                                                                 -11-

- 12 -

Page 12 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

Line 9. Income (Loss) From stated and adequately disclosed a regardless of whether a difference exists
reportable transaction if the partnership for any or all of those abandonment
Other Pass-Through Entities
attaches a supporting statement that losses.
For any interest in a pass-through entity provides the following for each reportable Example 14. Partnership K is a
(other than an interest in a partnership transaction. calendar year partnership that files and
reportable on line 7 or 8, as applicable)
owned by the U.S. partnership (other than 1. A description of the reportable entirely completes Schedule M-3 for its
an interest in a disregarded entity), report transaction disclosed on Form 8886 for 2019 tax year. K enters into a transaction
the following on line 9. which amounts are reported on line 10. with contractual protection that is a
1. In column (a), the sum of the 2. The name and reportable reportable transaction described in
partnership's distributive share of income transaction or tax shelter registration Regulations section 1.6011-4(b)(4). This
or loss from the pass-through entity that is number, if applicable, as reported on lines reportable transaction is the only
included on Part I, line 11. 1a and 1c, respectively, of Form 8886. reportable transaction for K's 2019 tax
year and results in a $7 million capital loss
2. In column (b) or (c), as applicable, 3. The type of reportable transaction
for both financial accounting purposes and
the sum of all differences, if any, (that is, listed transaction, confidential
U.S. income tax purposes. Although the
attributable to the pass-through entity. transaction, transaction with contractual
transaction doesn't result in a difference, K
protection, etc.) as reported on line 2 of
is required to report on line 10 the
3. In column (d), the sum of all taxable Form 8886.
amounts of income, gain, loss, or following amounts: ($7 million) in column
deduction reportable on the partnership's If a transaction is a listed transaction (a), $0 in columns (b) and (c), and ($7
Schedule(s) K-1 received from the described in Regulations section million) in column (d). The transaction will
pass-through entity (if applicable). 1.6011-4(b)(2), the description must also be adequately disclosed if K attaches a
include the published guidance number supporting statement for line 10 that (a)
For each pass-through entity reported shown on line 3 of Form 8886. In addition, sequentially numbers the Form 8886 and
on line 9, attach a supporting statement if the reportable transaction involves an refers to the sequentially numbered Form
that provides that entity's name, EIN (if investment in the transaction through 8886-X1, and (b) reports the applicable
applicable), the partnership's end of year another entity such as a partnership, the amounts required for line 10, columns (a)
profit-sharing percentage (if applicable), description must include the name and through (d). Alternatively, the transaction
the partnership's end of year loss-sharing EIN (if applicable) of that entity as will be adequately disclosed if the
percentage (if applicable), and the reported on line 5 of Form 8886. supporting statement for line 10 includes a
amounts reported by the partnership in description of the transaction, the name
column (a), (b), (c), or (d) of line 9, as Example 13. Partnership J is a
applicable. calendar year partnership that files and and reportable transaction number, if any,
entirely completes Schedule M-3 for its and the type of reportable transaction
Line 10. Items Relating to 2019 tax year. J incurred seven different disclosed on Form 8886.
Reportable Transactions abandonment losses during its 2019 tax Line 11. Interest Income
year. One loss of $12 million results from a Attach Form 8916-A, Supplemental
Any amounts attributable to any reportable reportable transaction described in Attachment to Schedule M-3. Complete
transactions (as described in Regulations Regulations section 1.6011-4(b)(5), Part II and enter the amounts shown on
section 1.6011-4) must be included on another loss of $5 million results from a line 6, columns (a) through (d), on
line 10 regardless of whether the reportable transaction described in Schedule M-3, line 11, columns (a)
difference, or differences, would otherwise Regulations section 1.6011-4(b)(4), and through (d), as applicable.
be reported elsewhere in Part II or Part III. the remaining five abandonment losses
Thus, if a taxpayer files Form 8886 for any aren't reportable transactions. J discloses An entity that (a) is required to file a
reportable transaction described in the reportable transactions giving rise to Schedule M-3 and has less than $50
Regulations section 1.6011-4, the the $12 million and $5 million losses on million in total assets at the end of the tax
amounts attributable to that reportable separate Forms 8886 and sequentially year, or (b) isn't required to file a
transaction must be reported on line 10. In numbers them X1 and X2, respectively. J Schedule M-3 and voluntarily files a
addition, all income and expense amounts must separately state and adequately Schedule M-3, isn't required to file Form
attributable to a reportable transaction disclose the $12 million and $5 million 8916-A but may voluntarily do so.
must be reported on line 10, columns (a) losses on line 10. The $12 million loss and
and (d), even if there is no difference the $5 million loss will be adequately Report on line 11, column (a), the total
between the financial statement amounts disclosed if J attaches a supporting amount of interest income included on
and the tax return amounts. statement for line 10 that lists each of the Part I, line 11, and report on line 11,
Each difference attributable to a sequentially numbered forms, Form column (d), the total amount of interest
reportable transaction must be separately 8886-X1 and Form 8886-X2, and with income included on line 1 of the Analysis
stated and adequately disclosed. A respect to each reportable transaction of Net Income (Loss) found on Form 1065
partnership will be considered to have reports the appropriate amounts required that isn't required to be reported
separately stated and adequately for line 10, columns (a) through (d). elsewhere on Schedule M-3. In column (b)
disclosed a reportable transaction on Alternatively, J's disclosures will be or (c), as applicable, adjust for any
line 10 if the partnership sequentially adequate if the description provided for amounts treated for U.S. income tax
numbers each Form 8886 and lists by each loss on the supporting statement purposes as interest income that are
statement number (shown on line A of includes the names and reportable treated as some other form of income for
Form 8886) on the supporting statement transaction or tax shelter registration financial accounting purposes, or vice
for line 10 each sequentially numbered numbers, if any, disclosed on the versa. For example, adjustments to
reportable transaction and the amounts applicable Form 8886, identifies the type interest income resulting from adjustments
required for line 10, columns (a) through of reportable transaction for the loss, and made in accordance with the instructions
(d). reports the appropriate amounts required for line 16, Sale versus lease, should be
Instead of satisfying the requirements for line 10, columns (a) through (d). J must made in columns (b) and (c) of line 11.
of the preceding paragraph, a partnership report the losses attributable to the other
will be considered to have separately five abandonment losses on line 21e,

-12-

- 13 -

Page 13 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

Don't report on line 11 amounts fees on Part III, line 18, Current year gains and losses from Form 4797, line 10,
reported in accordance with the acquisition/reorganization legal and are included on Schedule M-3, Part II,
instructions for lines 7, 8, 9, 10, and 20. accounting fees. Because the difference in line 14; and (b) any other Schedule M-3
depreciation expense doesn't relate to the entries required based on other results
Line 12. Total Accrual to Cash use of the cash or accrual method of (non-mark-to-market gains and losses)
Adjustment accounting, L must report the depreciation included in the total reported on Form
This line is completed by a partnership difference on Part III, line 25, Depreciation, 4797, line 17, should be reported on
that prepares financial statements (or and report $15,000 in column (a), $10,000 Schedule M-3, Part II, line 21d, unless the
books and records, if permitted) using an in column (b), and $25,000 in column (d). instructions for Schedule M-3 require the
amounts to be reported on another line.
overall accrual method of accounting and Line 13. Hedging Transactions
uses an overall cash method of Line 15. Cost of Goods Sold
accounting for U.S. income tax purposes Report on line 13, column (a), the net gain
(or vice versa). With the exception of or loss from hedging transactions on Part Report on line 15 any amounts deducted
amounts required to be reported on I, line 11. Report in column (d) the amount as part of cost of goods sold during the tax
line 10, the partnership must report on of taxable income from hedging year, regardless of whether the amounts
line 12, a single amount net of all transactions as defined in section 1221(b) would otherwise be reported elsewhere in
adjustments attributable solely to the use (2). Use columns (b) and (c) to report all Part II or Part III. However, don't report the
of the different overall methods of differences caused by treating hedging items mentioned in the next paragraph on
accounting (for example, adjustments transactions differently for financial line 15. Examples of amounts that must be
related to accounts receivable, accounts accounting purposes and for U.S. income included on line 15 are amounts
payable, compensation, accrued liabilities, tax purposes. For example, if a portion of attributable to inventory valuation, such as
etc.), regardless of whether a separate a hedge is considered ineffective under amounts attributable to cost-flow
line on Schedule M-3 corresponds to an GAAP but is still a valid hedge under assumptions, additional costs required to
item within the accrual to cash section 1221(b)(2), the difference must be be capitalized (including depreciation)
reconciliation. Differences not attributable reported on line 13. The hedge of a capital such as section 263A costs, inventory
to the use of the different overall methods asset, which isn't a valid hedge for U.S. shrinkage accruals, inventory
of accounting must be reported on the income tax purposes but may be obsolescence reserves, and lower of cost
appropriate lines of Schedule M-3 (for considered a hedge for GAAP purposes, or market (LCM) write-downs.
example, a depreciation difference must must also be reported here.
Note. The entries in columns (a) and (d)
be reported on Part III, line 25). Report hedging gains and losses are negative amounts.
Example 15. Partnership L is a computed under the mark-to-market
calendar year partnership that files and method of accounting on line 13 and not Don't report the following on line 15 or
entirely completes Schedule M-3 for its on line 14. on Form 8916-A.
2019 tax year. L prepares financial Report any gain or loss from inventory • Amounts reportable on line 10.
statements in accordance with GAAP hedging transactions on line 13 and not on • Any gain or loss from inventory hedging
using an overall accrual method of line 15. transactions reportable on line 13.
accounting. L uses an overall cash • Amounts reportable on line 16.
method of accounting for U.S. income tax Line 14. Mark-to-Market Income • Amounts reportable on line 19.
purposes. L's financial statements for the (Loss) • Mark-to-market income or (loss)
year ending December 31, 2019, report associated with the inventories of dealers
accounts receivable of $35,000, an Report on line 14 any amount
allowance for bad debts of $10,000, and representing the mark-to-market income in securities under section 475 reportable
accounts payable of $17,000 related to or loss for any securities held by a dealer on line 14.
2019 acquisition and reorganization legal in securities, a dealer in commodities • Section 481(a) adjustments related to
and accounting fees. In addition, for L's having made a valid election under cost of goods sold or inventory valuation
year ending December 31, 2019, L section 475(e), or a trader in securities or reportable on line 17.
reported financial statement depreciation commodities having made a valid election • Fines and penalties reportable on Part
expense of $15,000 and depreciation for under section 475(f). “Securities” for these III, line 7.
U.S. income tax purposes of $25,000. For purposes are securities described in • Judgments, damages, awards, and
L's 2019 tax year using an overall cash section 475(c)(2) and commodities similar costs, reportable on Part III, line 8.
method of accounting, L doesn't recognize described in section 475(e)(2). Securities • Amounts included on Part III, line 28,
the $35,000 of revenue attributable to the described in section 475(c)(2)(E) do not Purchase versus lease.
accounts receivable, can't deduct the include contracts to which section 1256(a) Important. Complete and attach Form
$10,000 allowance for bad debt, and can't applies. 8916-A, Part I, for each item listed on
deduct the $17,000 of accounts payable. Report hedging gains and losses line 15 in columns (a) through (d).
In its financial statements, L treats both computed under the mark-to-market An entity that (a) is required to file a
the difference in overall accounting method of accounting on line 13, Hedging Schedule M-3 and has less than $50
methods used for financial statement and transactions, and not on line 14. million in total assets at the end of the tax
U.S. income tax purposes and the year, or (b) isn't required to file a
difference in depreciation expense as Traders in securities or commodities. Schedule M-3 and voluntarily files a
temporary differences. L must combine all For a trader in securities or commodities Schedule M-3, isn't required to file Form
adjustments attributable to the differences that made a valid election under section 8916-A but may voluntarily do so.
related to the overall accounting methods 475(f) to use the mark-to-market method
on line 12. As a result, L must report on to account for securities or commodities Example 16. Partnership C is a
line 12 $8,000 in column (a) ($35,000 – held in connection with a trading business calendar year partnership that files and
$10,000 – $17,000), ($8,000) in column that files Form 4797, Sales of Business entirely completes Schedule M-3 for its
(b), and $0 in column (d). L must not Property, any Schedule M-3 entries 2019 tax year. C placed in service 10
report the accrual to cash adjustment required as a result of mark-to-market depreciable fixed assets in a previous tax
attributable to the legal and accounting these securities or commodities are year. C's total depreciation expense for its
reported as follows: (a) mark-to-market 2019 tax year for five of the assets is

-13-

- 14 -

Page 14 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

$50,000 for financial accounting purposes expense for such transactions must be 481(a) adjustment of $100,000 that is
and $70,000 for U.S. income tax reported on Part III, line 25, in column (a) required to be spread over 4 tax years,
purposes. C's total annual depreciation or (d), as applicable. Use columns (b) and beginning with the 2019 tax year. In its
expense for its 2019 tax year for the other (c) of lines 11 and 16, and Part III, line 25, financial statements, N treats the section
five assets is $40,000 for financial as applicable, to report the differences 481(a) adjustment as a temporary
accounting purposes and $30,000 for U.S. between columns (a) and (d). difference. N must report on line 17
income tax purposes. In addition, C incurs Example 17. M is a calendar year $25,000 in columns (b) and (d) for its 2019
$200 of meal expenses that C deducts in partnership that files and entirely tax year and each of the subsequent 3 tax
computing net income for financial completes Schedule M-3 for its 2019 tax years (unless N is otherwise required to
accounting purposes. All $200 of the meal year. M sells and leases property to recognize the remainder of the section
expenses is subject to the 50% limitation customers. For financial accounting 481(a) adjustment earlier). N must not
under section 274(n). In its financial purposes, M accounts for each report the section 481(a) adjustment on
statements, C treats the $50,000 transaction as a sale. For U.S. income tax Part III, line 25.
depreciation and $100 of the meals as purposes, each of M's transactions must Line 18. Unearned/Deferred
other costs in computing cost of goods be treated as a lease. In its financial
sold. C must include on Form 8916-A and statements, M treats the difference in the Revenue
on line 15, in column (a), the $50,000 of financial accounting and the U.S. income Report on line 18, column (a), amounts of
depreciation and $100 of meals. C must tax treatment of these transactions as revenues included on Part I, line 11, that
also include a temporary difference of temporary. During 2019, M reports in its were deferred from a prior financial
$20,000 in column (b), a permanent financial statements $1,000 of sales and accounting year. Report on line 18,
difference of ($50) in column (c), and $700 of cost of goods sold with respect to column (d), amounts of revenues
$70,050 in column (d) ($70,000 2019 lease transactions. M receives recognizable for U.S. income tax purposes
depreciation and $50 meals). In addition, periodic payments of $500 in 2019 with in the current tax year that are recognized
C must report on Part III, line 25, for its respect to these 2019 transactions and for financial accounting purposes in a
2019 tax year income statement, similar transactions from prior years and different year. Also report on line 18,
depreciation expense of $40,000 in treats $400 as principal and $100 as column (d), any amount of revenues
column (a), a temporary difference of interest income. For financial accounting reported on line 18, column (a), that are
($10,000) in column (b), and $30,000 in purposes, M reports gross profit of $300 recognizable for U.S. income tax purposes
column (d); and on Part III, line 6, meals ($1,000 − $700) and interest income of in the current tax year. Use columns (b)
and entertainment expense of $100 in $100 from these transactions. For U.S. and (c) of line 18, as applicable, to report
column (a), a permanent difference of income tax purposes, M reports $500 of differences between columns (a) and (d).
($50) in column (c), and $50 in column (d). gross rental income (the periodic Line 18 must not be used to report
All other cost of goods sold items would payments) and (based on other facts) income recognized from long-term
be added to the amounts included on $200 of depreciation deduction on the contracts. Instead, use line 19.
line 15, detailed in this example, and property. On its 2019 Schedule M-3, M
reported on Form 8916-A and on line 15 in must report on line 11 $100 in column (a), Line 19. Income Recognition
the appropriate columns. ($100) in column (b), and $0 in column (d). From Long-Term Contracts
Line 16. Sale Versus Lease (for In addition, M must report on line 16 $300
of gross profit in column (a), $200 in Report on line 19 the amount of net
Sellers and/or Lessors) column (b), and $500 of gross rental income or loss for financial statement
Note. Also see the instructions for Part III, income in column (d). Lastly, M must purposes (or books and records, if
Line 28. Purchase Versus Lease (for report on Part III, line 25, $200 in columns applicable) or U.S. income tax purposes
Purchasers and/or Lessees), later. (b) and (d). for any contract accounted for under a
Asset transfer transactions with periodic long-term contract method of accounting.
payments characterized for financial Line 17. Section 481(a)
Line 20. Original Issue Discount
accounting purposes as either a sale or a Adjustments
and Other Imputed Interest
lease may, under some circumstances, be With the exception of a section 481(a)
characterized as the opposite for tax adjustment that is required to be reported Report on line 20 any amounts of original
purposes. If the transaction is treated as a on Part I, line 10, for reportable issue discount (OID) and other imputed
lease, the seller/lessor reports the periodic transactions, any difference between an interest. The term “original issue discount
payments as gross rental income and also income or expense item attributable to an and other imputed interest” includes, but
reports depreciation expense or authorized (or unauthorized) change in isn't limited to:
deduction. If the transaction is treated as a method of accounting made for U.S. 1. The excess of a debt instrument's
sale, the seller/lessor reports gross profit income tax purposes that results in a stated redemption price at maturity over its
(sale price less cost of goods sold) from section 481(a) adjustment must be issue price, as determined under section
the sale of assets and reports the periodic reported on line 17, regardless of whether 1273;
payments as payments of principal and a separate line for that income or expense 2. Amounts that are imputed interest
interest income. item exists in Part II or Part III. on a deferred sales contract under section
On line 16, column (a), report the gross Example 18. Partnership N is a 483;
profit or gross rental income for financial calendar year partnership that files and 3. Amounts treated as interest or OID
accounting purposes for all sale or lease entirely completes Schedule M-3 for its under the stripped bond rules under
transactions that must be given the 2019 tax year. N was depreciating certain section 1286; and
opposite characterization for tax fixed assets over an erroneous recovery 4. Amounts treated as OID under the
purposes. On line 16, column (d), report period and, effective for its 2019 tax year, below-market interest rate rules under
the gross profit or gross rental income for N receives IRS consent to change its section 7872.
federal income tax purposes. Interest method of accounting for the depreciable
income amounts for such transactions fixed assets and begins using the proper
must be reported on line 11 in column (a) recovery period. The change in method of
or (d), as applicable. Depreciation accounting results in a positive section

-14-

- 15 -

Page 15 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

Line 21a. Income Statement securities or commodities, see the Accounting Standards (SFAS) No. 130, is
instructions for Part II, line 14, earlier. reported on this line, describe the item(s)
Gain/Loss on Sale, Exchange,
in detail. Examples of sufficiently detailed
Abandonment, Worthlessness, Line 21e. Abandonment Losses descriptions include “Foreign currency
or Other Disposition of Assets Report on line 21e any abandonment translation adjustments—comprehensive
Other Than Inventory and losses, regardless of whether the loss is income” and “Gains and losses on
characterized as an ordinary loss or a available-for-sale
Pass-Through Entities capital loss. securities—comprehensive income.”
Report on line 21a, column (a), all gains
and losses on the disposition of assets Line 21f. Worthless Stock Line 23. Total Income (Loss)
except for (a) gains and losses on the Losses Items
disposition of inventory, and (b) gains and Report on line 21f any worthless stock Combine lines 1 through 22 and enter the
losses allocated to the partnership from a loss, regardless of whether the loss is total on line 23.
pass-through entity (for example, on characterized as an ordinary loss or a
Schedule K-1) that are included in the net capital loss. Attach a statement that Note. Line 15, Cost of goods sold,
income (loss) of the partnership reported separately states and adequately columns (a) and (d), are negative amounts
on Part I, line 11. Reverse the amount discloses each transaction that gives rise that will affect the totals entered on line 23.
reported in column (a) in column (b) or (c), to a worthless stock loss and the amount
as applicable. The corresponding gains of each loss. Line 24. Total Expense/
and losses for U.S. income tax purposes Deduction Items
are reported on lines 21b through 21g, as Line 21g. Other Gain/Loss on Report on line 24, columns (a) through (d),
applicable. Disposition of Assets Other as applicable, the negative of the amounts
Line 21b. Gross Capital Gains Than Inventory reported on Part III, line 31, columns (a)
From Schedule D, Excluding Report on line 21g any gains or losses through (d). For example, if Part III, line 31,
from the sale or exchange of property column (a), reflects an amount of $1
Amounts From Pass-Through million, then report on line 24, column (a),
other than inventory that aren't reported on
Entities lines 21b through 21f. ($1,000,000). Similarly, if Part III, line 31,
Report on line 21b gross capital gains column (b), reflects an amount of
reported on Schedule D, Capital Gains Line 22. Other Income (Loss) ($50,000), then report on line 24, column
and Losses, excluding capital gains from Items With Differences (b), $50,000.
pass-through entities, which must be Separately state and adequately disclose Line 25. Other Items With No
reported on line 7, 8, or 9, as applicable. on line 22 all items of income (loss) with Differences
differences that aren't otherwise listed on
Line 21c. Gross Capital Losses If there is no difference between the
lines 1 through 21. Attach a statement that
From Schedule D, Excluding describes and itemizes the type of income financial accounting amount and the
Amounts From Pass-Through (loss) and the amount of each item and taxable amount of an entire item of
Entities, Abandonment Losses, provides a description that states the income, gain, loss, expense, or deduction
income (loss) name for book purposes for and the item isn't described or included on
and Worthless Stock Losses the amount recorded in column (a) and lines 1 through 22, or Part III, lines 1
Report on line 21c gross capital losses describes the adjustment being recorded through 30, report the entire amount of the
reported on Schedule D, excluding capital in column (b) or (c). The entire description item in columns (a) and (d) of line 25. If a
losses from (a) pass-through entities, completes the tax description for the portion of an item of income, loss,
which must be reported on line 7, 8, or 9, amount included in column (d) for each expense, or deduction has a difference
as applicable; (b) abandonment losses, item separately stated on this line. and a portion of the item doesn't have a
which must be reported on line 21e; and difference, don't report any portion of the
(c) worthless stock losses, which must be The attached statement should have item on line 25. Instead, report the entire
reported on line 21f. five columns. The first column has the amount of the item (that is, both the
description for the next four columns. The portion with a difference and the portion
Line 21d. Net Gain/Loss second column is Column (a), Income without a difference) on the applicable line
Reported on Form 4797, (Loss) per Income Statement. The third of lines 1 through 22, or Part III, lines 1
column is Column (b), Temporary through 30. See Example 11, earlier.
Line 17, Excluding Amounts Difference. The fourth column is Column
From Pass-Through Entities, (c), Permanent Difference. The fifth
Abandonment Losses, and column is Column (d), Income (Loss) per Part III. Reconciliation of
Worthless Stock Losses Tax Return. For every item listed on the
attached statement for line 22, columns Net Income (Loss) per
Report on line 21d the net gain or loss (a) + (b) + (c) must equal column (d). Each Income Statement of
reported on line 17 of Form 4797, item with amounts in columns (a), (b), (c), Partnership With Income
excluding amounts from (a) pass-through and (d) will be totaled and included as one
entities, which must be reported on line 7, line on line 22. (Loss) per Return—
8, or 9, as applicable; (b) abandonment Expense/Deduction Items
losses, which must be reported on A partnership should include
line 21e; and (c) worthless stock losses, tax-exempt income from forgiven Note. Expense amounts that reduce
which must be reported on line 21f. Paycheck Protection Program (PPP) loans financial income must be reported on Part
on line 22, column (c), as a negative III, column (a), as positive amounts.
Note. Traders in securities or number if it was included on line 22 in Deduction amounts that reduce taxable
commodities that have made a valid column (a) as Income per Income income must be reported on Part III,
election under section 475(f) to use the Statement. column (d), as positive amounts. Amounts
reported on Part II, line 24, must be the
mark-to-market method to account for If any “comprehensive income,” as
defined by Statement of Financial

-15-

- 16 -

Page 16 of 20      Fileid: … 65schm-3/202112/a/xml/cycle02/source                           14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

negative of the amounts reported on Part      financial income statement or the income      deducted on Form 1065, page 1, line 10, 
III, line 31.                                 and expense accounts maintained in the        or a negative amount (reported in 
                                              partnership's books and records. Also         parentheses) if any of the guaranteed 
Lines 1 Through 4. Income Tax                 report on line 7, column (a), the reversal of payments are capitalized by the 
Expense                                       any overaccrual of any amount described       partnership. Generally, if guaranteed 
If the partnership doesn't distinguish        in this paragraph. See sections 162(f) and    payments expense is recognized for 
between current and deferred income tax       162(g) for additional guidance.               financial accounting purposes, the amount 
                                                                                            reported in column (c) as a permanent 
expense in its financial statements (or its   Report on line 7, column (d), any such        difference will be the negative of the 
books and records, if applicable), report     amounts described in the preceding            guaranteed payment income reported on 
income tax expense as current income tax      paragraph that are includible in taxable      Form 1065, Schedule K, line 4. If no 
expense using lines 1 and 3, as               income, regardless of the financial           guaranteed payment expense is 
applicable.                                   accounting period in which such amounts       recognized for financial accounting 
Line 5. Equity-Based                          were or are included in financial             purposes, the amount reported in column 
Compensation                                  accounting net income. Complete               (c) as a permanent difference will 
                                              columns (b) and (c), as appropriate.
Report on line 5 any amounts for                                                            generally be zero. Any amount of 
equity-based compensation or                  Don't report on line 7 amounts required       guaranteed payments capitalized for tax 
consideration that are reflected as           to be reported in accordance with the         purposes on Form 1065, page 1, but not 
expense for financial accounting purposes     instructions for line 8.                      capitalized for financial accounting 
(column (a)) or deducted in the U.S.                                                        purposes, will generally be reported as a 
income tax return (column (d)) other than     Don't report on line 7 amounts                negative temporary difference amount in 
amounts reportable elsewhere on               recovered from insurers or any other          column (b).
Schedule M-3, Parts II and III. Examples of   indemnitors for any fines and penalties       Example 19. 
amounts reportable on line 5 include          described above.
                                                                                            1. AZ is a calendar year partnership 
expense/deduction items attributable to       Line 8. Judgments, Damages,                   that files and entirely completes 
options to acquire capital interest units,                                                  Schedule M-3 for its 2019 tax year. AZ 
profits interest units, and other rights to   Awards, and Similar Costs
                                                                                            has total income in 2019 of $5,000 for 
acquire partnership equity, regardless of     Report on line 8, column (a), the amount 
                                                                                            both financial accounting and tax 
whether such payments are made to             of any estimated or actual judgments, 
                                                                                            accounting purposes before taking into 
employees or nonemployees, or as              damages, awards, settlements, and 
                                                                                            account guaranteed payments expense or 
payment for property or compensation for      similar costs, however named or 
                                                                                            deductions. Partner A is paid a deductible 
services.                                     classified, included in financial accounting 
                                                                                            guaranteed payment of $3,000 for 
                                              income, regardless of whether the amount 
                                                                                            services rendered to the partnership 
Line 6. Meals and                             deducted was attributable to an estimate 
                                                                                            during the tax year. Partner Z is paid a 
Entertainment                                 of future anticipated payments or actual 
                                                                                            $1,000 guaranteed payment, which is 
Report on line 6, column (a), any amounts     payments. Also report on line 8, column 
                                                                                            capitalized to land for tax accounting. Both 
paid or accrued by the partnership during     (a), the reversal of any overaccrual of any 
                                                                                            guaranteed payments, in the total amount 
the tax year for meals, beverages, and        amount described in this paragraph.
                                                                                            of $4,000, are treated as expenses in 
entertainment that are accounted for in       Report on line 8, column (d), any such        arriving at net financial accounting 
financial accounting income, regardless of    amounts described in the preceding            income. There are no other expenses or 
the classification, nomenclature, or          paragraph that are includible in taxable      deductions for financial accounting or tax 
terminology used for such amounts, and        income, regardless of the financial           accounting purposes. The amount shown 
regardless of how or where such amounts       accounting period in which such amounts       on Part I, line 11, Net income (loss) per 
are classified in the partnership's financial were or are included in financial             income statement of the partnership, is 
income statement or the income and            accounting net income. Complete               $1,000 ($5,000 − $3,000 − $1,000 = 
expense accounts maintained in the            columns (b) and (c), as appropriate.          $1,000). The amount shown on line 9, 
partnership's books and records. Report                                                     column (a), is $4,000, the amount of 
only amounts not otherwise reportable         Don't report on line 8 amounts required       guaranteed payments expenses for 
elsewhere on Schedule M-3, Parts II and       to be reported in accordance with the         financial accounting purposes. The 
III (for example, Part II, line 15).          instructions for line 7.                      amount shown on line 9, column (d), is 
                                                                                            ($1,000), the net amount deducted after 
Line 7. Fines and Penalties                   Don't report on line 8 amounts 
                                                                                            taking into consideration the $4,000 of 
Report on line 7 any fines or similar         recovered from insurers or any other 
                                                                                            total guaranteed payments allocated to 
penalties paid to a government or other       indemnitors for any judgments, damages, 
                                                                                            the partners as income on Schedule K, 
authority for the violation of any law for    awards, or similar costs described above.
                                                                                            netted against $3,000 deducted on Form 
which fines or penalties are assessed. All    Line 9. Guaranteed Payments                   1065, page 1, line 10. The amount 
fines and penalties expensed in financial                                                   reported on line 9, column (b), is a 
accounting income (paid or accrued) must      Include on line 9, column (a), the amount 
be included on line 7, column (a),            of guaranteed payments expense that is        temporary difference of ($1,000), the 
regardless of the government or other         included on Part I, line 11. Report in        negative of the amount of guaranteed 
authority that imposed the fines or           column (d) the net amount of guaranteed       payments capitalized for Form 1065, 
penalties, regardless of whether the fines    payments deduction. The net amount of         page 1. The amount reported on line 9, 
and penalties are civil or criminal,          the deduction reported in column (d) is the   column (c), is a permanent difference of 
regardless of the classification,             amount reported as a deduction on Form        ($4,000), equal to the guaranteed 
nomenclature, or terminology used for the     1065, page 1, line 10, reduced by the         payment income shown on Form 1065, 
fines or penalties by the imposing            amount reported as income on Form             Schedule K, line 4, expressed as a 
authority in its actions or documents, and    1065, Schedule K, line 4. The net amount      negative amount. Part II, line 23, reports 
regardless of how or where the fines or       of the guaranteed payments reported in        $5,000 in column (a), $0 in column (b), $0 
penalties are classified in the partnership's column (d) will be zero if no guaranteed      in column (c), and $5,000 in column (d). 
                                              payments are capitalized and all are          Part II, line 24, reports ($4,000) in column 

                                                              -16-

- 17 -

Page 17 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

(a), $1,000 in column (b), $4,000 in • Conservation easements (including Line 20. Amortization of
column (c), and $1,000 in column (d). Part scenic easements or air rights);
Acquisition, Reorganization,
II, line 26, reports $1,000 in column (a), • Railroad rights of way;
$1,000 in column (b), $4,000 in column • Mineral rights; and and Start-up Costs
(c), and $6,000 in column (d). • Other intangible property. Report on line 20 amortization of
acquisition, reorganization, and start-up
2. Same facts as in Example 19.1, Line 15. Organizational costs. For purposes of columns (b), (c),
except that no guaranteed payments
expense is recognized for financial Expenses as per Regulations and (d), include amounts amortizable
accounting purposes. The amount shown Section 1.709-2(a) under section 167 or 195.
on Part I, line 11, is $5,000. On line 9, AZ Include on line 15, column (a), Line 21. Other Amortization or
reports $0 in column (a), ($1,000) in organizational expenses, as defined in
Impairment Write-Offs
column (b), $0 in column (c), and ($1,000) Regulations section 1.709-2(a). Include on
in column (d). Part II, line 23, reports $0 in line 15, column (d), the amount of Report on line 21 any amortization or
column (a), $1,000 in column (b), $0 in organizational expense deducted per impairment write-offs not otherwise
column (c), and $1,000 in column (d). On section 709(b). includible on Schedule M-3.
Part II, line 25, AZ reports $5,000 in
column (a), $1,000 in column (b), $0 in Line 16. Syndication Expenses Line 22. Reserved
column (c), and $6,000 in column (d). as per Regulations Section When using this line to figure amounts on
other tax forms or worksheets, this line
Line 10. Pension and 1.709-2(b) should be considered to be zero.
Profit-Sharing Include on line 16 syndication expenses,
as defined in Regulations section Line 23a. Depletion—Oil & Gas
Report on line 10 any amounts attributable 1.709-2(b). Form 1065 filers report on line 23a,
to the partnership's pension plans, column (a), any oil and gas depletion
profit-sharing plans, and any other Line 17. Current Year included on Part I, line 11.
retirement plans. Acquisition/Reorganization
Line 11. Other Post-Retirement Investment Banking Fees Line 23b. Depletion—Other
Benefits Report on line 17 any investment banking Than Oil & Gas
Report on line 11 any amounts attributable fees paid or incurred in connection with a Report on line 23b any depletion expense/
to other post-retirement benefits not taxable or tax-free acquisition of property deduction other than oil and gas that isn't
otherwise includible on line 10 (for (for example, ownership interests or required to be reported elsewhere on
example, retiree health and life insurance assets) or a tax-free reorganization not Schedule M-3 (for example, on Part II,
coverage, dental coverage, etc.). otherwise reportable on Schedule M-3 (for line 7, 8, 9, or 15).
example, line 15 or 16). Report on this line
Line 24. Intangible Drilling and
Line 12. Deferred any investment banking fees paid or
Compensation incurred at any stage of the acquisition or Development Costs (IDC)
reorganization process, including, for Intangible drilling and development costs
Report on line 12, column (a), any example, fees paid or incurred to evaluate (IDC) are costs of developing oil, gas, or
compensation expense included in the net whether to investigate an acquisition, fees geothermal wells. Report on line 24,
income (loss) amount reported on Part I, to conduct an actual investigation, and column (a), the total amount of intangible
line 11, that isn't deductible for U.S. fees to consummate the acquisition or drilling and development costs (or such
income tax purposes in the current tax reorganization. equivalent costs as classified in the
year and that wasn't reported elsewhere partnership's financial statements)
on Schedule M-3, column (a). Report on Line 18. Current Year included on Part I, line 11, and report on
line 12, column (d), any compensation Acquisition/Reorganization line 24, column (d), the total amount of
deductible in the current tax year that IDC paid or incurred during the current tax
wasn't included in the net income (loss) Legal and Accounting Fees
amount reported on Part I, line 11, for the Report on line 18 any legal and year under section 263(c) and Regulations
current tax year and that isn't reportable accounting fees paid or incurred in section 1.612-4.
elsewhere on Schedule M-3, including any connection with a taxable or tax-free Line 25. Depreciation
compensation deductions deferred in a acquisition of property (for example, Report on line 25 any depreciation
prior tax year. For example, report ownership interests or assets) or a expense/deduction that isn't required to be
originations and reversals of deferred tax-free reorganization not otherwise reported elsewhere on Schedule M-3 (for
compensation subject to section 409A on reportable on Schedule M-3 (for example, example, on Part II, line 7, 8, 9, or 15).
line 12. line 15 or 16). Report on this line any legal
and accounting fees paid or incurred at Line 26. Bad Debt Expense
Line 14. Charitable any stage of the acquisition or Report on line 26, column (a), any
Contribution of Intangible reorganization process, including, for amounts attributable to an allowance for
Property example, fees paid or incurred to evaluate uncollectible accounts receivable or actual
whether to investigate an acquisition, fees write-offs of accounts receivable included
Report on line 14 any charitable to conduct an actual investigation, and on Part I, line 11. Report in column (d) the
contribution of intangible property, for fees to consummate the acquisition or amount of bad debt expense deductible
example, contributions of: reorganization. for federal income tax purposes under
• Intellectual property, patents (including
any amounts of additional contributions Line 19. Amortization/ section 166.
allowable by virtue of income earned by Impairment of Goodwill Line 27. Interest Expense
donees subsequent to the year of
donation), copyrights, trademarks; Report on line 19 amortization of goodwill Attach Form 8916-A. Complete Part III and
• Securities (including stocks and their or amounts attributable to the impairment enter the amounts shown on line 5,
derivatives, stock options, and bonds); of goodwill. columns (a) through (d), on Schedule M-3,

-17-

- 18 -

Page 18 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

line 27, columns (a) through (d), as applicable. Report depreciation expense as an expense in its financial statements.
applicable. or deductions for such transactions on Also, X incurred $20,000 in attorney fees
line 25, in column (a) or (d), as applicable. in obtaining a patent application that X
An entity that (a) is required to file a Use columns (b) and (c) of lines 25, 27, capitalized and amortized in its financial
Schedule M-3 and has less than $50 and 28, as applicable, to report the statements. X recognized $2,000 of
million in total assets at the end of the tax differences between columns (a) and (d) amortization deduction. In compliance
year, or (b) isn't required to file a for such recharacterized transactions. with its adopted method of accounting
Schedule M-3 and voluntarily files a under section 174, X deducts research
Schedule M-3, isn't required to file Form Example 20. X is a calendar year
8916-A but may voluntarily do so. U.S. partnership that files and entirely and experimental expenditures for U.S.
completes Schedule M-3 for its 2019 tax income tax purposes. Accordingly, X must
Report on line 27, column (a), the total year. X acquired property in a transaction report $100,000 in column (a), $20,000 in
amount of interest expense included on that, for financial accounting purposes, X column (b), and $120,000 in column (d). X
Part I, line 11, and report on line 27, treats as a lease. Because of its terms, the must also report $2,000 in column (a),
column (d), the total amount of interest transaction is treated for U.S. income tax ($2,000) in column (b), and $0 in column
deduction included on line 1 of the purposes as a purchase, and X must treat (d) on Part III, line 21.
Analysis of Net Income (Loss) found on the periodic payments it makes partially as 2. Assume the same facts as
Form 1065 that isn't reported elsewhere a payment of principal and partially as a Example 21.1, except X elected to
on Schedule M-3. In column (b) or (c), as payment of interest. In its financial capitalize and amortize its research and
applicable, adjust for any amounts treated statements, X treats the difference expenditures over 60 months with respect
for U.S. income tax purposes as interest between the financial accounting and U.S. to all its research programs for U.S. tax
deduction that are treated as some other income tax treatment of this transaction as purposes. X first realized benefits from
form of expense for financial accounting a temporary difference. During 2019, X such expenditures on August 1.
purposes, or vice versa. For example, reports in its financial statements $1,000 Accordingly, X must report $100,000 in
adjustments to interest expense/deduction of gross rental expense that, for U.S. column (a), a temporary difference of
resulting from adjustments made in income tax purposes, is recharacterized ($90,000) (that is, $100,000 – $10,000) in
accordance with the instructions for as a $700 payment of principal and a $300 column (b), and $10,000 (that is,
line 28 should be made in columns (b) and payment of interest, accompanied by a $120,000/60 months, times 5 months) in
(c), as applicable, of line 27. depreciation deduction of $1,200 (based column (d).
Don't report on Form 8916-A and on on other facts). On its 2019 Schedule M-3, 3. Partnership X is a calendar year
line 27 amounts reported in accordance X must report the following on line 28: taxpayer that files and entirely completes
with the instructions for (a) Part II, lines 7, column (a), $1,000, its financial Schedule M-3 for its 2019 tax year. X
8, and 9, Income (loss) from U.S. accounting gross rental expense; column adopted the current expense method for
partnerships, foreign partnerships, and (b), ($1,000); and column (d), $0. On research and experimental expenditures
other pass-through entities; and (b) Part II, line 27, X reports $0 in column (a) and for U.S. income tax purposes. During
line 10, Items relating to reportable $300 in columns (b) and (d) for the interest 2019, X incurred $50,000 of research and
transactions. deduction. On line 25, X reports $0 in development costs that X recognized as
column (a) and $1,200 in columns (b) and an expense in its financial statements.
Line 28. Purchase Versus (d) for the depreciation deduction. Also, X undertook to develop a new
Lease (for Purchasers and/or machine for its business. X expended
Line 29. Research and
Lessees) $30,000 on the project of which $10,000
Development Costs
Note. Also see the instructions for Part II, represents actual costs of material, labor,
line 16, for sellers and/or lessors. Report in column (a) the amount of and component cost to construct the
Asset transfer transactions with periodic expenses included in net income reported machine, and $20,000 represents
payments characterized for financial on Part I, line 11, that are related to research costs not attributable to the
accounting purposes as either a purchase research and development expenses. machine itself. X capitalized all costs of
or a lease may, under some Report in column (d) the amount of $30,000 related to the machine and
circumstances, be characterized as the deductions included on page 1 of the recognized $6,000 of depreciation
opposite for tax purposes. return and/or separately reported on expense in its financial statements. X’s
Schedule K of the return that are depreciation expense on the $10,000 of
If a transaction is treated as a lease, recognized and reported as section 174 costs related to the machine itself was
the purchaser/lessee reports the periodic research and experimental expenditures $2,000 for U.S. income tax purposes.
payments as gross rental expense. If the consistent with the partnership’s adopted Accordingly, X must report $50,000 in
transaction is treated as a purchase, the method of accounting for such column (a), $20,000 (research costs that
purchaser/lessee reports the periodic expenditures. In column (c), as applicable, aren't attributable to the machine itself) in
payments as payments of principal and include any adjustments for any amounts column (b), and $70,000 in column (d). X
interest and also reports depreciation treated for U.S. income tax purposes as must also report $6,000 in column (a),
expense or deduction with respect to the research or experimental expenditures ($4,000) in column (b), and $2,000 in
purchased asset. that are treated as some other form of column (c) on Part III, line 25.
expense for financial accounting 4. Partnership X is a calendar year
Report in column (a) gross rent purposes, or vice versa. Report any taxpayer that files and entirely completes
expense for a transaction treated as a difference in timing recognition in column Schedule M-3 for its 2019 tax year. During
lease for financial accounting purposes (b). 2019, X incurred $10,000 of research and
but as a sale for U.S. income tax
purposes. Report in column (d) gross Example 21. development costs related to social
rental deductions for a transaction treated 1. Partnership X is a calendar year sciences that it recognized as an expense
as a lease for U.S. income tax purposes taxpayer that files and entirely completes in its financial statements. X adopted the
but as a purchase for financial accounting Schedule M-3 for its 2019 tax year. During current expense method for research and
purposes. Report interest expense or 2019, X incurred $100,000 of research experimental expenditures for U.S.
deduction amounts for such transactions and development costs that X recognized income tax purposes. Because such costs
on line 27, in column (a) or (d), as aren't allowable costs under section 174,

-18-

- 19 -

Page 19 of 20 Fileid: … 65schm-3/202112/a/xml/cycle02/source 14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

X must report $10,000 in column (a), upon each taxpayer's operational activity elsewhere on Schedule M-3. Report on
permanent difference ($10,000) in column and the nature of its accounting records. line 30, column (a), expenses included in
(c), and $0 in column (d). If such costs are For example, if a partnership's net income net income reported on Part I, line 11, that
otherwise deductible for U.S. income tax amount reported in the income statement are related to reserves and contingent
purposes, X must report this item of includes anticipated expenses for a liabilities. Report on line 30, column (d),
expense on Part III, line 30. discontinued operation as a single amounts related to liabilities for reserves
5. Partnership X is a calendar year amount, and its general ledger or other and contingent liabilities that are
taxpayer that files and entirely completes books, records, and workpapers provide deductible in the current tax year for U.S.
Schedule M-3 for its 2019 tax year. During details for the anticipated expenses under income tax purposes. Examples of items
2019, X paid $75,000 to acquire or more explanatory and defined categories that must be reported on line 30 include
in-license intangible assets under a such as employee termination costs, lease warranty reserves, restructuring reserves,
collaborative arrangement with another cancellation costs, loss on sale of reserves for discontinued operations, and
company that X recognized as a research equipment, etc., a supporting statement reserves for acquisitions and dispositions.
and development expense in its financial that lists those categories of expenses Only report on line 30 items that aren't
statements. X adopted the current and their details will satisfy the required to be reported elsewhere on
expense method for research and requirement to separately state and Schedule M-3, Parts II and III. For
experimental expenditures for U.S. adequately disclose. In order to separately example, the expense for a reserve for
income tax purposes. Because payments state and adequately disclose the inventory obsolescence must be reported
made to acquire rights to a product or employee termination costs, it isn't on Part II, line 15.
technology are excluded costs from the required that an anticipated termination Example 22. Partnership Q is a
definition of research and experimental cost amount be listed for each employee, calendar year partnership that files and
expenditures, X must report $75,000 in or that each asset (or category of asset) entirely completes Schedule M-3 for its
column (a), ($75,000) in column (c), and be listed along with the anticipated loss on 2019 tax year. On July 1 of each year, Q
$0 in column (d). X must report any disposition. has a fixed liability for its annual insurance
amortization otherwise allowable related The attached statement should have premiums that provides a 12-month
to the payments on Part III, line 21. five columns. The first column has the coverage period beginning July 1 through
Line 30. Other Expense/ description for the next four columns; the June 30. In addition, Q historically prepays
second column is Column (a), Expense 12 months of advertising expense on July
Deduction Items With per Income Statement; the third column is 1. On July 1, 2019, Q prepays its
Differences Column (b), Temporary Difference; the insurance premium of $500,000 and
Separately state and adequately disclose fourth column is Column (c), Permanent advertising expenses of $800,000. For
on line 30 all items of expense/deduction Difference; and the fifth column is Column financial accounting purposes, Q
that aren't otherwise listed on lines 1 (d), Deduction per Tax Return. For every capitalizes and amortizes the prepaid
through 29. item listed on the attached statement for insurance and advertising over 12 months.
line 30, columns (a) + (b) + (c) must equal For U.S. income tax purposes, Q deducts
Attach a statement that describes and column (d). Each item with amounts in the insurance premium when paid and
itemizes the type of expense/deduction columns (a), (b), (c), and (d) will be totaled amortizes the advertising over the
and the amount of each item, and and included as one line on line 30 of the 12-month period. In its financial
provides a description that states the face of the schedule. statements, Q treats the differences
expense/deduction name for book attributable to the financial statement
purposes for the amount recorded in Comprehensive income. If any treatment and U.S. income tax treatment
column (a) and describes the adjustment “comprehensive income,” as defined by of the prepaid insurance and advertising
being recorded in column (b) or (c). The SFAS No. 130, is reported on this line, as temporary differences.
entire description completes the tax describe the item(s) in detail as, for Q also has a legal expense reserve
description for the amount included in example, “Foreign currency translation where $300,000 was expensed for
column (d) for each item separately stated adjustments—comprehensive income” financial accounting purposes and a
on this line. and “Gains and losses on ($100,000) temporary difference was
The statement of details attached to available-for-sale calculated to arrive at the income tax
the return for line 30 must separately state securities—comprehensive income.” deduction of $200,000. The statement
and adequately disclose the nature and Reserves and contingent liabilities. attached to Q's return for Part III, line 30,
amount of the expense related to each Report on line 30 amounts related to the must be separately stated and adequately
reserve and/or contingent liability. The change in each reserve or contingent disclosed as follows:
appropriate level of disclosure depends liability that isn't required to be reported

Column (a)
Expense per Income Column (b) Column (c) Column (d)
Description Statement Temporary Difference Permanent Difference Deduction per Tax Return
Prepaid insurance premium
expenses not capitalized $250,000 $250,000 -0- $500,000
Legal expense reserve 300,000 (100,000) -0- 200,000
Total line 30 $550,000 $150,000 -0- $700,000

-19-

- 20 -

Page 20 of 20   Fileid: … 65schm-3/202112/a/xml/cycle02/source                             14:44 - 12-Jan-2022

The type and rule above prints on all proofs including departmental reproduction proofs. MUST be removed before printing.

Line 31. Total Expense/                amounts from line 31 as negative (in        ($1,000,000). Similarly, if line 31, column 
                                       parentheses) and negative amounts as        (b), reflects an amount of ($50,000), then 
Deduction Items
                                       positive. For example, if line 31, column   report on Part II, line 24, column (b), 
Enter on Part II, line 24, columns (a) (a), reflects an amount of $1 million, then $50,000.
through (d), as applicable, positive   report on Part II, line 24, column (a), 

                                       -20-

PDF file checksum: 89561319

(Plugin #1/9.12/13.0)