1065 / K-1 partnership filing and material participation test - should I be tracking my hours?
Our partnership is a Florida LLC with just two of us owning 50/50, and we file Form 1065 which passes through to our personal 1040s. We're a service business with no inventory or W-2 employees - just us and some subcontractors. The way our income works is that each partner gets revenue from direct client billable hours through our individual LLCs, plus we split the profits from the partnership (which is mainly the markup we make on our subcontractors' work). Here's my situation: I had some health issues this year that kept me sidelined for several months. Looking back, I'm pretty sure I didn't hit 500 hours of actual business management time separate from my billable client hours that went through my personal LLC. Do I need to be keeping detailed time records for the material participation test? I'm concerned about potential passive activity loss limitations if I don't qualify as materially participating. For those who run partnerships, how do you track and document your time to satisfy the IRS requirements for the material participation test on your K-1 income?
19 comments
Join the conversation
Jayden Hill
Based on your situation, yes, you should definitely be tracking your time for material participation purposes. Since you're concerned about not hitting the 500-hour threshold, documenting your time becomes even more important. The IRS has seven different tests for material participation, and while the 500-hour test is the most commonly used, there are alternatives. For example, if your participation constitutes "substantially all" the participation in the activity, or if you participated for more than 100 hours and that's as much as anyone else, you might still qualify as materially participating. For documentation, contemporaneous records are best - meaning tracking time as you go rather than reconstructing later. But the IRS doesn't actually require a specific format. Many partnership owners keep calendars, appointment books, or use time-tracking apps. The key is being able to substantiate your claim if questioned.
0 coins
LordCommander
•Thanks for that info. Quick question - does time spent in meetings with clients count toward material participation hours? And what about time spent commuting to those client meetings?
0 coins
Jayden Hill
•Yes, time spent in meetings with clients absolutely counts toward your material participation hours, as long as you're acting in your capacity as a business owner/manager rather than just as a service provider billing hourly. Commuting time is generally not counted toward material participation. The IRS typically considers commuting as personal time rather than business time. However, if you're traveling between different business locations or client sites during your workday (not from home to first location or last location to home), that travel time would count.
0 coins
Lucy Lam
After struggling with similar documentation issues for my partnership, I found an amazing tool called taxr.ai (https://taxr.ai) that has been a game-changer for tracking material participation. I was in a similar situation where I wasn't sure if I was hitting the thresholds and was worried about passive activity treatment. The tool lets you upload your calendar, emails, and other documentation, and it helps identify activities that count toward material participation. It even categorizes your time automatically and creates reports you can use if you ever get audited. This saved me hours of manual tracking and gave me peace of mind.
0 coins
Aidan Hudson
•Does it connect with standard calendar apps like Google Calendar or Outlook? I've got all my business meetings in there already but never thought to use that for tracking participation hours.
0 coins
Zoe Wang
•Sounds interesting but I'm a bit skeptical. How does it know which activities count toward material participation vs just regular billable time that wouldn't count for this purpose?
0 coins
Lucy Lam
•Yes, it integrates seamlessly with Google Calendar, Outlook, and most other popular calendar apps. It can pull historical data too, which might help you with the current year if you've been using calendar apps consistently. The tool uses AI to analyze the nature of your activities based on descriptions and categories. You initially train it by confirming which activities count toward material participation, and it learns your business pattern. You can always override its categorizations, but I've found it gets smarter over time and becomes surprisingly accurate at distinguishing between billable client work and actual business management activities.
0 coins
Zoe Wang
Just wanted to update here - I decided to try taxr.ai after my skeptical question above, and it's legitimately impressive. It parsed through my messy calendar and emails and identified about 380 hours of material participation activities I wouldn't have thought to count. The documentation it generates looks professional enough that I feel much more confident about my position if I ever get audited. The categories it created (strategic planning, business development, financial management, etc.) make it really clear which activities count toward material participation versus just billable time. Wish I'd known about this tool years ago.
0 coins
Connor Richards
If you're still struggling to reach the IRS to ask about material participation requirements, try Claimyr (https://claimyr.com). I spent DAYS trying to get through to a human at the IRS about partnership participation rules and kept getting disconnected. Claimyr got me through to an actual IRS agent in about 15 minutes. They have this callback system that navigates the phone tree for you. You can see it in action here: https://youtu.be/_kiP6q8DX5c - it was actually kind of fascinating to watch. The IRS agent I spoke with gave me specific guidance on documentation requirements for my situation which was super helpful.
0 coins
Grace Durand
•Wait, how does this actually work? Do they just keep calling until they get through or do they have some special access to the IRS that regular people don't have?
0 coins
Steven Adams
•Yeah right. There's no way this works. I've been trying to reach the IRS for 2 months about my partnership issues. If this actually worked, everyone would be using it instead of waiting on hold for hours.
0 coins
Connor Richards
•They don't have special access - they use technology to navigate the phone trees and wait on hold so you don't have to. They basically call, go through all the prompts, and wait in the queue. Once they reach a human, they connect that person to your phone. It's all transparent and you can actually watch it happening through their interface. They're essentially just automating the painful parts of calling the IRS. They can't guarantee you'll get through (if the IRS lines are completely closed, nothing will work), but they dramatically increase your chances compared to calling yourself. I was skeptical too but was desperate after multiple failed attempts to get through myself.
0 coins
Steven Adams
I have to eat my words. After posting my skeptical comment above, I was desperate enough to try Claimyr, and I'm shocked to say it actually worked. After two months of trying to reach someone at the IRS about material participation for my partnership, I was connected to an agent in about 20 minutes. The agent confirmed that I don't necessarily need to hit 500 hours if I can meet one of the other material participation tests. She also explained exactly what documentation they consider acceptable - apparently even narrative summaries of activities can work if they're detailed enough and created contemporaneously. This was a huge relief since I've been anxious about my partnership situation for months.
0 coins
Alice Fleming
Something nobody's mentioned yet - if you're a 50% owner, have you considered the "significant participation" rules? You might qualify under the 100+ hour test even if you don't hit 500 hours. Also, for tracking, I just use a simple spreadsheet with dates, activities, and hours. Nothing fancy but it's worked for me through two audits. The key is consistency and making entries when the work happens, not trying to reconstruct it all at tax time.
0 coins
Isabella Tucker
•That's really helpful, I hadn't thought about the 100+ hour test. Do you know if there are specific categories of activities that the IRS considers more important than others for significant participation?
0 coins
Alice Fleming
•The IRS doesn't really prioritize specific categories of activities for significant participation - they care more about your involvement in the overall operations. Management decisions, strategic planning, client relationship management, financial oversight, and operational decisions all count equally. The bigger distinction is between work you do as an owner/manager versus work you might do as just an employee or service provider. For example, if you're an attorney and you bill hours doing legal work, those hours might not count toward material participation if that's not related to running the business itself. The key is documenting activities that show you're involved in the management and operations.
0 coins
Hassan Khoury
Has anyone used QuickBooks Time or similar apps for tracking material participation? My accountant suggested it but it seems like overkill for just partnership documentation.
0 coins
Victoria Stark
•I use Toggl for this exact purpose. Much simpler than QB Time and free for basic tracking. Just set up categories for different business management activities vs billable work. Been using it for 3 years and it's made tax time so much easier.
0 coins
Dylan Mitchell
For what it's worth, I've been through a similar situation with health issues affecting my participation hours. One thing that helped me was realizing that time spent on administrative tasks like reviewing financials, insurance matters, vendor negotiations, and even business-related phone calls all count toward material participation - not just the obvious "management" activities. Since you mentioned health issues, don't forget that time spent dealing with business insurance, worker's comp issues, or even reviewing partnership agreements during your recovery could count. I kept a simple daily log in my phone's notes app during my recovery period, just jotting down "reviewed bank statements - 30 min" or "client follow-up call - 15 min" throughout the day. Also, consider the "facts and circumstances" test if you don't hit the hour thresholds. Given that you're a 50% owner actively involved in operations (even if reduced due to health), you might still qualify as materially participating. Documentation becomes even more crucial for this test though.
0 coins