Active members of an investment adviser LLC are subject to self-employment tax.

• Author: Dell, Michael
• Position: Limited liability company

In Chief Counsel Advice (CCA) 201436049, the IRS Office of Chief Counsel (OCC) determined that actively working members of an investment management company formed as a limited liability company (LLC) were not limited partners within the meaning of Sec. 1402(a)(13), and, thus, their net distributive shares of management fee income were subject to self-employment tax.

Facts The LLC, Management Co., was treated as a partnership for federal income tax purposes. It served as the investment manager for a managed fund. The managed fund conducted its activities through a number of state law limited partnerships (the funds) that were also treated as partnerships for federal tax purposes. Each fund carried on extensive trading and investing activity and had passive investors that were limited partners under state law. Each fund had two general partners: Profits GP and Management Co.

PHOTO BY ASISEEITASTOCK Management Co. had full authority and responsibility to manage and control the affairs and business of the funds and carried on all investment activities through its partners and employees. Management Co. had a small amount of assets, in addition to an ownership interest in each fund. Management Co.'s primary source of income was from management fees, which were based on the assets under management of the funds. In the years at issue in the CCA, Management Co.'s gross receipts and net ordinary business income consisted of fee income rather than a distributive share from the funds.

Management Co.'s members were all individuals and performed a wide range of professional services, including in the areas of investment management, analyst services, trading, portfolio management, accounting, taxes, information technology, settlement, legal services, human relations, client services, and administrative support.

Under Management Co.'s operating agreement, each Management Co. member was allocated a distributive share of Management Co.'s taxable income pro rata, based on each member's total units. In the years at issue, Management Co. treated all of its members as limited partners under Sec. 1402(a)(13), and, consequently, Management Co. reported only the members' guaranteed payments as being subject to self-employment tax.

Law and Analysis

Sec. 1401 imposes taxes on an individual's "self-employment income." Sec. 1402(a) defines "net earnings from self-employment" as the gross income derived by an individual from any trade or business, less deductions...