I have a partnership that meets the new requirement to file schedule M-3 this year. We are running into a problem determining how we will track tax basis going forward if we are forced to convert partner capital to book basis to reconcile to the M-3. It's my understanding that schedule M-2 line 3 should equal the audited book income, whereas in the past we used a tax basis balance sheet and book income (simply taxable income less nondeductibles). Is it permissible to continue to do this for the M-2 and reconcile the difference to schedule L with a statement? The instructions for the M-2 say that a partnership "may, but is not required to, use the rules in Regulations section
1.704-1(b) (2)(iv) to determine the partners'' capital accounts... If the beginning and ending capital accounts reported under these rules differ from the amounts reported on Schedule L, attach a statement reconciling any differences." Does anyone have a summary of this regulation? I looked it up but I don't completely follow what it says. Put another way, do we have to report the audited balance sheet or can we continue to use a tax basis balance sheet and still reconcile audited income on the M-3? Is it permissible for M-2 line 3 net income to differ from M-3, Part I, Line 11? The reconciliation statement of schedule L partners' capital to M-2 should explain the difference. Is anyone encountering this and/or using RIA GoSystem Tax RS? Thanks.