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How to resolve ref. 358, California ending balance sheet

SOLVEDby Intuit23Updated July 19, 2022

This article will help you balance the 565 or 568 balance sheet and resolve the following diagnostic:

"State ending balance sheet out of balance by ${amount}." (ref. #358)

Why is the balance sheet out of balance?

Starting in tax year 2021, California requires all partnerships report partners' capital accounts using the tax basis method on their Schedule K-1. The total amounts for capital accounts columns C, D, and E must match the Schedule M-2.

In practice, this means that the Schedule M-2, line 3, must now report income on tax basis. Although forms 565 and 568 do still mention "book" on the M-2 line 3, we're working with the state for clarification - as the tax basis capital accounts won't normally total to the partnership's book basis income.

This mirrors the new behavior of the federal M-2, since the 1065 instructions (which the state references) lay out more explicitly that the M-2 is on tax basis now.

You'll no longer see M-2 adjustments for items like section 754 depreciation, since they're allowable on tax basis.

How do I fix it?

If the federal and California M-2 should match, and you've already balanced the federal return:

  1. Go to Screen 25, Balance Sheet Miscellaneous.
  2. Check the box labeled Federal and California Schedule M-2 are the same.

If the California capital accounts differ from the federal amounts:

  1. Review the balance sheet on form 565 or 568 to determine which adjustments are necessary.
  2. Go to Screen 24.011, California Balance Sheet.
  3. Enter the appropriate amount in the Ending column. In most cases, you'll need to override the Partners' capital accounts [O] here to report the book ending balance.

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