Non-Americans investing in US publicly traded partnerships
What is the issue?
Non-US investors should be aware of the potential US tax consequences of investing in a US business which is structured as a partnership since this can give rise to various onerous US tax and filling obligations.
In the context of quoted shares, this issue is commonly encountered with publicly traded “master limited partnerships” (MLPs) and “publicly traded partnerships” (PTPs).
The most common form of investment in a US company is shares in a “C corporation” (an “Inc”) which is treated as a company for US tax purposes. Non–USInvestors in a US “C corporation” are generally taxed as follows:-
- The investor is taxed at a flat rate of 30% on US dividend income. The 30% flat rate can be reduced by a treaty.
- The tax is collected by withholding and there is generally no tax return filling requirement provided that the investor has competed Form W-8 and the tax has been fully withheld at source.
- There is normally no US tax liability when the shares are sold.
However, there are other types of US business entity which can give rise to different (and much more onerous) tax consequences and filling requirements.
The following US entities are generally treated as partnerships for US tax purposes:-
- Limited Liability Companies (LLCs);
- Limited Partnerships (LPs);
- Subchapter S Corporations;
- Publicly Traded Partnerships (PTPs), often also referred to as Master Limited Partnerships (MLPs).
These investments can sometime be recognised by their names which may end in “LLC” or “LP”. However the suffixes “Corp” and “Inc” are sometimes used therefore it is best to check the prospectus to confirm whether the entity is a partnership or corporation.
The tax and filling consequences for a non-US resident investor in a US partnership such as a MLP or PTP are as follows:-
- Investors are generally taxed on a “flow-through” basis on their share of US source income.
- US business profits are taxed at graduated rates of up to 37% for individuals and 21% for companies.
- State income taxes are frequently also payable depending on the states in which the business operates
- Investors will typically receive a Form K1 after the year-end, showing their share of the partnership income for the year.
- The tax treatment of the sale of US partnerships can be extremely complicated for a non-US investor. All of any capital gain, or only a part of it, may be subject to US tax on sale, depending on various factors which are broadly intended to limit the taxable gain to the extent of the partnership’s business operations in the US.
- The partnership is required to withhold US tax both in respect of annual income and also when the non-US investor sells their shares. In addition the non-US investor is required to file an income tax return to report the annual income, and again when the shares are sold.
The flow through treatment of US partnership interests can be beneficial for US-based investors since the structure prevents corporate profits being subject to two layers of tax (one at the corporate level and one at the shareholder level).
However, the structure presents a headache for any non-US investors, who may not have previously had to file a US return and calculate their own US tax liability.
Investors in US partnerships will require specialist US tax advice to ensure that they comply with their obligations and to correctly calculate the amount of US tax payable both on income and on any gain when the interest is sold.
Investors should also seek advice on the most appropriate ownership structure since there may be benefits to investing through a corporate vehicle. The corporate tax rate is currently 21% (compared to the 37% personal tax rate). There can be an additional “branch profits tax” of 30% on net profits resulting in an effective overall tax rate of 44%, however the branch profits tax can sometimes be reduced under a treaty.
Gift and estate tax
- US situs investments owned by an individual will be within the scope of the US estate (and potentially also gift) tax (40%). This includes US partnership interests such as PTPs and MLPs.
- Some investors may be eligible for the benefit of protection from US estate tax as a result of an estate tax treaty. Whilst such treaty protection may be available for shares in a US C corporation, it is unlikely to be available for shares in a PTP or MLP.
- Investors should therefore give consideration to and seek advice on the US gift and estate tax consequences of holding shares in a PTP or MLP.