How is New York source income determined for guaranteed payments a nonresident law firm partner receives, when he personally works only from an out-of-state office and serves mostly out-of-state clients?

Plain-English summary

Michael Sastre was a non-equity partner of a law partnership with offices both inside and outside New York State. As a non-equity partner, he did not share in the partnership's profits, losses, or capital; instead, he received guaranteed payments for the services he rendered. His 2005 federal Schedule K-1 (Form 1065) reported guaranteed payments of $161,127, of which the partnership identified $89,458 as New York source income. Sastre worked exclusively out of the partnership's Florida office, and at least 95% of the work he personally performed was for clients located outside New York. He asked the Department whether the New York-source portion could instead be determined by looking at his own work location and client base, rather than the partnership's allocation.

The Department explained that guaranteed payments, while economically similar to compensation for services, are treated for federal tax purposes as a partner's distributive share of ordinary income (citing Treasury Regulation § 1.707-1(c)). Because Tax Law § 607(a) conforms New York income tax terminology to federal tax meanings, guaranteed payments are likewise treated as distributive share income for New York purposes. Under Tax Law § 632(a)(1), a nonresident partner's New York source income includes his distributive share of partnership items derived from or connected with New York sources, determined at the partnership level - by the partnership's overall business activity within and without New York - rather than by looking at any one partner's individual work.

Tax Law § 632(b)(1) reinforces this by disregarding any partnership agreement provision that characterizes payments to a partner as being for services; that characterization cannot change how income is sourced. Where a partnership keeps books and records that disclose the New York-connected portion of its income, that partnership-level allocation controls (Regulations § 132.15); only where the books don't permit that determination does the partnership fall back to the three-factor business allocation percentage (property, payroll, and gross income) or another approved method (Regulations §§ 132.15(d)-(f), 132.24). The Department also cited Matter of Jablin v. State Tax Comm., 65 AD2d 891, where a guaranteed payment was likewise treated as a distributive share of partnership income sourced using the partnership's own allocation figures.

Because Sastre's partnership maintained records of revenue and expenses by state, the Department concluded that - provided those records allocate income to New York on a fair and equitable basis in accordance with approved accounting methods - Sastre had to include in his New York source income the $89,458 the partnership's records identified as New York source guaranteed payments. His personal work location in Florida and his mostly non-New York client base did not change that result.

What this means for you

Nonresident partners receiving guaranteed payments

If you're a nonresident partner (including a non-equity partner who doesn't share in profits, losses, or capital) receiving guaranteed payments from a partnership that does business both in and outside New York, don't assume your own work location or client list controls your New York sourcing. Guaranteed payments are treated as a distributive share of partnership income, and the New York-source portion is determined at the partnership level based on the partnership's books and records or its business allocation percentage - not on where you personally sat or whom you personally served.

Partnerships with multistate offices

If your partnership maintains separate books and records disclosing income and expenses attributable to its New York versus non-New York operations, that allocation - if fair and equitable and made under approved accounting methods - determines how much of each partner's guaranteed payments (and other distributive share items) is New York source. Partnership agreement language characterizing payments as "for services" does not override this sourcing rule under Tax Law § 632(b)(1).

Common questions

Q: Sastre worked only from the Florida office and served almost no New York clients - why was any part of his guaranteed payment taxed by New York?
A: Because guaranteed payments are sourced at the partnership level, not based on the individual partner's personal work location or clients. The partnership's own books and records allocated a portion of its income to New York, and that allocation - not Sastre's personal activity - determined his New York source income.

Q: Does it matter that Sastre didn't share in the partnership's profits, losses, or capital?
A: No. Even as a non-equity partner receiving only guaranteed payments, he is still treated as receiving a distributive share of partnership income for both federal and New York tax purposes, so the same partnership-level sourcing rules apply.

Q: Can a partnership agreement just characterize guaranteed payments as compensation for services to avoid this sourcing rule?
A: No. Tax Law § 632(b)(1) specifically provides that no effect is given to a partnership agreement provision characterizing payments to a partner as being for services when determining the source of a nonresident partner's income.

Q: How does a partnership determine what portion of its income is New York source if it doesn't keep books allocating income by state?
A: It falls back to the business allocation percentage under the Regulations, which averages a property percentage, a payroll percentage, and a gross income percentage (or, if approved by the Department, an alternative method under Regulations § 132.24).

Citations and references

• Tax Law § 601(e) - imposes personal income tax on a nonresident's New York source income, computed via the New York source fraction
• Tax Law § 607(a) - conforms Article 22 terms to their federal income tax meaning
• Tax Law § 631(a) - defines New York source income of a nonresident individual, including distributive share of partnership income under § 632
• Tax Law § 632(a)(1) - a nonresident partner's New York source income includes the New York-connected portion of the partner's distributive share of partnership items
• Tax Law § 632(b)(1) - disregards partnership agreement provisions characterizing payments as being for services when sourcing a nonresident partner's income
• 20 NYCRR 132.15 - apportionment and allocation of a nonresident's business income using partnership books, or the property/payroll/gross income percentages
• 20 NYCRR 132.24 - allows an alternative apportionment method if approved by the Department
• Treas. Reg. § 1.707-1(c) - guaranteed payments are treated as a partner's distributive share of ordinary income
• Matter of Jablin v. State Tax Comm., 65 AD2d 891 - a guaranteed payment was treated as distributive partnership income sourced using the partnership's allocation figures

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/income_ao_2006.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/income/a06_9i.pdf

Original ruling text

New York State Department of Taxation and Finance

TSB-A-06(9)I
Income Tax
November 30, 2006

Office of Tax Policy Analysis
Technical Services Division
STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. I060621A

On June 21, 2006, a Petition for Advisory Opinion was received from Michael Sastre,
602 N.E. 59th Street, Miami, Florida 33137-2324.
The issue raised by Petitioner, Michael Sastre, is how to determine New York source
income for guaranteed payments received by a nonresident partner.
Petitioner submits the following facts as the basis for this Advisory Opinion.
Petitioner is a non-equity partner of a law partnership and received guaranteed payments
for services rendered. The partnership has offices located both in and outside of New York
State. The partnership maintained records of revenue and expenses for the business conducted in
each state. Petitioner’s 2005 federal Schedule K-1 (Form 1065) listed guaranteed payments of
$161,127, of which $89,458 was reported to Petitioner as received from New York sources.
Petitioner worked exclusively out of the partnership’s Florida office. At least 95% of the work
performed by Petitioner was for clients whose offices were located outside of New York State.
Petitioner does not share in the profits, losses, or capital of the partnership.
Applicable law and regulations
Section 601(e) of the Tax Law imposes a personal income tax on nonresidents of
New York State who have New York source income and provides, in part:
Nonresidents and part-year residents. (1) General. There is hereby imposed for
each taxable year on the taxable income which is derived from sources in this state of
every nonresident . . . individual . . . a tax which shall be equal to the tax base multiplied
by the New York source fraction.
(2) Tax base. The tax base is the tax computed under subsections (a) through (d)
of this section, as the case may be, reduced by the credits permitted under subsections (b),
(c), (d) and (m) of section six hundred six, as if such nonresident . . .individual . . . were a
resident subject to the provisions of part II of this article.
(3) New York source fraction. The New York source fraction is a fraction the
numerator of which is such individual's . . . New York source income determined in
accordance with part III of this article and the denominator of which is such individual's
New York adjusted gross income determined in accordance with part II of this article. . . .
Section 607(a) of the Tax Law provides:

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General. Any term used in this article shall have the same meaning as when used
in a comparable context in the laws of the United States relating to federal income taxes,
unless a different meaning is clearly required but such meaning shall be subject to the
exceptions or modifications prescribed in this article or by statute. Any reference in this
article to the laws of the United States shall mean the provisions of the internal revenue
code of nineteen hundred eighty-six (unless a reference to the internal revenue code of
nineteen hundred fifty- four is clearly intended), and amendments thereto, and other
provisions of the laws of the United States relating to federal income taxes, as the same
may be or become effective at any time or from time to time for the taxable year.
Section 631(a) of the Tax Law provides, in part:
General. The New York source income of a nonresident individual shall be the
sum of the following: (1) The net amount of items of income, gain, loss and deduction
entering into his federal adjusted gross income, as defined in the laws of the United States
for the taxable year, derived from or connected with New York sources, including: (A)
his distributive share of partnership income, gain, loss and deduction, determined under
section six hundred thirty-two, and . . . .
Section 632 of the Tax Law provides, in part:
(a) Portion derived from New York sources.
(1) In determining New York source income of a nonresident partner of any
partnership, there shall be included only the portion derived from or connected with
New York sources of such partner’s distributive share of items of partnership income,
gain, loss and deduction entering into his federal adjusted gross income, as such portion
shall be determined under regulations of the [Commissioner of Taxation and Finance]
consistent with the applicable rules of section six hundred thirty-one.
*

*

*

(b) Special rules as to New York sources. In determining the sources of a
nonresident partner’s income, no effect shall be given to a provision in the partnership
agreement which
(1) characterizes payments to the partner as being for services or for the use of
capital, or . . . .
Section 132.15 of the New York State Personal Income Tax Regulations (Regulations)
provides, in part:

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(a) If a nonresident individual, or a partnership of which a nonresident individual
is a member, carries on a business, trade, profession or occupation both within and
without New York State, the items of income, gain, loss and deduction attributable to
such business, trade, profession or occupation must be apportioned and allocated to
New York State on a fair and equitable basis in accordance with approved methods of
accounting.
(b) If the books of the business are so kept as regularly to disclose, to the
satisfaction of the [Commissioner of Taxation and Finance], the proportion of the net
amount of the items of income, gain, loss and deduction derived from or connected with
New York State sources, the New York State nonresident personal income tax return of
the taxpayer must disclose the total amount of such items, the net amount of such items
allocated to New York State, and the basis upon which such allocation is made.
(c) If the books and records of the business do not disclose, to the satisfaction of
the [Commissioner of Taxation and Finance], the proportion of the net amount of the
items of income, gain, loss and deduction attributable to the activities of the business
carried on in New York State, such proportion will, except as provided in section 132.16
of this Part and section 112.7(b) of this Title, be determined by multiplying (1) the net
amount of the items of income, gain, loss and deduction of the business by (2) the
average of the percentages described in subdivisions (d) through (f) of this section.
(d) Property percentage. (1) General. The property percentage is computed by
dividing (i) the average of the values, at the beginning and end of the taxable year, of real
and tangible personal property connected with the business and located within New York
State, by (ii) the average of the values, at the beginning and end of the taxable year, of all
real and tangible personal property connected with the business and located both within
and without New York State. . . .
*

*

*

(e) Payroll percentage. The payroll percentage is computed by dividing (1) the
total wages, salaries and other personal service compensation paid or incurred during the
taxable year to employees, in connection with business carried on within New York
State, by (2) the total of all wages, salaries and other personal service compensation paid
or incurred during the taxable year to employees in connection with the business carried
on both within and without New York State.
(f) Gross income percentage. The gross income percentage is computed by
dividing (1) the gross sales or charges for services performed by or through an office,
branch or agency of the business located within New York State, by (2) the total of all
gross sales or charges for services performed within and without New York State. The
sales or charges to be allocated to New York State include all sales negotiated or

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consummated, and charges for services performed, by an employee, agent, agency or
independent contractor chiefly situated at, connected by contract or otherwise with, or
sent out from, offices, branches of the business, or other agencies, situated within
New York State.
Section 132.24 of the Regulations, provides:
Sections 132.15 through 132.23 of this Part are designed to apportion and allocate
to New York State, in a fair and equitable manner, a nonresident's items of income, gain,
loss and deduction attributable to a business, trade, profession or occupation carried on
partly within and partly without New York State. Where the methods provided under
those sections do not so allocate and apportion those items, the department may require a
taxpayer to apportion and allocate those items under such method as it prescribes, as long
as the prescribed method results in a fair and equitable apportionment and allocation. A
nonresident individual may submit an alternative method of apportionment and allocation
with respect to items of income, gain, loss and deduction attributable to a business, trade,
profession or occupation carried on partly within and partly without New York State.
The proposed method must be fully explained in the taxpayer's New York State
nonresident personal income tax return. If the method proposed by the taxpayer is
approved by the department, it may be used in lieu of the applicable method under
sections 132.15 through 132.22 of this Part.
Section 1.707-1(c) of the Treasury Regulations provides, in part:
Guaranteed payments. Payments made by a partnership to a partner for services or
for the use of capital are considered as made to a person who is not a partner, to the
extent such payments are determined without regard to the income of the partnership.
However, a partner must include such payments as ordinary income for his taxable year
within or with which ends the partnership taxable year in which the partnership deducted
such payments as paid or accrued under its method of accounting. See section 706(a) and
paragraph (a) of §1.706-1. Guaranteed payments are considered as made to one who is
not a member of the partnership only for the purposes of section 61(a) (relating to gross
income) and section 162(a) (relating to trade or business expenses). For a guaranteed
payment to be a partnership deduction, it must meet the same tests under section 162(a)
as it would if the payment had been made to a person who is not a member of the
partnership, and the rules of section 263 (relating to capital expenditures) must be taken
into account. This rule does not affect the deductibility to the partnership of a payment
described in section 736(a)(2) to a retiring partner or to a deceased partner's successor in
interest. Guaranteed payments do not constitute an interest in partnership profits for
purposes of sections 706(b)(3), 707(b), and 708(b). For the purposes of other provisions
of the internal revenue laws, guaranteed payments are regarded as a partner's distributive
share of ordinary income. . . .

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Opinion
Guaranteed payments are regarded as a partner's distributive share of ordinary income for
federal income tax purposes. See section 1.707-1(c) of the Treasury Regulations.
Section 607(a) of the Tax Law provides that any term found in the personal income tax
provisions of the Tax Law shall have the same meaning as the term has for federal income tax
purposes unless a different meaning is clearly required.
Section 601(e) of the Tax Law imposes a personal income tax on the taxable income
derived from New York sources of a nonresident individual. The tax is equal to the tax
computed as if the nonresident individual were a New York State resident for the entire year,
reduced by certain credits, and then multiplied by the income percentage (i.e., New York source
fraction). The numerator of the fraction used to compute the income percentage is the
nonresident individual’s New York source income; the denominator of the fraction is the
nonresident individual’s New York adjusted gross income from all sources for the entire year.
The New York source income of a nonresident individual is determined under section 631 of the
Tax Law and includes the distributive share of partnership income, gain, loss, and deduction
determined under section 632 of the Tax Law.
Pursuant to section 632(a)(1) of the Tax Law, the New York source income of a
nonresident partner includes the partner’s distributive share of all items of partnership income,
gain, loss, and deduction entering into such partner’s federal adjusted gross income to the extent
such items are derived from or connected with New York sources. The New York source of
partnership income is determined by the partnership at the partnership level and, therefore, is
determined by the business activity of the partnership both within and without New York.
Where a partnership carries on a business, trade, profession, or occupation both within and
without New York State and maintains books and records from which the New York income of
the business can be determined, a nonresident partner's distributive share of partnership items
derived from New York sources will be determined from the partnership’s books of account.
Where the partnership does not maintain books and records from which New York income can
be determined, a nonresident partner's distributive share of partnership items derived from New
York sources will be determined from the partnership’s business allocation percentage or an
authorized alternative method. The business allocation percentage consists of three percentages:
property, payroll, and gross income. See sections 132.15(d), (e), and (f) and 132.24 of the
Regulations.
Section 632(b)(1) of the Tax Law provides that in determining the source of a
nonresident partner’s income, no effect shall be given to a provision in the partnership agreement
that characterizes payments to a partner as being for services.
In the Matter of Jablin v State Tax Comm., 65 AD2d 891, the payment received by the
taxpayer was in the nature of a guaranteed payment from the partnership. It was decided by the

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court that the income constituted a distributive share of partnership income to a partner and was
sourced to New York using the same allocation figures used by the partnership.
As a non-equity partner, Petitioner received guaranteed payments for services rendered
for the partnership. Petitioner received a Schedule K-1 from the partnership indicating
guaranteed payments. Partnerships use Schedule K-1 for federal income tax purposes to report a
partner’s share of the partnership’s income, deductions, credits, etc. Therefore, based on the
statutory provisions and case law discussed above, the guaranteed payments received by
Petitioner in the present case constitute a distributive share of partnership income and, for State
income tax purposes, are sourced to New York pursuant to section 632(b)(1) of the Tax Law and
section 132.15 of the Regulations. In this case, it appears that the partnership maintained records
of revenue and expenses for the business activities conducted within and without New York.
Accordingly, provided that the partnership records allocate items of income, gain, loss, and
deduction to New York on a fair and equitable basis in accordance with approved methods of
accounting, Petitioner must include in his New York source income the amount of guaranteed
payments reported by the partnership as New York source income.

DATED: November 30, 2006

NOTE:

/s/
Jonathan Pessen
Tax Regulations Specialist IV
Technical Services Division

The opinions expressed in Advisory Opinions are
limited to the facts set forth therein.