Produced-water and skim-oil income qualifies for partnership exception

Plain-English summary

A limited partnership planned a public offering and expected to earn fees from handling saltwater produced during oil and gas exploration and production. Its dedicated system gathered, transported, processed, treated, and disposed of the produced water. It also recovered residual hydrocarbons called skim oil and sold them to nonretail buyers. The IRS ruled that both income streams were qualifying income under section 7704(d)(1)(E), but did not decide whether the partnership met the overall 90 percent gross-income test.

Ruling snapshot

• Question: Does income from produced-water services and nonretail skim-oil sales qualify under the publicly traded partnership rules?
• Outcome: Approved
• Key authorities: IRC § 7704(a), (b), (c), and (d)(1)(E)

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201537014 Third Party Communication: None
Release Date: 9/11/2015 Date of Communication: Not Applicable
Index Number: 7704.03-00
Person To Contact:
------------------------- ---------------------------, ID No. --------------
------------------------------ Telephone Number:
-------------------------------------- ----------------------
--------------------------------------------------- Refer Reply To:
CC:PSI:B01
PLR-117504-14
Date:
May 29, 2015

Legend

     X        =         -----------------------------------------------------------------------------------------

--------------------------------------------------------------------------------------------------------------------

     State =           --------------

Dear -----------------:

   This letter responds to a letter dated April 23, 2014, and subsequent

correspondence, submitted on behalf of X by its authorized representative, requesting a
ruling under § 7704(d)(1)(E) of the Internal Revenue Code.

                                                   Facts

     X is a limited partnership organized under the laws of State and intends to

become a publicly traded partnership within the meaning of § 7704(b) by effecting an
initial public offering of limited partner interests. X expects to earn income principally by
assessing fees for gathering, transporting, processing, treating and disposing of
saltwater produced in the exploration and production of oil and natural gas (“produced
water”). X’s primary assets will consist of ownership interests of saltwater disposal
wells and associated assets including pipelines, rights of way and the equipment
necessary to operate the saltwater disposal wells. X may redeliver produced water for
continued oil recovery operations but will not charge a fee for redelivery. As a
complement to its primary business, X will remove residual oil and other similar
hydrocarbons (“skim oil”) from drilling waste during the disposal process at its facilities.
X expects to earn income by marketing the skim oil in relevant markets other than to
end users at the retail level.
PLR-117504-14 2

X makes the following representations:
1. Personnel are provided for produced water handling and the personnel
received unique training for the operation of the saltwater disposal system.
2. The saltwater disposal system is dedicated to processing, treatment and
disposal of produced water, the saltwater disposal system does not have
other commercially viable uses, and is not easily converted for other uses.
3. Processing and treatment of produced water is required prior to injection into
a disposal well, in order to comply with governmental regulations and industry
standards.
4. The personnel provide necessary onsite services at all saltwater disposal
wells on a daily basis.
5. Offsite monitoring services are performed on an ongoing basis and are
offered exclusively for use with X’s salt water disposal system.

                                Law and Analysis

  Section 7704(a) provides that, except as provided in § 7704(c), a publicly traded

partnership shall be treated as a corporation.

   Section 7704(b) provides that the term “publicly traded partnership” means any

partnership if (1) interests in such partnership are traded on an established securities
market, or (2) interests in such partnership are readily tradable on a secondary market
(or the substantial equivalent thereof).

   Section 7704(c)(1) provides, in part, that § 7704(a) shall not apply to any publicly

traded partnership for any taxable year if such partnership met the gross income
requirements of § 7704(c)(2) for such taxable year and each preceding taxable year
beginning after December 31, 1987, during which the partnership (or any predecessor)
was in existence.

   Section 7704(c)(2) provides that a partnership meets the gross income

requirements of § 7704(c)(2) for any taxable year if 90 percent or more of the gross
income of such partnership for such taxable year consists of qualifying income.

   Section 7704(d)(1)(E) defines “qualifying income” to include income and gains

derived from the exploration, development, mining or production, processing, refining,
transportation (including pipelines, transporting gas, oil, or products thereof), or the
marketing of any mineral or natural resource (including fertilizer, geothermal energy,
and timber).

                                    Conclusion

PLR-117504-14 3

     Based solely on the facts presented and representations made, we conclude that

income derived by X from the gathering, transporting, processing, treating and
disposing of saltwater produced in the exploration and production of oil and natural gas
constitutes qualifying income within the meaning of § 7704(d)(1)(E). Further, income
derived by X from the recovery and marketing of skim oil other than to end users at the
retail level constitutes qualifying income within the meaning of § 7704(d)(1)(E).

   Except as expressly provided herein, no opinion is expressed or implied

concerning the tax consequences of any aspect of any transaction or item discussed or
referenced in this letter. In particular, no opinion is expressed as to whether X meets the
90 percent gross income requirement in § 7704(c) in any taxable year for which this
ruling may apply.

  The rulings contained in this letter are based upon information and

representations submitted by the taxpayer and accompanied by a penalty of perjury
statement executed by an appropriate party. While this office has not verified any of the
material submitted in support of the request for rulings, it is subject to verification on
examination.

    This ruling is directed only to the taxpayer requesting it. However, in the event of

a technical termination of X under § 708(b)(1)(B), the resulting partnership may continue
to rely on this ruling in determining its qualifying income under § 7704(d)(1)(E).

  Section 6110(k)(3) provides that this ruling may not be used or cited as

precedent.

  In accordance with the Power of Attorney on file with this office, we are sending

copies of this letter to your authorized representatives.

                                  Sincerely,


                                  Laura C. Fields
                                  Laura C. Fields
                                  Senior Technician Reviewer, Branch 1
                                  Office of the Associate Chief Counsel
                                  (Passthroughs & Special Industries)

Enclosures (2):
Copy of this letter
Copy for § 6110 purposes