When two corporations form a Texas limited partnership, who owes Texas franchise tax — the partnership, the general partner, or the limited partner?

Plain-English summary

Two Delaware corporations — call them A and B — planned to form a Texas limited partnership, each contributing assets. A would be the general partner; B would be the sole limited partner. The partnership would "check the box" to be taxed as a corporation for federal income tax purposes, and after contributing its assets B would do nothing else in Texas. The taxpayer asked the Comptroller who would owe Texas franchise tax.

The Comptroller's answers turned on a simple pre-2008 rule: Texas franchise tax fell on corporations, not on partnerships, and a corporation was taxed if it was "doing business" in Texas — including by being a general partner in a partnership that does business here.

• The limited partnership itself: not taxable. Even though it elected to be treated as a corporation federally, Texas does not follow that election; a partnership is not subject to the franchise tax (§ 171.001).
• The general partner (A): taxable. A corporation is doing business in Texas — and therefore owes franchise tax — because of its general-partnership interest in a limited partnership doing business in Texas (Rules 3.546(c)(12)(B) and 3.554(d)(20)). Any of A's own Texas activities would independently subject it to the tax.
• The limited partner (B): generally not taxable. A foreign corporation whose only Texas connection is a limited-partner interest is not doing business in Texas. Once B conveys its assets and has no other Texas activity, holding the limited-partner interest does not create nexus.
• B's exit: B should file a final franchise tax report and pay the additional tax required under § 171.0011 when it is no longer subject to the earned-surplus component.

Important currency note: This 1999 letter reflects the franchise tax before the 2008 overhaul. The "partnerships aren't taxable" premise at the heart of it is exactly what changed: under the current margin-based franchise tax, partnerships (including limited partnerships) are generally taxable entities. STAR marks this document partially superseded on the taxation of partnerships. Treat the specific outcomes as historical and confirm current law before relying on them.

What this means for you

Businesses using partnership structures

The old planning move — dropping assets into a limited partnership so the entity and the passive corporate limited partner escaped Texas franchise tax — no longer works the way this letter describes. Since 2008, limited partnerships are generally taxable entities in their own right. If you are looking at a historical structure built on this reasoning, have it re-checked against the current margin tax.

The general-partner trap (still relevant in spirit)

The core nexus idea has staying power: acting as a general partner of a partnership doing business in Texas can pull a corporation into Texas tax even if it does nothing else here. When you place a corporation as a general partner, assume it carries the partnership's Texas footprint.

Accountants and tax professionals

Note the mechanics that changed versus those that endured. Changed: the entity-level treatment of partnerships. Endured (in concept): general-partner nexus and the need for a departing entity to file a final report and square up. Always confirm the current filing and "final report" rules, which the margin tax reworked.

Common questions

Q: If a partnership elects to be taxed as a corporation federally, is it a corporation for Texas franchise tax?
A: Under this pre-2008 letter, no — Texas did not follow the federal "check-the-box" election, and the limited partnership was not subject to franchise tax. That premise changed in 2008, when partnerships became generally taxable entities.

Q: Does a corporation owe Texas tax just for being a general partner?
A: Yes. The Comptroller treated a corporation as doing business in Texas — and thus owing franchise tax — because of its general-partnership interest in a limited partnership doing business here.

Q: Is a corporate limited partner taxed?
A: Not on the limited-partner interest alone. A foreign corporation whose only Texas connection is a limited-partner interest is not doing business in Texas; once it has no other Texas activity, that interest does not create nexus.

Q: Can I rely on this ruling?
A: No. STAR letters bind the Comptroller only for the taxpayer they were issued to, and this one predates the 2008 restructuring that made partnerships taxable. Get current advice for your facts.

Citations and references

Statutes and rules:

• Tex. Tax Code § 171.001 (franchise tax imposed on corporations)
• Tex. Tax Code § 171.0011 (additional tax when a corporation stops doing business)
• Franchise Tax Rule 3.546(c)(12)(B) (corporate partner nexus)
• Franchise Tax Rule 3.554(d)(20) (corporate partner nexus)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=FIT
• Opinion: https://star.comptroller.texas.gov/view/9911323L

Original ruling text

STAR SUPERSED INFORMATION
Accession No. —
Supersede type - Partial
Document superseded on - 12/10/14
Issue(s) that caused the document to be superseded — Taxation of partnerships
Reason(s): The Franchise Tax Code was amended by House Bill 3 and House Bill 3928,
Acts 2007, 80th Legislative Session, effective January 1, 2008 and affected Franchise
tax reports due on or after January 1, 2008. One of the many changes to this Tax Code
subjected partnerships (previously not required to file) to the franchise tax reporting
requirement.

November 2, 1999

Dear **:

Thank you for the information contained in your letter of October 29, 1999
concerning two Delaware corporations that form a limited partnership. This
response represents the Texas franchise tax implications of the situation
described in the ruling request.

You have provided us with the following facts about the entities:

1. The two Delaware corporations, A and B, form a limited partnership, with
   each corporation contributing assets to the limited partnership. A is the
   general partner and B is the sole limited partner.

2. The limited partnership checks the box to be treated as a corporation for
   federal income tax purposes.

3. A, B, and the limited partnership all engage in one or more activities that
   constitute doing business under the franchise tax nexus rules for taxable
   capital and earned surplus.

4. After B conveys assets to the limited partnership, it will not engage in
   any other business in Texas.

Based on the above facts, the following results:

1. The limited partnership will not be subject to the Texas franchise tax
   pursuant to Sec. 171.001 of the Texas Tax Code.

2. A will be liable for the franchise tax because of its general partnership
   interest in the limited partnership which is doing business in Texas.
   Franchise Tax Rules 3.546(c)(12)(B) and 3.554(d)(20). Also, any other "doing
   business" activities in Texas conducted by A will subject A to the tax.

3. B will be subject to the franchise tax as long as it has business
   activities in Texas. After it conveys assets to the limited partnership, it
   will not be subject to the franchise tax provided it is not doing business in
   Texas. A foreign corporation which is a limited partner in a limited
   partnership is not doing business in Texas. Rules 3.546(c)(12)(B) and
   3.554(d)(20).

4. B should file a final franchise tax report and pay the additional tax
   required under Sec. 171.0011 of the Tax Code when it is no longer subject to
   the earned surplus component of the tax. As noted above, B's ownership of the
   limited partnership interest will not create nexus for B for franchise tax
   purposes.

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

If you have any questions, please give me a call at 463-4496.

Sincerely,

Jerry Bobbitt
Tax Policy Division