Analysis of Flow-Through Entities Using Social Network Analysis Techniques

The tax law allows flow-through tax treatment for certain legal entities so that income is subject to tax only once—at the partner or shareholder level. The information return that flow-through entities file includes a Schedule K-1 that shows income, deductions, credits, and other items that are allocated to the owners. Flow-through treatment introduces complexity in auditing tax returns as flow-through entities can be associated with many owners and vice versa. A flowthrough entity can also be associated with many other flow-through entities. Additionally, the financial flows can vary across owners—both in type and magnitude. For example, owners can receive different types of income and deductions from a flow-through entity, and each owner may not receive the same proportion of the income and deductions. Due to this complexity, there is a need to represent the associations between different types of entities and the related financial flows in a form that is quantifiable and that can be used to evaluate these associations for tax compliance risk. This is especially important considering that more than 20 million Schedule K-1s are issued every year.