On June 14, 2007, members of the Senate Finance Committee, with support from the House Ways and Means Committee Chair, introduced legislation that proposes to treat certain publicly traded partnerships as corporations for federal income tax purposes. Under the proposed bill, publicly traded partnerships—those partnerships whose interests are either traded on an established securities market or are readily tradeable on a secondary market—would be taxed as corporations if the partnership derives any income from direct or indirect involvement in investment advisory or asset management services.

Under current law, the Internal Revenue Code treats publicly traded partnerships as corporations for federal income tax purposes unless an exception such as the “Qualifying Income Exemption” applies. This exemption applies to publicly traded partnerships that derive 90% or more of their gross income from sources such as interest, dividends, capital gains and rents and permits qualifying publicly traded partnerships to be treated as “flow through” entities for federal income tax purposes.

The proposed legislation seeks to eliminate the Qualifying Income Exception for any publicly traded partnership that directly or indirectly derives any income, including income or gains, from either: (i) services provided as an investment adviser (as defined in the Investment Advisers Act of 1940) or as a person associated with an investment adviser (as defined in the Investment Advisers Act of 1940); or (ii) asset management services or services in connection with the management of assets with respect to which investment adviser services were provided. It is immaterial whether the person providing the investment advisory services is required to register as an investment adviser under the Investment Advisers Act.

The legislation was proposed amid concern that publicly traded partnerships that provide investment advisory and asset management services are increasingly taking unfair advantage of the Qualifying Income Exception. The introduction of the proposed legislation came just days before the initial public offering of the Blackstone Group LP, the first major U.S. leveraged buyout company to go public. Blackstone indicated in its IPO filings with the SEC that it intends to structure and manage its business to take advantage of the Qualifying Income Exception. The advocates of the proposed legislation cited Blackstone’s IPO as one example of why the legislation is necessary to prevent financial firms from reorganizing themselves to take advantage of the Qualifying Income Exception.

As proposed, the legislation would apply to taxable years of a partnership beginning on or after June 14, 2007; there would be a transition period for partnerships that had already qualified as publicly traded partnerships or had already filed a registration statement on June 14, 2007. However, some supporters have suggested the legislation should have a retroactive effective date.