The size of tax breaks for master limited partnerships is at stake as the U.S. House and Senate prepare to reconcile their versions of sweeping tax legislation before the end of the year.
The Tax Cuts and Jobs Act passed Dec. 2 in the Senate included language to increase the originally proposed tax deduction for income from pass-through businesses such as partnerships to 23% from 17.4%, in part to persuade Republican holdouts like Sen. Ron Johnson of Wisconsin to support the bill. Despite the higher deduction, however, ClearView Energy Partners LLC analysts said the House bill's approach of capping pass-through income tax rates at 25% is still more MLP-friendly relative to corporate tax rates, which both versions would lower to 20% from 35%.
Senate Majority Leader Mitch McConnell, R-Ky., in the Capitol on Dec. 1. Source: Associated Press |
"The Senate-passed bill ... [implies] a 6.4% advantage vis-a-vis C corporations (at the new 38.5% tax bracket), a modest downtick from the the 8% status quo and even further from the 11% advantage that would be conferred by the House bill," they wrote in a Dec. 4 note to clients.
MLPs transfer their tax responsibilities to limited and general partners through paying distributions to investors, giving partnerships an edge over the two tiers of taxes that C corporations pay at both the company and stock owner levels.
Gibson Dunn & Crutcher LLP tax attorney James Chenoweth said in an interview that he was not surprised that the Senate voted to raise the deduction and agreed that the 17.4% rate reduced the benefit of pass-through income treatment relative to corporations that taxpayers "have been used to."
The Senate bill also included an amendment from Majority Whip John Cornyn, R-Texas, exempting MLPs from a wage limitation that would otherwise preclude MLPs from using the 23% deduction.
Chenoweth added that the key question for MLPs will be whether Congress separates active and passive investors or groups them together. The Senate bill applies the same tax deduction rate to both kinds of investors, whereas the House version splits them up and taxes active investors, which typically include management, at a higher rate than in the Senate bill.
"That's what could move the needle perhaps lower than a 23% deduction, because those active [investors] are not getting any benefit relative to corporations in the House bill," he said.
If signed into law, the resulting legislation would be the first tax overhaul since the Tax Reform Act of 1986, which allowed MLPs to continue to be taxed as partnerships.

