How are a natural-gas limited partnership and its corporate general and limited partners taxed under sections 186, 186-a, and Article 9-A?

Plain-English summary

El Paso Energy Marketing Company, a foreign corporation that buys and sells natural gas, proposed to move its New York gas business into a wholly owned subsidiary (Newco) and then form a limited partnership -- with El Paso (or an affiliate) as the 1% general partner managing the business and Newco as the 99% limited partner. It asked how the partnership and its partners are taxed.

The partnership (Issue 1). Partnerships are generally not subject to Article 9-A or section 186. But section 186-a taxes a "person," which includes a partnership (Partners of Buffalo Telephone). Because the partnership will sell natural gas for consumption in New York and is not PSC-supervised, it is a second-class utility subject to section 186-a on its gross operating income.

The limited partner, Newco (Issue 2). A corporate limited partner that holds more than a 1% interest is treated as participating in the partnership's business (20 NYCRR 1-3.2(a)(6)), so Newco is doing business and subject to Article 9-A -- unless it is taxable under section 186. If Newco is a mere passive investor not involved in day-to-day management, it is not subject to section 186 (GTE Spacenet); if it does participate, it could be subject to section 186 (Partners of Buffalo Telephone). Which one applies is a question of fact.

The general partner, El Paso (Issue 3). El Paso will manage the partnership and (it is assumed) derive more than 50% of its receipts from the gas business, so it remains principally engaged in supplying gas and is subject to section 186. It is also subject to section 186-a on its gross operating income -- but it is not taxed on its share of partnership gas receipts on which the partnership already paid section 186-a.

What this means for you

A gas partnership can owe section 186-a even though it escapes section 186

Section 186-a reaches "persons," including partnerships, so an unregulated gas-selling partnership is a second-class utility taxed on gross operating income.

A limited partner's tax depends on participation

Holding more than 1% makes a corporate limited partner subject to Article 9-A; whether it also falls under section 186 turns on whether it actively participates or is a passive investor.

No double section 186-a on the same receipts

The general partner is not taxed under section 186-a on partnership gas receipts the partnership has already paid section 186-a on.

Common questions

Q: Is the partnership a taxable utility?
A: Yes for section 186-a (as a second-class utility on gross operating income), though not for Article 9-A or section 186.

Q: When is a corporate limited partner subject to section 186?
A: Only if it participates in day-to-day management; a mere passive investor is not, under GTE Spacenet.

Q: Is the general partner double-taxed on partnership receipts?
A: No. It is not taxed under section 186-a on receipts the partnership already paid section 186-a on.

Citations and references

Statutes, regulations, and authorities:
- Tax Law section 186 (franchise tax on gas and electric utilities)
- Tax Law section 186-a (tax on gross income or gross operating income of utilities)
- Tax Law section 186-a.2(b) (person includes a partnership)
- Tax Law section 209.1 (Article 9-A franchise tax)
- 20 NYCRR 1-3.2(a)(5) (corporate general partner of a partnership doing business is taxable)
- 20 NYCRR 1-3.2(a)(6) (corporate limited partner participating in the partnership is taxable)
- Partners of Buffalo Telephone Company, Adv Op Comm T & F
- GTE Spacenet, Adv Op Comm T & F
- El Paso Energy Marketing Company, TSB-A-98(8)C (June 15, 1998)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/corporation_ao_1998.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/corporation/a98_8c.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-98(8)C
Corporation Tax

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. C980220A

On February 20, 1998, a Petition for Advisory Opinion was received from El
Paso Energy Marketing Company, c/o Christopher L. Doyle, Hodgson Russ Andrews
Woods & Goodyear LLP, 1800 One M&T Plaza, Buffalo, New York 14203.
The issues raised by Petitioner, El Paso Energy Marketing Company, are:
1. Whether a limited partnership whose principal business activity in New
York is the sale of natural gas will be subject to franchise taxes in addition
to the gross receipts tax imposed under section 186-a of the Tax Law.
2. Whether a limited partner having a 99 percent interest in the limited
partnership will be subject to franchise tax under Article 9-A of the Tax Law
based on its status as a passive investor in the limited partnership.
3. Whether a general partner having a one percent interest in the limited
partnership will be subject to the gross earnings tax imposed under section 186
of the Tax Law based on its day to day activities of operating the limited
partnership and on the management responsibility assigned to it as the result of
New York's Partnership Law.
Petitioner submits the following facts as the basis for this Advisory
Opinion.
Petitioner is a foreign corporation that is currently principally engaged
in the purchase and sale of natural gas in North America. Petitioner's principal
business activity in New York State is also the sale of natural gas. Petitioner
proposes to transfer all of the assets related to its New York business
activities (including gas sales agreements, gas purchase agreements, customer
lists, accounts receivable, etc.) to a newly formed wholly-owned subsidiary
("Newco"). Newco and Petitioner will immediately thereafter establish a limited
partnership, El Paso Energy Marketing Limited Partnership ("Partnership") to
engage in the New York business activities. Newco will be Partnership's sole
limited partner, and will receive a 99 percent limited partnership interest in
exchange for contributing all of its assets to Partnership. Petitioner will be
Partnership's sole general partner, and will receive its one percent interest in
exchange for cash or other valuable property that it will contribute to
Partnership.
Subsequent to the restructuring, Partnership will engage in the purchase
and sale of natural gas in New York, but will not be subject to the
administrative oversight of the Public Service Commission with respect to the
prices it charges for sales of natural gas to New York consumers. Some of the
gas sold to New York purchasers will be consumed by such purchasers in New York.
Partnership may engage in this activity through its own employees; however, it
is more likely that it will contract with Petitioner to perform all the
activities necessary to further its business objectives. In this latter case,
Partnership will pay Petitioner a negotiated service fee.

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As a general partner, Petitioner will be solely responsible for
Partnership's management. Newco, however, will not have any management authority
with respect to Partnership, and will hold its 99 percent interest in Partnership
solely for investment purposes. Newco will not have any contact with New York
State other than its ownership of a limited partnership interest in Partnership.
For purposes of this advisory opinion it is assumed that Petitioner's pro
rata share of gross receipts from Partnership's sales of natural gas will
constitute more than 50 percent of Petitioner's receipts from all New York
activities.
Partnership will not be treated as an association taxable as a corporation
under the Internal Revenue Code. Interests in Partnership will not be publicly­
traded.
Applicable Law, Regulations and Case History
Section 209.1 of Article 9-A of the Tax Law imposes an annual franchise tax
on domestic or foreign corporations for the privilege of exercising a corporate
franchise, doing business, employing capital, owning or leasing property in a
corporate or organized capacity, or maintaining an office in New York State.
Section 209.4 of the Tax Law, provides that a corporation liable for tax under
sections 183 through 186 of Article 9 of the Tax Law is not subject to tax under
Article 9-A of the Tax Law.
Section 1-3.2(a)(6)(i) of the of the Business Corporation Franchise Tax
Regulations (the "Article 9-A Regulations") provides that:
[a] foreign corporation is doing business, employing capital, owning
or leasing property or maintaining an office in New York State if it
is a limited partner of a partnership, other than a portfolio
investment partnership, which is doing business, employing capital,
owning or leasing property or maintaining an office in New York
State and if it is engaged, directly or indirectly, in the
participation in or the domination or control of all or any portion
of the business activities or affairs of the partnership. A foreign
corporation is engaged in such manner in the business activities or
affairs of the partnership if one or more of certain factual
situations, including but not limited to the following, exist during
the taxable year ...
(a) The foreign corporation has a one percent or more interest as a
limited partner in a partnership ...
Section 186 of Article 9 of the Tax Law imposes a franchise tax on a
corporation, joint stock company or association "formed for or principally
engaged in the business of supplying ... gas, when delivered through mains or
pipes ...." The tax is imposed for the privilege of exercising its corporate
franchise or carrying on its business in a corporate or organized capacity in New
York State and is based, in part, upon gross earnings from all sources within New
York State.

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For purposes of section 186, where a partnership is in the business of
supplying gas in New York, a corporate general partner is, generally, also
engaged in the business of supplying gas in New York. In interpreting section
209.1 of the Tax Law, section 1-3.2(a)(5) of the Article 9-A Regulations sets
forth a general rule which holds that if a partnership is exercising any of the
privileges of section 209.1, then all of its corporate general partners are
subject to the tax imposed by Article 9-A. The same interpretation was made for
purposes of Article 9 of the Tax Law in The Partners of Buffalo Telephone
Company, Adv Op Comm T & F, February 22, 1989, TSB-A-89(3)C.
The Advisory
Opinion held that where a partnership is engaged in a telephone business in New
York State, each corporate partner is also engaged in a telephone business in New
York State, and each corporate general partner of the partnership that is
principally engaged in such telephone business is subject to tax under sections
183 and 184 of Article 9.
In GTE Spacenet Corp. v NYS Dept of Taxation and Finance, 224 AD2d 283, the
Court held that while the partnership was arguably engaged in activities
enumerated in sections 183, 183-a, 184 and 184-a of the Tax Law, the evidence
demonstrated that the partners were engaged in the investment business and were
not engaged in the conduct of any of the businesses enumerated in sections 183,
183-a, 184 and 184-a of the Tax Law because the partners were mere passive
investors and did not participate in the day-to-day management or operations of
the partnership. Therefore, the partners were subject to tax under Article 9-A
and were not subject to the franchise taxes imposed pursuant to sections 183,
183-a, 184 and 184-a of the Tax Law.
For purposes of both Article 9-A and section 186 of Article 9 of the Tax
Law, the term "corporation" includes an association within the meaning of section
7701(a)(3) of the Internal Revenue Code.
To determine the classification and proper taxability of a corporation
under either Article 9 or Article 9-A, an examination of the nature of the
corporation’s activities is necessary, regardless of the purpose for which the
corporation was organized. See Matter of McAllister Bros., Inc. v Bates, 272 App
Div 511, 517 (3rd Dept. 1947).
Ordinarily, a corporation is deemed to be
principally engaged in the activity from which more than 50 percent of its
receipts are derived. See, e.g., Joseph Bucciero Contracting Inc., Adv Op St Tax
Commn, July 23, 1981, TSB-A-81(5)C.
Section 186-a of the Tax Law imposes a tax on the furnishing of utility
services.
The tax is imposed on a utility which is not subject to the
supervision of the New York State Department of Public Service, if it "sells gas
... delivered through mains [or] pipes ... or furnishes gas ... service, by means
of mains [or] pipes ... regardless of whether such activities are the main
business of such person or are only incidental thereto...." The tax is equal to
three and one-half percent of the gross operating income of such a utility doing
business in New York State which has annual gross operating income in excess of
$500. The tax imposed under section 186-a of the Tax Law is imposed in addition
to any and all other taxes and fees imposed by any other provision of law for the
same period.

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For purposes of section 186-a of the Tax Law, the word "utility" includes
a person and the word "person" includes, among others, a person and a co­
partnership.
Thus, section 186-a imposes a tax upon incorporated and
unincorporated entities alike, including a partnership (see, Partners of Buffalo
Telephone Company, supra.)
Conclusions
Issue 1: Generally, partnerships are not subject to the franchise tax imposed
under Article 9-A of the Tax Law or under section 186 of Article 9 of the Tax
Law. However, under section 186-a of Article 9 of the Tax Law, a partnership,
including a limited partnership, is a person that may be a taxable utility.
Accordingly, in this case, Partnership will not be subject to tax under Article
9-A or section 186 of Article 9 of the Tax Law. For purposes of section 186-a
of Article 9, Partnership will be a utility of the "second class" because
Petitioner states that Partnership will not be subject to the supervision of the
Public Service Commission, but will be engaged in the purchase and sale of
natural gas in New York where some of the gas sold in New York will be consumed
by purchasers in New York. Therefore, Partnership will be subject to the tax
imposed under section 186-a of Article 9 on its "gross operating income".
Issue 2: In this case, Newco will be a limited partner in Partnership which is
doing business, employing capital, owning or leasing property or maintaining an
office in New York State. Pursuant to the section 1-3.2(a)(6) of the Article 9-A
Regulations, Newco will be engaged, directly or indirectly, in the participation
in or the domination or control of all or any portion of the business activities
or affairs of the partnership because Newco will have more than a one percent
interest in Partnership. Accordingly, Newco will be doing business, employing
capital, owning or leasing property or maintaining an office in New York State
and will be subject to tax under Article 9-A unless it is subject to tax under
section 186 of Article 9. If Newco is a mere passive investor and does not
participate in the day-to-day management or operations of Partnership, then,
pursuant to GTE Spacenet, supra, Newco will not be subject to tax under section
186 of Article 9 of the Tax Law.
However, if Newco is not a mere passive
investor or if it participates in the day-to-day management or operations of
Partnership, Newco will not come within the scope of GTE Spacenet, supra, and
following Partners of Buffalo Telephone, supra, Newco will be considered to be
engaged in the business of Partnership and will be subject to tax under section
186 of the Tax Law.
The determination of whether Newco is a mere passive
investor and whether it participates in the day-to-day management or operations
of Partnership is a question of fact that is not susceptible of determination
within the context of an advisory opinion. An advisory opinion merely sets forth
the applicability of pertinent statutory and regulatory provisions to "a
specified set of facts." Tax Law, §171.Twenty-fourth; 20 NYCRR 2376.1(a).
Issue 3: Petitioner states that it will be solely responsible for Partnership's
management and will perform the day to day activities of operating Partnership,
and, it is assumed, Petitioner's pro rata share of gross receipts from
Partnership's sales of natural gas will constitute more than 50 percent of
Petitioner's gross receipts.
Accordingly, pursuant to Partners of Buffalo
Telephone, supra, Petitioner will continue to be principally engaged in the
business of supplying gas and will continue to be subject to tax under section

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186 of the Tax Law. Petitioner is also subject to tax under section 186-a of
Article 9 of the Tax Law on its gross operating income. Note that, under section
186-a, Petitioner is not subject to tax on its pro rata share of gross receipts
from Partnership's sales of natural gas for which the partnership has already
paid the tax imposed under section 186-a.

DATED: June 15, 1998

NOTE:

/s/
John W. Bartlett
Deputy Director
Technical Services Bureau

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