The Internal Revenue Service (the “IRS”) recently released two new private letter rulings (“PLRs”) under the MLP “qualifying income” rules of Section 7704(d) of the Internal Revenue Code.

An “MLP” or “master limited partnership” is a publicly traded entity that qualifies for treatment as a partnership for federal income tax purposes. In order for an MLP to qualify for taxation as a partnership (rather than a corporation), at least 90% of its gross income each year must be “qualifying income” as defined in Section 7704(d). Qualifying income generally includes interest, dividends, real property rents and, most important for the MLP industry, income and gains derived from the exploration, development, mining or production, processing, refining, transportation (including pipelines transporting gas, oil or products thereof), or the marketing of any mineral or natural resource (including fertilizer, geothermal energy and timber) or industrial source carbon dioxide, or the transportation or storage of certain alternative fuels.

This MLP update describes the IRS’s positions in these recently issued PLRs.

IRS Rules that MLP Income from Transporting Refined Petroleum Products and Other Products to Drilling, Exploration and Production, and Mining Sites Is Qualifying Income

On July 6, 2012, the IRS released PLR 201227001, holding that an MLP’s gross income from the transportation of refined petroleum products and other products to customers engaged in drilling, exploration and production, and mining activities at the site of such activities is “qualifying income” under Section 7704(d) of the Internal Revenue Code.

The taxpayer in the PLR derives gross income from the transportation of refined petroleum products and other products to customers engaged in drilling, exploration and production, and mining activities at the site of such activities. The taxpayer represented to the IRS that

  • The substantial majority of the vehicles to be used to provide those services are specially designed and custom-built to deliver products to above-ground tanks and other nonconventional delivery points in remote locations,
  • Substantially all of the use of those vehicles is to deliver products to customers who are engaged in drilling, exploration and production, or mining activities,
  • Those vehicles are ill-suited for (and normally not used for) more conventional types of fuel and lubricant deliveries (e.g., deliveries to retail gas stations), and
  • The services to be provided by the taxpayer are integral to the exploration, production and development of oil, gas and coal resources, because the exploration, development and production of oil, gas and coal resources would be significantly curtailed in the absence of such services.

The IRS held that the income the taxpayer derives from these activities is qualifying income to the taxpayer MLP under section 7704(d)(1)(E).

IRS Rules that MLP Income from Removal, Treatment, Recycling, and Disposal of Fracturing Flowback, Produced Wastewater, and Other Residual Waste Products Generated by Oil and Gas Well Fracturing Is Qualifying Income

On July 6, 2012, the IRS released PLR 201227002, holding that an MLP’s gross income from the removal, treatment, recycling, and disposal of fracturing flowback, produced wastewater, and other residual waste products from oil and gas well fracturing is “qualifying income” under Section 7704(d) of the Internal Revenue Code.

The taxpayer in the PLR derives gross income from the removal, treatment, recycling, and disposal of waste products generated by the fracturing process and residual wastes that accumulate in crude oil tank bottoms. The taxpayer also derives gross income from the production and marketing of hydrocarbon products recovered from these oil field wastes. The taxpayer collects crude oil skimmed from oil field wastes during the waste treatment process and sells the salvaged crude oil to oil refiners who do not themselves consume the crude oil in their own operations. In addition, the taxpayer derives gross income from the production of an asphalt alternative consisting of drilling and production wastes and binder sold to government entities and commercial users for road construction and paving.

The IRS held that the income the taxpayer derives from these activities is qualifying income to the taxpayer MLP under section 7704(d)(1)(E).

A PLR may be relied upon only by the taxpayer who requested it and may not be used or cited as precedent. For questions regarding information in this update, please contact one of the lawyers listed above.

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