What difference can one word make? That is a question being asked after the IRS published a corrected version of the final regulations under §199A after the IRS modified the preamble to change the word “separate” to “separable” when discussing the conditions under which a taxpayer may be seen to have two trades or businesses.
The IRS Guidewire email that announced the changes as follows:
These corrections include, among other edits, corrections to the definition and computation of excess section 743(b) basis adjustments for purposes of determining the unadjusted basis immediately after an acquisition of qualified property, as well as corrections to the description of an entity disregarded as separate from its owner for purposes of section 199A and §§1.199A-1 through 1.199A-6. The corrected draft has been submitted to the Federal Register for publication.
The corrections to the excess §743(b) basis adjustment portions of the regulations appear extensive at first glance, but do not appear to change the calculation of the amount ultimately. Rather, the change simply shortens the description of the calculation.
However, more interest was generated by the change found in the preamble. At Section I.A.3.d of the Summary of Comments and Explanation of Revisions, the original version published on January 18, 2019, in discussing multiple trades or businesses, contained the following representation of the rules under Reg. §1.446-1(d) which the IRS would later reference in discussing when a taxpayer would not be deemed to have separate trades or businesses:
Section 1.446-1(d)(2) provides that no trade or business will be considered separate and distinct unless a complete and separate set of books and records is kept for such trade or business.
The IRS goes on to state at the end of its discussion of whether a taxpayer will be found to have multiple trades or businesses by saying:
The Treasury Department and the IRS also believe that multiple trades or businesses will generally not exist within an entity unless different methods of accounting could be used for each trade or business under §1.446-1(d).
In the revised document, the IRS changed the word in the description of Reg. §1.446-1(d) from “separate” to ‘separable”:
Section 1.446-1(d)(2) provides that no trade or business will be considered separate and distinct unless a complete and separable set of books and records is kept for such trade or business.
Note that the actual text at Reg. §1.446-1(d)(2) uses the word “separable” rather than “separate” and immediately following the sentence that indicated a taxpayer must meet the §1.446-1(d) tests to have multiple trades or businesses did describe the §1.446-1(d)(2) provision using the word “separable” rather than “separate.”
A truly separate set of books and records is a much higher bar for a small business than merely separable sets of books and records. For instance, a veterinarian might have a dog grooming business she operates along with her veterinary practice. If she operates as a proprietorship, she likely will keep a single Quickbooks ledger that would record activities from both operations, even if they each had separate bank accounts and assets. Using classes she would be able to separate the two fully, but she reasonably would see no reason to keep two distinct ledgers files in Quickbooks.
In that case, the books would be separable (we could get the information for each entity easily out of the system) but not separate.
This is all well and good, but the IRS does not say that having separable books (or even separate books) by itself is enough to have separate trades or businesses. The one example the IRS gives us of separate books and records suggests the bar may be much higher, involving far more than merely separable books and records.
In Example 2 to Reg. §1.199A-5(c)(1)(iii) the IRS provides the following example of what would be a separate trade or business, allowing the taxpayer to avoid the de minimis rule of Reg. §1.199A-5(c)(1) that would require treating the entire combined operation as a specified service trade or business:
Animal Care LLC provides veterinarian services performed by licensed staff and also develops and sells its own line of organic dog food at its veterinarian clinic and online. The veterinarian services are considered to be the performance of services in the field of health under paragraphs (b)(1)(i) and (b)(2)(ii) of this section. Animal Care LLC separately invoices for its veterinarian services and the sale of its organic dog food. Animal Care LLC maintains separate books and records for its veterinarian clinic and its development and sale of its dog food. Animal Care LLC also has separate employees who are unaffiliated with the veterinary clinic and who only work on the formulation, marketing, sales, and distribution of the organic dog food products. Animal Care LLC treats its veterinary practice and the dog food development and sales as separate trades or businesses for purposes of section 162 and 199A. Animal Care LLC has gross receipts of $3,000,000. $1,000,000 of the gross receipts is attributable to the veterinary services, an SSTB. Although the gross receipts from the services in the field of health exceed 10 percent of Animal Care LLC’s total gross receipts, the dog food development and sales business is not considered an SSTB due to the fact that the veterinary practice and the dog food development and sales are separate trades or businesses under section 162.
In this case, in addition to keeping separate books (which by definition would be “separable”) the IRS also notes that the operations had:
Separate invoicing of customers and
Separate employees who are unaffiliated with the veterinary clinic and who only work on the formulation, marketing, sales, and distribution of the organic dog food products.
While the regulation does not state that such separation is required, the fact that this example goes far beyond merely having separable books suggests the IRS sees the requirements for a taxpayer to have multiple trades or business to be a more complex issue and that the agency is looking for clear evidence of “separateness” of the businesses.
While this change is an improvement, it still seems that taxpayers will a difficult time showing there are truly separate trades or businesses even if the activities can be separately reported upon by the taxpayer’s accounting system.
So to go back to the question posed at the beginning of this discussion—what difference does this single word make? Probably not a whole lot-the issue remains virtually as murky and uncertain as it was when the original version of the final regulations was published in January.
 Reg. §1.199A-5(c)(1)(iii)(B)