MLP Logistics Carve-Out: Prudent Structuring or Economic Sham?

Medium

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🏢 Client

We're looking at rolling up a bunch of natural gas processing assets into a single MLP structure — about $2 billion in enterprise value. The core business is obviously qualifying income under 7704: we take raw natural gas, separate out the NGLs, and move both products through our pipelines. No issues there. Here's my question. We also want to bolt on a logistics and storage business that handles …

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Case Summary ▾

Complexity ⓘ Medium

Fact Pattern Formation of $2 billion natural gas processing MLP with ancillary trucking and railcar loading operations representing 15-20% of projected EBITDA ($75-100M annually). Taxpayer elected to exclude logistics operations from MLP structure and house them in taxable C-corp subsidiary to avoid qualifying income test risk under IRC § 7704.

Position Taken Exclude trucking and railcar loading income from MLP structure and operate logistics business through separate C-corporation subsidiary paying corporate tax. Position preserves MLP qualifying income ratio above 90% threshold by housing potentially non-qualifying transportation income outside the partnership. Recommended despite $15M+ annual tax cost due to audit risk that IRS would characterize truck/rail logistics as non-qualifying service income rather than mineral transportation under IRC § 7704(d)(1)(E), potentially triggering retroactive corporate taxation of entire MLP.

IRS Challenge Examiner would verify no logistics income was misclassified as pipeline transportation income in bundled charges; challenge transfer pricing between MLP and C-corp subsidiary under IRC § 482 to ensure arm's-length pricing for shared facilities; assess whether C-corp subsidiary lacks economic substance as separate enterprise if entities remain operationally integrated with shared management and customers, potentially recharacterizing structure under substance-over-form doctrine and reallocating non-qualifying income to MLP.

Authorities

IRC § 7704(a) IRC § 7704(c) IRC § 7704(d)(1)(E) IRC § 482 Treas. Reg. § 1.7704-4(c)(1) Treas. Reg. § 1.7704-4(d) Treas. Reg. § 1.482-1(a)(1)