7728 / How is a publicly traded partnership taxed?

The passive-type income exception is not available to a publicly traded partnership that would be treated as a regulated investment company (RIC, see Q 7922) as described in IRC Section 851(a) if the partnership were a domestic corporation. Regulations may provide otherwise if the principal activity of the partnership involves certain commodity transactions.⁵

A partnership that fails to meet the passive-type income requirement may be treated as continuing to meet the requirement if: (1) the Service determines that the failure was inadvertent; (2) no later than a reasonable time after the discovery of the failure, steps are taken so that the partnership once more meets the passive-type income requirement; and (3) the partnership and each individual holder agree to make whatever adjustments or pay whatever amounts as may be required by the Service with respect to the period in which the partnership inadvertently failed to meet the requirement.⁶

A grandfather rule provided that partnerships that were publicly traded, or for which registrations were filed with certain regulatory agencies, on December 17, 1987 (“existing partnerships”), were exempt from treatment as a corporation until taxable years beginning after 1997. (See Q 7730 for treatment of electing 1987 partnerships after 1997.) However, the addition of a substantial line of business to an existing partnership after December 17, 1987, would terminate such an exemption. For purposes of the 90 percent passive-type income requirement above, an existing partnership is not treated as being in existence before the earlier of (1) the first taxable year beginning after 1997 or (2) such a termination of exemption due to the addition of a substantial new line of business. In other words, an existing partnership need not meet the 90 percent requirement while it was exempt under the transitional rules in order to meet the 90 percent requirement when its exemption has expired.⁷

A publicly traded partnership taxed as a corporation under the above rules is treated, in general, as a taxable entity and tax benefits are taken at the partnership level. Individual investors are unable to take tax benefits such as depreciation deductions and tax credits on their own tax returns. A publicly traded partnership that is taxed as a corporation should not be subject to the “at risk” rules (see Q 8003) or the “passive loss” rules. See Q 8010. Also, a publicly traded partnership would not qualify to make an election to be treated as an S corporation. See Q 805.

A publicly traded partnership that is not taxed as a corporation under the above rules is treated, in general, as a flow-through entity, whose partners are taxed under the partnership rules contained in Q 7732 through Q 7767.Partners in such a partnership are subject to the “at risk” rules (see Q 8003) and the “passive loss” rules (see Q 8010). As noted above, an electing 1987 partnership is also subject to tax at the partnership level.