How does a corporation that is the general partner of a Texas limited partnership apportion its franchise tax, and are its out-of-state affiliated limited partners subject to the tax?

Plain-English summary

An Ohio-based manufacturer (the "Taxpayer") that made and sold tangible personal property had nexus in Texas through equipment ownership and employee activity beyond mere solicitation. Its supply chain ran through affiliates: the Taxpayer sold inventory to a New Mexico LLC, which resold it to a Texas limited partnership (LP), which sold to customers. The LLC and an affiliate were limited partners in the LP; the Taxpayer was the general partner. The LLC and affiliate had no Texas nexus. The Taxpayer asked the Comptroller to confirm several franchise-tax conclusions.

The Comptroller agreed with each:

1. Out-of-state limited partners are not taxed. Neither the LLC nor the affiliate is subject to Texas franchise tax on either component, presuming each conducts its activities outside Texas.
2. The general partner's apportionment is correct — with a method caveat. Using the LP's net income sourced to the LP's principal place of business for the taxable capital base, and the Taxpayer's share of the LP's gross receipts for the earned surplus base, is correct — unless the Taxpayer is eligible for the gross method under Rule 3.549(e)(29). If eligible, it may use either the net method or the gross method (reporting its share of partnership gross receipts as if it received each receipt item directly). A corporate partner cannot change its method more often than once every four years (Tex. Tax Code § 171.112(e)).
3. Sales delivered out of state are not Texas receipts. Sales of TPP from the Taxpayer to the LLC that transfer (are delivered) in New Mexico are not sourced to Texas in the receipts-factor numerator.
4. But they count in the denominator. Those same sales are still included in the Taxpayer's denominator for apportioning its Texas franchise tax base.

Important currency note: This 1999 letter reflects the franchise tax before the 2008 overhaul into the current margin tax; STAR's subject line flags that the partnership entities involved became taxable effective January 1, 2008. Treat the entity-level "limited partners not taxed / partnership not taxed" conclusions as historical and confirm current law.

What this means for you

Multistate manufacturers using partnership distribution

The sourcing mechanics are the useful part: goods delivered outside Texas are not Texas receipts, but they still sit in your everywhere denominator — so restructuring delivery can move the numerator without shrinking the denominator. The pass-through of a partnership's receipts to a corporate partner, and the once-every-four-years method lock, are also worth noting, though the margin tax reworked partnership treatment.

Corporate general partners

Being the general partner pulls the corporation's share of the partnership's receipts into its own apportionment. Understand whether you qualify for the net or gross method (Rule 3.549(e)(29)) before you choose — you are locked in for four years.

Accountants and tax professionals

The out-of-state limited partners escaped tax only because they did nothing in Texas; that conclusion is entity-level and pre-2008. Re-verify under the margin tax, where partnerships are taxable entities and combined reporting exists.

Common questions

Q: Were the out-of-state limited partners subject to Texas franchise tax?
A: No — the Comptroller agreed they were not, presuming each entity's activities were conducted outside Texas.

Q: How did the corporate general partner apportion the partnership's income?
A: Net income of the LP (sourced to the LP's principal place of business) for taxable capital, and its share of the LP's gross receipts for earned surplus — unless eligible for the gross method under Rule 3.549(e)(29), with any method change limited to once every four years (§ 171.112(e)).

Q: Were sales delivered in New Mexico Texas receipts?
A: No. They were not sourced to Texas in the receipts-factor numerator, but they were still included in the Taxpayer's denominator.

Citations and references

Statutes and rules:

• Tex. Tax Code § 171.112(e) (corporate partner's share of partnership gross receipts; four-year method-change limit)
• Franchise Tax Rule 3.549(e)(29) (net vs. gross method for a corporate partner)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=FIT
• Opinion: https://star.comptroller.texas.gov/view/9904709L

Original ruling text

April 22, 1999

Dear **:

In your letter of March 29, you requested a determination regarding the
franchise tax treatment of various transactions among a group of affiliated
entities.

You indicate that your client (Taxpayer) is an Ohio-based corporation which
manufactures and distributes tangible personal property (TPP). Taxpayer
operates manufacturing and processing plants exclusively in Ohio and New
Mexico. Taxpayer has nexus in Texas because of the ownership of certain
equipment and employee activities exceeding solicitation.

Taxpayer sells and delivers inventory to a limited liability company (LLC) in
New Mexico. The LLC subsequently sells the inventory to a Texas limited
partnership (LP). The inventory is delivered to the LP in Texas by common
carrier. The LP then sells the product to its customers.

The LLC and an affiliated entity of Taxpayer are limited partners in the LP.
Taxpayer is the general partner in the LP. The LLC and the affiliated entity
do not have nexus in Texas.

I have restated each of your ruling requests followed by a response.

1. Neither the LLC nor the affiliated entity are subject to the Texas
   corporate franchise tax on either the taxable capital or earned surplus
   component.

Response

Correct, presuming that each entity's activities are conducted outside Texas.

2. The apportionment factors for the Taxpayer include the net income of the LP
   sourced to the LP's principal place of business for the taxable capital base
   and the Taxpayer's share of the LP's gross receipts for the earned surplus
   base.

Response

Correct, presuming that Taxpayer is not eligible to use the gross method as
described in Rule 3.549(e)(29). If Taxpayer is eligible to use the gross
method for taxable capital purposes, Taxpayer may use either the net method
which is described in your ruling request or the gross method. If Taxpayer is
eligible and selects the gross method, Taxpayer should report its share of the
partnership gross receipts as gross receipts and apportion these receipts as
though Taxpayer directly received its share of each partnership receipt item.
Of course, Taxpayer could not change the method used to calculate its share of
the partnership gross receipts more often than once every four years, pursuant
to Section 171.112(e), Texas Tax Code.

3. Sales of TPP from Taxpayer to the LLC which transfer in New Mexico should
   not be sourced to Texas for purposes of computing Taxpayer's receipts factor.

Response

The sales of TPP would not be Texas receipts if the goods are delivered to the
LLC in New Mexico.

4. Sales from Taxpayer to the LLC are included in Taxpayer's denominator for
   purposes of apportioning Taxpayer's Texas corporate franchise tax base.

Response

Correct.

This response is based on the facts presented and current law. If there are
different or additional facts, the response may change.

If you have any questions about this, please call Bob Jeffcoat in the franchise
tax policy section at 1-800-531-5441, extension 3-4662.

Sincerely,

Karey W. Barton
Director of Tax Policy

cc: Bob Jeffcoat, Tax Policy