Will We Get Clarity on SE Tax on Limited Partners

A Tax Court Case is in process that may provide more clarity on active limited partners and self-employment tax.

Section 1402(a)(13) of the Tax Code was enacted clear back in 1977 that states that limited partners only owe self-employment tax on their guaranteed payments. However, the Code did not clarify what is a limited partner.

The IRS issued two sets of proposed regulations trying to clarify what is a limited partner, however, none of those regulations were ever finalized and it has been over 25 years since the last proposed regulation.

There have been a couple of Tax Court cases dealing with this issue and essentially if a limited partner is working full-time in a service business, then all of the business income is subject to self-employment tax.

We now have a new case winding its way through the Tax Court system. The Soroban Capital Partners LP v. Commissioner assert that a state issued limited partnership by default shields the imposition of SE tax on its limited partners other than any guaranteed payments.

They stress that the Tax Code is very specific that any “limited partner” is exempt from SE tax. However, the Tax Court has disagreed in the past and I personally do not think they will win their case. But we will keep you posted.