Yes. A partnership can be publicly traded on major stock exchanges like the New York Stock Exchange or NASDAQ. These entities, called Publicly Traded Partnerships (PTPs) or Master Limited Partnerships (MLPs), combine the tax benefits of a traditional partnership with the liquidity of publicly traded securities.
The challenge arises from Internal Revenue Code Section 7704, enacted through the Revenue Act of 1987. This federal tax law treats publicly traded partnerships as corporations for tax purposes unless the partnership meets a strict requirement: at least 90 percent of its gross income must come from “qualifying” sources each year. If a partnership fails this 90 percent test, it loses its pass-through tax treatment and faces corporate-level taxation, creating double taxation where income gets taxed once at the entity level and again when distributed to partners. This transforms what should be a tax-efficient investment into a tax burden that reduces returns for all investors.
According to the Energy Infrastructure Council, approximately 45 publicly traded partnerships currently exist in the United States, down from a peak of over 100 in the mid-2010s, with the majority concentrated in the energy infrastructure sector.
What You Will Learn:
📊 How publicly traded partnerships work — The exact legal structure, tax treatment, and operational requirements that distinguish PTPs from both traditional partnerships and corporations
⚖️ Federal and state legal requirements — The specific provisions of IRC Section 7704, Securities Act registration mandates, and state partnership laws that govern PTP formation and operation
💰 Tax implications for investors — Why you receive a Schedule K-1 instead of a Form 1099, how basis adjustments work, and the depreciation recapture rules that create ordinary income when you sell
🏢 Real-world examples and structures — How Enterprise Products Partners, MPLX, and other major PTPs organize their operations and why some firms like Blackstone converted from PTP to corporate structure
⚠️ Common mistakes and compliance traps — The critical errors that cause inadvertent loss of partnership status, state tax filing failures, and unexpected ordinary income on unit sales
Understanding the Legal Framework of Publicly Traded Partnerships
A publicly traded partnership exists when a partnership’s ownership interests trade on an established securities market or become readily tradable on a secondary market. The federal government defines this structure through IRC Section 7704(b), which states that a partnership qualifies as “publicly traded” if interests in the partnership are either (1) traded on an established securities market like the NYSE or NASDAQ, or (2) readily tradable on a secondary market or the substantial equivalent thereof. This definition captures not only traditional exchange-listed partnerships but also those whose units trade through alternative trading systems or broker-operated markets.
The classification as a publicly traded partnership triggers a default rule: the partnership receives treatment as a corporation for federal income tax purposes. This means the entity pays corporate income tax on its earnings before distributions reach investors, and then investors pay tax again on distributions they receive. This double taxation eliminates the primary advantage of choosing a partnership structure in the first place.
Congress recognized that certain partnerships should retain pass-through taxation despite public trading. The 90 percent qualifying income exception provides relief for partnerships that generate passive-type income or income from natural resources. The partnership must meet this 90 percent threshold for its first taxable year after 1987 in which it qualifies as a publicly traded partnership and for each succeeding taxable year.
The Historical Context: From Apache to Section 7704
The first master limited partnership emerged in 1981 when Apache Corporation created Apache Petroleum Company (APC). Apache consolidated its many drilling partnerships into this single publicly traded entity, providing investors with both the tax benefits of partnership status and the liquidity of publicly traded securities. The structure proved enormously successful, and other oil and gas companies quickly followed.
By the mid-1980s, the MLP structure spread beyond energy. Real estate companies formed publicly traded partnerships to acquire and manage properties. Restaurant chains, hotel operators, and even the Boston Celtics basketball team adopted the structure. The proliferation raised concerns in Congress and the Treasury Department about erosion of the corporate tax base as entities subject to double taxation converted to pass-through structures.
In 1987, Congress enacted Section 7704 as part of the Omnibus Budget Reconciliation Act. The legislative history reveals that lawmakers wanted to preserve partnership tax treatment for entities engaged in passive investment activities or natural resources development while preventing widespread “disincorporation of America.” The 90 percent qualifying income test became the mechanism to achieve this balance.
The law grandfathered existing publicly traded partnerships through a special election. Partnerships that existed and traded publicly before the law’s enactment could elect to pay a 3.5 percent excise tax on gross income from active business operations in exchange for retaining partnership tax status permanently. This grandfather provision continues to benefit a small number of older partnerships today.
What Qualifies as “Qualifying Income” Under Federal Law
The term “qualifying income” determines whether a publicly traded partnership avoids corporate taxation. Section 7704(d) defines qualifying income to include seven categories of passive and natural resource-related income.
First, interest income qualifies, including interest from bonds, notes, and other debt obligations. This allows PTPs to invest in fixed-income securities without jeopardizing their tax status. Second, dividend income from corporate stock counts as qualifying. However, dividends from another partnership generally do not qualify unless that partnership’s income also consists of qualifying income.
Third, real property rents constitute qualifying income. The partnership must receive rents from real property interests, not personal property. Rents from a hotel would not qualify because significant services accompany the rental, but rents from a triple-net lease on commercial real estate would qualify. Fourth, gains from the sale or disposition of real property count as qualifying income, allowing PTPs to engage in real estate investment activities.
Fifth, and most important for the majority of existing PTPs, income and gains derived from the exploration, development, mining, production, processing, refining, transportation, or marketing of any mineral or natural resource qualifies. This broad category encompasses oil and gas activities, pipeline operations, natural gas processing, and related midstream energy services. The regulations clarify that transportation includes pipelines that transport gas, oil, or products derived from oil and gas.
Sixth, income and gains from commodities or commodity futures, forwards, and options qualify, but only for commodities that relate to the partnership’s other qualifying activities. Seventh, gains from the sale of capital assets held to produce qualifying income count toward the 90 percent threshold.
The IRS issued final regulations in 2017 providing additional guidance on what activities generate qualifying income in the natural resources context. These regulations addressed questions about whether income from certain processing activities, such as providing chemicals to enhance natural resource extraction, constitutes qualifying income. The regulations generally take a narrow view, limiting qualifying income to activities intrinsic to the natural resource extraction and transportation process.
The Inadvertent Failure Relief Provision
Section 7704(e) provides a safety valve for partnerships that inadvertently fail the 90 percent qualifying income test. If the IRS determines that the failure was inadvertent, and the partnership takes steps within a reasonable time to meet the gross income requirements again, the partnership continues to receive treatment as meeting the test during the failure period.
This relief proved critical during the 2017 tax reform. The transition tax under Section 965 required U.S. shareholders of controlled foreign corporations to include accumulated foreign earnings in income. Some PTPs with foreign subsidiaries faced inadvertent failure of the 90 percent test solely because of this one-time mandatory inclusion. The IRS issued private letter rulings granting Section 7704(e) relief in these cases, concluding that failure due to the transition tax was inadvertent.
Partnerships requesting inadvertent failure relief must demonstrate several elements. The partnership must show that the failure resulted from circumstances beyond its control or from a reasonable but mistaken interpretation of the law. The partnership must take corrective action promptly after discovering the failure. Finally, the partnership and all unitholders must agree to make adjustments or pay amounts the IRS determines necessary.
Federal Securities Laws and Registration Requirements
A publicly traded partnership must comply with both federal tax law and federal securities law. The Securities Act of 1933 requires registration of securities offered to the public unless an exemption applies. When a partnership conducts an initial public offering of its units, it must file a registration statement on Form S-1 with the Securities and Exchange Commission.
Form S-1 requires extensive disclosure about the partnership’s business, properties, management, financial condition, and risks. The form includes two parts: Part I, called the prospectus, contains all information legally required for potential investors; Part II includes supplementary information not required in the prospectus. For partnerships, the form must be signed by a majority of the board of directors of any corporate general partner.
The SEC reviews the S-1 thoroughly, typically providing initial comment letters within 30 days of submission. The partnership must respond to comments and may file multiple amendments before the SEC declares the registration statement effective. Only after the SEC declares effectiveness can the partnership sell units to the public. The entire process typically requires four to six months from initial filing to effectiveness.
Beyond the initial registration, the Securities Exchange Act of 1934 imposes ongoing obligations. The partnership must register its units under Section 12 of the Exchange Act, either because the units trade on a national securities exchange or because the partnership meets size thresholds. Registration triggers periodic reporting requirements: annual reports on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K for material events.
The Exchange Act also subjects partnerships to proxy rules if they hold annual meetings, beneficial ownership reporting requirements for large shareholders, and Section 16 requirements for insiders. Officers and directors of the general partner must report their ownership and transactions in partnership units. These securities law requirements apply regardless of whether the partnership meets the 90 percent qualifying income test for tax purposes.
State Partnership Law: The Delaware Advantage
Most publicly traded partnerships organize under Delaware’s Limited Partnership Act because Delaware law provides maximum flexibility in partnership agreements. Delaware explicitly permits partnerships to eliminate or modify fiduciary duties that general partners owe to limited partners, subject only to the implied covenant of good faith and fair dealing. This freedom of contract allows publicly traded partnerships to structure governance arrangements that would be impermissible for corporations.
A Delaware limited partnership forms when a certificate of limited partnership is filed with the Delaware Secretary of State. The certificate requires minimal information: the partnership name, the address of its registered office in Delaware, and the name and address of its registered agent. The detailed terms governing the partnership appear in the partnership agreement, a private document not filed with the state.
The partnership agreement can provide for multiple classes of limited partner interests with different rights, powers, and duties. Many publicly traded partnerships create common units sold to the public and subordinated units held by the sponsor. The subordinated units receive distributions only after common unitholders receive their full quarterly distribution, providing downside protection for public investors.
Delaware law permits broad waivers of fiduciary duties. The partnership agreement for many PTPs provides that the general partner may make decisions in its “sole discretion” considering any interests it desires, including its own interests. The general partner may resolve conflicts of interest between itself and the partnership as long as its decision is “fair and reasonable” or meets other specified standards. These provisions sharply contrast with corporate law, where directors owe strict fiduciary duties of care and loyalty to shareholders.
State law also governs the liability of partners. In a traditional general partnership, general partners face unlimited personal liability for partnership obligations. Limited partners enjoy limited liability as long as they do not participate in control of the business. For publicly traded partnerships, all investor-partners are limited partners who purchase units on an exchange without any involvement in management. The general partner, typically a corporation or limited liability company, manages the business and bears liability exposure, but its own limited liability structure shields the ultimate owners from personal liability.
Real-World Structures: How Major PTPs Organize Operations
The largest publicly traded partnership, Enterprise Products Partners (EPD), demonstrates the typical structure. Enterprise operates as a Delaware limited partnership listed on the New York Stock Exchange. Its units trade under the ticker symbol EPD, and the partnership has a market capitalization exceeding $63 billion.
Enterprise owns and operates a network of midstream energy assets including natural gas processing plants, natural gas liquids fractionation facilities, pipelines for natural gas and NGLs, crude oil pipelines and storage, refined products pipelines, and petrochemical transportation assets. The partnership’s business generates qualifying income from the transportation, processing, and storage of natural resources. More than 90 percent of its gross operating margin comes from fee-based contracts, providing stable cash flows while meeting the qualifying income test.
The partnership structure includes two main components. Enterprise Products Partners L.P. is the publicly traded partnership whose units investors purchase. EPD GP LLC serves as the general partner, managing the partnership’s operations and owning a small percentage interest. The Duncan family, which founded the partnership, maintains significant ownership and control through their interests in the general partner.
MPLX LP: A Subsidiary Structure
MPLX LP represents another common structure: the sponsored MLP created by a major corporation. Marathon Petroleum Corporation formed MPLX in 2012 and took it public through an initial public offering. Marathon retained ownership of the general partner and a majority of MPLX’s limited partner units.
This structure allows Marathon to access public capital markets through the MLP while maintaining control. The MLP pays distributions to all unitholders, including Marathon, providing cash flow to the parent corporation. Marathon can “drop down” additional midstream assets from its corporate operations into the MLP over time, providing MPLX with growth opportunities and Marathon with additional capital.
MPLX generates qualifying income from gathering, processing, and transportation of natural gas; transportation, storage, and distribution of refined products; and crude oil gathering and transportation. These activities fall squarely within the natural resources exception of Section 7704(d). The partnership files Form 1065 and issues Schedule K-1 forms to its unitholders, who report their share of partnership income on their individual tax returns.
Cedar Fair: The Non-Energy Exception
Not all publicly traded partnerships operate in the energy sector. Cedar Fair Entertainment Company, which owned and operated amusement parks, demonstrated that partnerships in other industries can meet the qualifying income test. Cedar Fair owned Cedar Point in Ohio, Knott’s Berry Farm in California, and nine other major amusement parks.
Cedar Fair generated qualifying income primarily through real property rents. The partnership owned the real property on which its parks operated and the buildings and improvements on that property. While the parks provided significant services to guests, the partnership structured certain arrangements to generate rental income that qualified under Section 7704(d). The partnership also earned interest income from short-term investments and other passive sources.
In July 2024, Cedar Fair completed a merger with Six Flags Entertainment Corporation, ending its existence as a standalone publicly traded partnership. The merger created Six Flags Entertainment Corporation, a traditional C corporation, highlighting the trend of PTPs converting to corporate structure to access broader pools of investor capital and simplify their tax reporting.
The Conversion Wave: Blackstone and Carlyle
Two prominent private equity firms demonstrate why some publicly traded partnerships choose to convert to corporate structure. The Blackstone Group went public in 2007 as a publicly traded partnership. Blackstone’s structure featured a complex arrangement where the publicly traded partnership owned interests in the operating subsidiaries through a web of holding entities. Public unitholders owned limited partner interests while Blackstone’s founders retained control through ownership of the general partner.
In 2019, Blackstone converted from a publicly traded partnership to a traditional corporation. The conversion simplified the entity’s structure and tax reporting, making the stock eligible for inclusion in major stock indexes that exclude partnerships. Many institutional investors cannot hold partnership interests due to concerns about unrelated business taxable income for tax-exempt investors or K-1 reporting burdens.
The Carlyle Group followed a similar path in 2019, converting from a publicly traded partnership to a C corporation. Uniquely, Carlyle eliminated its dual-class share structure, giving all shareholders equal voting rights. The conversion allowed Carlyle to qualify for inclusion in the S&P 500 and Russell indexes, which impose minimum standards for public shareholder voting rights. These conversions reflect the business reality that for private equity firms, partnership tax treatment provides less benefit than for natural resource companies, while the complications deter institutional investment.
Tax Treatment for Investors: The Schedule K-1 Reality
When you invest in a publicly traded partnership, you become a partner in the legal sense. This partnership status creates tax consequences that differ dramatically from owning corporate stock. Instead of receiving a Form 1099-DIV reporting dividends, you receive a Schedule K-1 (Form 1065) reporting your share of partnership income, deductions, and credits.
The Schedule K-1 arrives in three parts. Part I identifies the partnership, including whether it qualifies as a publicly traded partnership. Part II provides information about you as a partner, including whether you are a general or limited partner and your percentage ownership. Part III, the most complex section, reports your distributive share of partnership items across more than 20 different boxes covering ordinary business income, rental income, interest, dividends, capital gains, Section 1231 gains, charitable contributions, foreign taxes, and many other items.
Each item on the K-1 retains its character. If the partnership earns ordinary business income, you report your share as ordinary income. If the partnership generates long-term capital gains, you report your share as long-term capital gains. This pass-through of character distinguishes partnerships from corporations, where all distributions receive treatment as dividends regardless of how the corporation earned the underlying income.
Understanding Basis Adjustments
Your tax basis in publicly traded partnership units determines your gain or loss when you sell and affects your ability to deduct losses. You begin with an initial basis equal to the amount you paid to purchase the units. Three categories of adjustments then modify this initial basis throughout your ownership.
First, your basis increases by your share of partnership income and gains, whether or not the partnership distributes cash to you. If the partnership earns $1,000 and you own 1 percent of the units, your basis increases by $10 even if you receive no distribution. This increase prevents double taxation when the partnership later distributes the previously taxed income.
Second, your basis decreases by your share of partnership losses and deductions. These items reduce your basis because they provide you current tax benefits. If your share of losses exceeds your basis, you cannot deduct the excess in the current year. These suspended losses carry forward and become deductible when you have sufficient basis or when you sell your entire interest.
Third, your basis decreases by cash distributions you receive from the partnership. Distributions represent a return of your investment and thus reduce your remaining basis. If distributions exceed your basis, the excess creates taxable gain under Section 731. Most publicly traded partnerships make quarterly cash distributions from their cash flow, so tracking these basis reductions becomes essential.
The brokerage firm holding your units does not track basis adjustments correctly. The broker knows only what you paid to purchase units and what you receive when you sell. The broker cannot track your share of partnership income, losses, and distributions that occurred between purchase and sale. When you receive your Form 1099-B reporting the sale, the cost basis shown is incorrect and must be adjusted using information from all the K-1s you received during your holding period.
The Depreciation Recapture Trap
When you sell publicly traded partnership units, you face a tax consequence that surprises many investors: a large portion of your gain is taxed as ordinary income rather than capital gain. This recapture occurs because partnerships typically own depreciable assets like pipelines, processing facilities, and storage tanks. The partnership claimed depreciation deductions on these assets, passing through your share to reduce your taxable income during the years you held the units.
When the partnership sells or you sell your units, Section 1245 requires recapture of depreciation claimed on personal property. Section 1250 requires partial recapture of depreciation on real property. The K-1 you receive in the year of sale includes supplemental information showing how much of your gain is ordinary income due to recapture and how much is capital gain.
The ordinary income component can be substantial. An investor who holds units for many years, receiving and claiming depreciation deductions, may find that 60 to 80 percent of the gain on sale is ordinary income taxed at rates up to 37 percent for federal purposes. Only the remaining gain receives long-term capital gain treatment at the preferential 20 percent maximum rate (plus 3.8 percent net investment income tax).
This recapture feature makes publicly traded partnerships less tax-efficient than they initially appear. While you enjoy tax-deferred distributions during ownership, the tax bill arrives when you sell. The deferral provides a time value of money benefit, but the ultimate tax rate on ordinary income recapture can exceed what you would pay on qualified dividends from corporate stock.
State Tax Complications: The Multi-State Filing Nightmare
Publicly traded partnerships that operate in multiple states create state tax filing obligations for their investors that catch many unitholders by surprise. Most energy infrastructure partnerships operate pipelines, processing plants, and storage facilities across many states. Each state where the partnership conducts business creates nexus for the partnership and potentially for you as a partner.
States take different approaches to taxing nonresident partners. Some states require partnerships to withhold tax on the nonresident partner’s share of income sourced to that state. The partnership remits the withheld amount to the state on your behalf. Other states do not require withholding but expect you to file a nonresident tax return and pay tax directly.
For investors holding publicly traded partnership units, the state tax obligations can become overwhelming. A partnership operating in 15 states creates potential filing obligations in 15 states. Some states set minimum thresholds, requiring returns only if your share of income sourced to that state exceeds a certain amount. Other states require returns regardless of income amount.
Composite Return Relief
Many states offer composite return relief to simplify compliance for nonresident partners. Under a composite return arrangement, the partnership files a single tax return on behalf of all participating nonresident partners, pays the tax from partnership funds, and reports the tax paid on each partner’s K-1. You may then avoid filing an individual return in that state, though you lose the ability to claim deductions or credits on that state’s return.
California presents particular challenges. The state imposes an $800 annual limited liability company fee on the partnership itself. California also requires withholding at 7 percent on distributions to nonresident partners if the partnership derives income from California sources. The partnership must register with California’s Franchise Tax Board, file an annual partnership return on Form 565, and submit quarterly withholding reports and payments.
New York combines state-level taxes with New York City’s Unincorporated Business Tax for partnerships operating within the city. The state requires Form IT-204, while the city imposes a 4 percent tax on city-sourced income. Partnerships with more than five partners must file electronically, and New York mandates withholding at 4.95 percent on nonresident partner distributions.
Illinois takes an unusual approach by imposing a replacement tax directly on partnerships at 1.5 percent of net income. This tax functions more like a corporate income tax than a true partnership tax, but Illinois still treats the entity as a partnership for other purposes. The state also requires 4.95 percent withholding on nonresident partner distributions.
Investors in publicly traded partnerships must either file returns in every state where they have income and filing obligations or verify that the partnership filed composite returns on their behalf and paid the tax. Many tax preparation software packages cannot handle multi-state K-1 reporting correctly, requiring professional assistance that increases the cost of tax compliance.
Three Common Scenarios Involving Publicly Traded Partnerships
| Partnership Structure | Tax Consequence |
|---|---|
| Energy infrastructure MLP with 95% qualifying income from pipeline operations | Partnership maintains pass-through tax status under IRC Section 7704(c). Limited partners receive Schedule K-1 reporting their share of income, which is taxed only at the partner level with no entity-level corporate tax. Quarterly cash distributions reduce partner basis and provide tax-deferred return of capital up to basis amount. |
| Publicly traded partnership earns 85% qualifying income and 15% non-qualifying income from active business operations | Partnership fails the 90% qualifying income test and receives treatment as a corporation under IRC Section 7704(a). Partnership pays corporate income tax at 21% federal rate on all earnings. Distributions to unitholders are taxed as dividends, creating double taxation. Units trade at depressed valuations due to tax inefficiency. |
| Limited partner sells all units in publicly traded partnership after holding for five years | Investor realizes gain equal to proceeds minus adjusted basis (original cost plus income allocations minus distributions and losses). Supplemental K-1 information allocates gain between ordinary income (from depreciation recapture) and capital gain. Typically 60-80% of total gain is ordinary income taxed at rates up to 37%, while remaining gain is long-term capital gain taxed at 20% maximum rate. |
| Investor Action | Outcome |
|---|---|
| Individual purchases 1,000 MLP units at $30 per unit in taxable brokerage account | Investor becomes limited partner with initial tax basis of $30,000. Investor must report share of partnership income, deductions, and credits on personal tax return using information from Schedule K-1. Cash distributions reduce basis and provide tax-deferred income until basis reaches zero. |
| Tax-exempt organization purchases publicly traded partnership units in 401(k) or IRA retirement account | Tax-exempt investor may owe unrelated business taxable income (UBTI) tax if allocable income exceeds $1,000 per year. Many tax-exempt entities avoid MLP investments to prevent UBTI filing obligations and potential tax liability. This restriction significantly limits the pool of potential investors. |
| Investor residing in Florida purchases units in partnership operating in 15 states including California, New York, and Texas | Investor owes state income tax in every state where partnership conducts business and investor’s share of income exceeds minimum filing threshold. California withholds 7% on distributions, requiring nonresident return filing to claim refund if actual tax is lower. New York requires IT-204 filing. Texas has no income tax but partnership pays franchise tax. |
| Formation Choice | Comparison |
|---|---|
| Organize as publicly traded partnership under Delaware LP Act with qualifying income focus | Single level of taxation at partner level avoids corporate double tax. Quarterly cash distributions provide high current income. Limited to partnerships meeting 90% qualifying income test, restricting business model. Complex K-1 tax reporting deters some investors. State multi-state filing requirements create compliance burden. |
| Organize as C corporation and conduct IPO under Securities Act of 1933 | Entity pays corporate income tax at 21% federal rate. Distributions taxed as dividends at qualified dividend rates up to 20%. Investors receive simple Form 1099-DIV instead of K-1. Eligible for inclusion in S&P 500 and other major indexes. Attracts broader investor base including mutual funds, pension funds, and tax-exempt entities. Double taxation reduces after-tax returns compared to partnership structure. |
| Remain as private limited partnership with accredited investor unitholders | Maintains pass-through tax treatment without 90% qualifying income limitation. No SEC registration or periodic reporting requirements reduce compliance costs. Units lack liquidity, trading rarely through private transactions. Difficult to raise large amounts of capital. Investors face same K-1 complexity without public market liquidity benefit. |
Mistakes to Avoid When Dealing with Publicly Traded Partnerships
One of the most common errors investors make involves failing to track basis adjustments properly throughout the holding period. Each year’s K-1 reports your share of income, losses, and deductions, all of which adjust your basis in the units. Many investors discard old K-1s after filing their tax returns, not realizing they will need this information years later when they sell. Without complete basis information, you cannot accurately calculate gain or loss on sale, potentially overpaying taxes by using an incorrect cost basis that’s too low or triggering an IRS audit by using a basis that’s too high.
Another critical mistake is treating publicly traded partnership distributions as dividends subject to qualified dividend rates. Investors familiar with corporate stock expect distributions to generate 1099-DIV reporting and dividend tax treatment. PTPs do not pay dividends. They make distributions that represent a return of capital, reducing your basis. Only after your basis reaches zero do distributions create taxable gain. This distinction means that PTP distributions generally provide tax deferral rather than preferential dividend rates, fundamentally changing the after-tax economics.
A third error involves investing in publicly traded partnerships through tax-deferred retirement accounts without understanding the unrelated business taxable income implications. IRAs, 401(k) plans, and other tax-exempt accounts that invest in PTPs may owe UBTI tax if their share of ordinary business income exceeds $1,000 in a year. The tax-exempt entity must file Form 990-T and pay tax on the excess income. Many retirement account custodians prohibit PTP investments because of the UBTI complications, and those that allow such investments charge substantial additional fees to handle the tax filing requirements.
Investors make a significant error by ignoring state tax filing requirements in states where they do not reside but where the partnership operates. The default rule provides that you owe tax in every state where the partnership conducts business on your share of income sourced to that state. Some investors assume their resident state return covers all their income, failing to file nonresident returns in other states. This creates potential liability for unpaid taxes, penalties, and interest. States increasingly use information sharing and data matching to identify taxpayers with unreported income from out-of-state sources.
A common mistake for new partnerships involves inadvertently failing the 90 percent qualifying income test by engaging in activities that generate non-qualifying income without realizing the tax consequences. A partnership might provide services beyond simple transportation or processing, earn consulting fees, generate active business income from non-natural resource activities, or receive income from non-U.S. sources that does not qualify. Even a small amount of non-qualifying income can cause failure of the 90 percent test if qualifying income is modest. Partnerships must monitor their income composition throughout each tax year and take corrective action if non-qualifying income threatens to exceed 10 percent.
Some investors err by selling only a portion of their units without specifying lot identification to their broker. When you sell part of your position, the IRS presumes you sold the units you purchased first (first-in, first-out method) unless you specify otherwise. This can create unintended tax consequences, as units you purchased years ago may have very low basis after distributions reduced it, creating large gains. Specifying which lots to sell allows you to control the timing and amount of gain recognition.
Publicly traded partnerships themselves sometimes make the mistake of failing to file composite returns in states that require them or not withholding properly on nonresident partner distributions. State tax authorities can assess penalties against the partnership for these failures. The partnership then faces the choice of paying the penalties from partnership funds (reducing all partners’ distributions) or trying to recover amounts from individual partners, which often proves impractical.
An error that has become more common involves treating publicly traded partnerships as qualified investment income for purposes of other tax provisions. For example, the Section 199A qualified business income deduction applies to partnership income from qualified trades or businesses, but special rules apply to PTPs. Many tax software packages do not correctly compute the 199A deduction for PTP income. Similarly, some states do not conform to federal treatment of PTPs, creating state-federal disparities that require manual adjustment.
Do’s and Don’ts for Publicly Traded Partnership Investors
Do’s:
Do maintain complete records of all K-1s received from the date of purchase through final sale. Store these documents permanently in a file dedicated to the investment. You need the cumulative information from all K-1s to calculate adjusted basis when you sell. Do not rely on your brokerage firm’s cost basis reporting, as it cannot track partnership income and distribution adjustments.
Do verify that the partnership filed composite returns on your behalf in states where you have filing obligations if you prefer to avoid filing individual nonresident returns. The K-1 typically indicates which states the partnership filed composite returns in and how much tax was paid on your behalf. If a state is not listed, you may need to file an individual nonresident return for that state.
Do consider the after-tax economics when evaluating publicly traded partnerships against corporate stocks. Calculate the tax-deferred benefit of distributions reducing basis against the ordinary income recapture tax you will pay on sale. For investors in high tax brackets who plan to hold for many years, the recapture tax can eliminate much of the apparent advantage of PTP investments.
Do notify your tax preparer well in advance if you hold publicly traded partnership units. K-1s often arrive late, after the typical tax filing deadline. Your preparer needs time to handle the complexity of multi-state reporting, basis adjustments, and special PTP provisions. Many preparers charge significantly higher fees for returns including K-1s due to the additional work required.
Do review the partnership agreement carefully before investing to understand the rights and obligations of limited partners. Publicly traded partnership agreements often contain provisions eliminating fiduciary duties, limiting voting rights, and establishing dispute resolution procedures. These agreements govern your relationship with the partnership and cannot be changed without approval processes specified in the agreement itself.
Do make estimated tax payments if your share of partnership income creates tax liability that is not covered by withholding from your other income sources. Publicly traded partnerships typically do not withhold federal income tax on U.S. partners’ shares of income. You must make quarterly estimated tax payments to avoid underpayment penalties and interest when you file your return.
Do evaluate whether the partnership’s business model will continue to generate at least 90 percent qualifying income before investing. Read the risk factors section of the prospectus or annual report to understand what could cause the partnership to fail the qualifying income test. A conversion from partnership to corporate status destroys value for existing unitholders as the double taxation reduces cash available for distributions.
Don’ts:
Don’t invest in publicly traded partnerships through tax-advantaged retirement accounts unless you understand the unrelated business taxable income consequences and have confirmed your custodian allows such investments. The UBTI reporting requirements and potential tax liability eliminate the tax benefits of holding investments in an IRA or 401(k). Most investment advisors recommend avoiding PTPs in retirement accounts entirely.
Don’t ignore the supplemental information attached to your K-1. This supplemental schedule provides critical information for properly reporting your partnership items, including depreciation recapture amounts on sale, state income allocation details, and other specialized reporting information. The main K-1 form alone does not provide all information needed for accurate tax reporting.
Don’t assume publicly traded partnership investments are suitable for all investors simply because they trade on major exchanges like stocks. The complexity of K-1 reporting, multi-state filing obligations, and basis tracking requirements make these investments inappropriate for unsophisticated investors who cannot handle or afford professional tax preparation assistance.
Don’t purchase additional units shortly before the ex-distribution date expecting to receive a high-yield distribution. Distributions reduce the unit price by approximately the distribution amount, and the distribution you receive is a return of your own capital that reduces your basis. This differs from corporate dividends, where the yield represents investment return rather than capital return.
Don’t rely on online tax preparation software to correctly handle all aspects of publicly traded partnership reporting. Most retail tax software packages cannot properly track basis adjustments across multiple years, handle depreciation recapture correctly on sale, or file the numerous nonresident state returns required for multi-state PTPs. Professional assistance becomes necessary for all but the simplest situations.
Don’t enter into publicly traded partnership investments without considering the exit strategy and holding period. The depreciation recapture that creates ordinary income on sale makes these investments work best for long-term holders who benefit from years of tax-deferred distributions. Short-term trading of PTP units creates tax inefficiency as the recapture occurs with little offsetting benefit from distribution-related basis reductions.
Advantages and Disadvantages of Publicly Traded Partnership Structure
Advantages:
Single level of taxation represents the primary benefit of publicly traded partnership structure compared to corporate form. For partnerships meeting the 90 percent qualifying income test, income passes through to partners without entity-level tax. This avoids the corporate double taxation where a corporation pays 21 percent federal corporate income tax and shareholders pay additional tax on dividends. For a partnership with $100 of pretax income, $100 flows through to partners who pay tax at their individual rates. For a corporation, only $79 remains after corporate tax ($100 minus $21 tax), and shareholders pay additional tax on the $79 distribution, leaving perhaps $63 to $65 after both levels of tax depending on the shareholder’s bracket.
High distribution yields attract income-focused investors to publicly traded partnerships. Because PTPs do not pay entity-level tax, they can distribute substantially all their cash flow to unitholders. Typical distribution yields for energy infrastructure MLPs range from 6 to 10 percent annually, substantially exceeding average dividend yields for corporate stocks. These distributions provide regular quarterly income for investors seeking cash flow to fund retirement or other needs.
Tax deferral benefits arise because distributions reduce basis rather than creating immediate tax liability. An investor might receive $5 per unit in distributions that reduce basis by $5, creating no current taxable income. The tax obligation is deferred until the investor sells, potentially many years in the future. This deferral provides time value of money benefit, as the investor uses the distribution proceeds immediately while the tax bill arrives later. The benefit compounds over many years of ownership.
Liquidity and marketability distinguish publicly traded partnerships from traditional private partnerships. Units trade on major exchanges like the NYSE and NASDAQ, providing daily pricing and the ability to sell quickly at market prices. Private partnership interests lack this liquidity, often requiring months to find a buyer and negotiate a price. Public trading makes partnership investments accessible to retail investors who could not participate in private partnership opportunities.
Transparency and investor protection result from securities law registration and reporting requirements. Publicly traded partnerships must file extensive disclosure documents with the SEC, including detailed information about business operations, financial condition, risk factors, and management. Investors can access this information through the SEC’s EDGAR database. Quarterly and annual reports provide updated financial information and analysis of operating results. These disclosures far exceed what private partnerships typically provide to limited partners.
Specialization in qualifying income activities allows publicly traded partnerships to focus on businesses that generate stable, fee-based cash flows. Energy infrastructure assets like pipelines, storage facilities, and processing plants operate under long-term contracts providing predictable revenue. This business model produces consistent distributions and lower volatility than many corporate stocks. The qualifying income requirement actually benefits unitholders by preventing management from diversifying into risky or unfamiliar businesses.
Step-up in basis at death provides estate planning benefits for publicly traded partnership units held until death. When a unitholder dies, the heir receives a stepped-up basis equal to the fair market value at death under Section 1014. This eliminates the built-in ordinary income from depreciation recapture that would have been taxable if the original owner sold. The heir can sell immediately after inheriting with minimal or no tax liability, whereas corporate stock also receives step-up but has less built-in ordinary income to eliminate.
Disadvantages:
Complex K-1 tax reporting deters many investors from publicly traded partnerships. Instead of a simple Form 1099-DIV showing dividend income, investors receive a multi-page Schedule K-1 with dozens of boxes reporting different income and deduction items. Each item requires proper classification on the correct line of the investor’s return. Many investors cannot prepare their own returns with K-1s and must hire professional tax preparers, with fees often exceeding $500 additional for returns including PTPs. The K-1s typically arrive late in tax season, March or April, requiring filing extensions.
Multi-state tax filing obligations create substantial compliance burden and cost for investors. A single PTP operating in 15 states can require the investor to file nonresident returns in 15 states. Each state has different forms, filing requirements, and payment procedures. Software to prepare multi-state returns costs more than basic tax software. Some states impose filing fees regardless of tax owed. The total cost of compliance can easily exceed $1,000 annually for investors with multiple PTP holdings in different states.
Depreciation recapture creates ordinary income on sale, taxed at rates up to 37 percent plus 3.8 percent net investment income tax. This tax treatment makes PTPs less attractive than they initially appear. While distributions provide tax deferral during ownership, the sale triggers a large tax bill with much of the gain taxed as ordinary income rather than capital gain. An investor in the 37 percent bracket might pay effective tax of 35 percent or more on the entire gain, compared to perhaps 23.8 percent on qualified dividends and corporate stock capital gains.
Passive loss limitations prevent investors from using PTP losses to offset other income. Losses from publicly traded partnerships can only offset income from the same PTP, not income from other PTPs or other passive activities. If a PTP generates losses, those losses suspend until the PTP generates income or the investor sells the entire interest. This limitation reduces the tax benefit of PTP investments compared to other partnership interests where passive losses from one activity can offset passive income from other activities.
Limited investor base results from the K-1 complications and UBTI concerns. Many institutional investors cannot or will not invest in publicly traded partnerships. Mutual funds avoid PTPs because the UBTI would make the fund taxable. Pension funds and endowments typically restrict PTP investments. Many index funds exclude PTPs from their portfolios. This smaller investor base can lead to less liquidity and lower valuations compared to corporations with the same business fundamentals.
Restricted to qualifying income activities limits the business flexibility of publicly traded partnerships. A partnership cannot diversify into attractive business opportunities if those activities generate non-qualifying income that would cause failure of the 90 percent test. This restriction prevents PTPs from adapting to changing market conditions or pursuing value-creating acquisitions outside their narrow permitted activities. Corporations face no such limitation and can engage in any lawful business.
Elimination of fiduciary duties under many PTP partnership agreements removes important investor protections. Limited partners in PTPs often cannot sue the general partner for breach of fiduciary duty because the partnership agreement eliminates such duties. The agreement may permit the general partner to resolve conflicts of interest using a “fair and reasonable” standard or similar provision that provides less protection than the strict fiduciary duties corporate directors owe shareholders. This creates agency costs and potential for self-dealing by management.
Foreign investor withholding obligations make publicly traded partnerships unattractive to non-U.S. investors. Under Section 1446, partnerships must withhold tax on foreign partners’ shares of income that is effectively connected with a U.S. trade or business. For publicly traded partnerships, this withholding occurs quarterly on distributions at the highest marginal rate. Foreign investors must file U.S. tax returns to claim refunds if their actual tax liability is lower. These complications cause most foreign investors to avoid PTP investments entirely.
State-Level Nuances in Partnership Taxation
While federal law under Section 7704 determines whether a publicly traded partnership receives corporate or partnership tax treatment, state tax treatment varies significantly across the fifty states. States do not uniformly follow federal classification rules, creating complexity and potential for inconsistent treatment.
Some states automatically conform to federal tax treatment of partnerships. If the entity qualifies as a partnership for federal purposes under Section 7704(c), these states treat it as a partnership for state tax purposes. California, New York, and most other states follow this approach. Other states impose entity-level taxes on partnerships regardless of federal classification, effectively treating partnerships more like corporations.
Illinois imposes a replacement tax of 1.5 percent on partnership net income. This tax applies to the entity itself, not just the partners. While partners still report their shares of partnership income on their individual returns, the partnership first pays this entity-level tax, reducing cash available for distributions. The replacement tax functions similarly to a corporate income tax despite the partnership classification.
Texas charges a franchise tax on partnerships with revenue exceeding $1.23 million. The tax equals 0.375 percent of taxable margin for most partnerships, or 0.75 percent for certain service providers. This creates an additional tax burden beyond partner-level taxation. Texas has no individual income tax, so partners do not pay state tax on their shares of partnership income, but the entity-level franchise tax still applies.
Nevada imposes a commerce tax on businesses with Nevada gross revenue exceeding $4 million. The tax rate varies by industry, ranging from 0.051 percent to 0.331 percent of taxable revenue. Partnerships must file commerce tax returns and pay this entity-level tax. While the tax rates seem low, the tax applies to gross revenue, not net income, creating liability even for partnerships operating at a loss.
Several states including Florida, South Dakota, Washington, and Wyoming impose no state income tax on individuals. Partnerships operating in these states enjoy true single-level taxation with no entity-level tax and no partner-level state income tax. However, these states may impose other business taxes or fees that affect partnerships.
State withholding requirements for nonresident partners vary dramatically. Some states require withholding at rates matching the top marginal individual tax rate, which can exceed 10 percent in high-tax states. Other states have reduced withholding rates for publicly traded partnerships or exempt them entirely from withholding. Partners must understand the withholding rules in each state where the partnership operates to avoid overwithholding or underwithholding situations.
Frequently Asked Questions
Can a limited partnership be publicly traded?
Yes. Limited partnerships can trade on stock exchanges if organized properly. The partnership must register under the Securities Act of 1933 and list on an exchange like NYSE or NASDAQ.
Do publicly traded partnerships pay corporate taxes?
No, if 90 percent or more of gross income is qualifying income under IRC Section 7704(d). Otherwise, the partnership is taxed as a corporation despite its partnership form.
What is the difference between an MLP and a PTP?
None for practical purposes. Master Limited Partnership (MLP) and Publicly Traded Partnership (PTP) refer to the same structure—a partnership whose interests trade on public exchanges.
Are publicly traded partnerships good investments?
It depends on the investor’s tax situation and goals. High distribution yields benefit income-focused investors, but K-1 complexity and depreciation recapture on sale create disadvantages for many investors.
Can you hold a publicly traded partnership in an IRA?
Yes, but this generally creates unrelated business taxable income. The IRA may owe tax on UBTI exceeding $1,000, eliminating the retirement account tax advantages.
Why do I get a K-1 instead of a 1099?
Because you are a partner in the legal entity, not a shareholder. Partnerships issue Schedule K-1 to report each partner’s share of income, deductions, and credits.
Do publicly traded partnership distributions qualify as dividends?
No. Distributions are return of capital that reduce your basis in the units. They provide tax deferral, not dividend income eligible for qualified dividend rates.
What happens if a PTP fails the 90 percent qualifying income test?
The partnership receives treatment as a corporation under Section 7704(a). It pays corporate income tax and distributions become taxable dividends, creating double taxation for unitholders.
Are publicly traded partnerships subject to passive loss rules?
Yes. PTP losses can only offset income from the same PTP. Suspended losses carry forward until the PTP generates income or you sell your entire interest.
Do I need to file tax returns in every state where the PTP operates?
Potentially yes, unless the partnership filed composite returns covering you. Each state where the partnership operates and you have income may require a nonresident return.
Can publicly traded partnerships operate in any industry?
No. To avoid corporate taxation, the partnership must generate 90 percent qualifying income from passive investments or natural resources. Most industries do not qualify.
What is the general partner’s role in a publicly traded partnership?
The general partner manages operations and makes all business decisions. Limited partners have no management role but own the economic interests traded on exchanges.
Why did Blackstone and Carlyle convert from partnership to corporate structure?
To qualify for major stock indexes, attract institutional investors that avoid K-1s, and simplify tax reporting. The benefits of broader investor access outweighed partnership tax advantages.
How do I calculate my adjusted basis in PTP units?
Start with purchase price, add your cumulative share of income and gains, subtract cumulative distributions and losses. K-1 supplemental information provides these amounts annually.
Are publicly traded partnerships required to make distributions?
No legal requirement exists, unlike REITs. However, most PTPs distribute substantially all cash flow because the business model and unitholder expectations demand regular distributions.
Can foreign investors buy publicly traded partnership units?
Yes, but the partnership must withhold tax on the foreign partner’s share of U.S.-source income. Withholding and filing requirements make PTPs unattractive to foreign investors.
What is depreciation recapture and how does it affect PTP sales?
Depreciation claimed during ownership converts to ordinary income when you sell. Typically 60-80 percent of gain is ordinary income taxed up to 37 percent rate.
Do publicly traded partnerships issue Form 1099?
No, they issue Schedule K-1 Form 1065. Brokers issue Form 1099-B for sales but cannot correctly calculate adjusted basis for PTP units.
How long does it take to receive a K-1 from a publicly traded partnership?
Most PTPs mail K-1s in March or early April, several weeks after corporate Form 1099 deadlines. Late K-1s often require filing tax return extensions.
Are there publicly traded partnerships outside the energy sector?
Yes, but few exist currently. Cedar Fair operated amusement parks before merging. Some PTPs invest in real estate, timber, or financial assets generating qualifying income.
Related reading
- Are Publicly Traded Partnerships Passive Income? (w/Examples) + FAQs
- Are Publicly Traded Partnerships Taxed as Corporations? (w/Examples) + FAQs
- Do Publicly Traded Partnerships Qualify for QBI? (w/Examples) + FAQs
- How Are Publicly Traded Partnerships Taxed? (w/Examples) + FAQs
- Are General Partnerships Double-Taxed? (w/Examples) + FAQs
- How Are General Partnerships Taxed? (w/Examples) + FAQs
- How to Structure a Limited Partnership (w/Examples) + FAQs