Trade Association Says Proposed PTP Regs Should Be Modified

NPGA is the national trade association representing virtually every segment of the U.S. propane industry including businesses engaged in the retail marketing of propane gas and appliances, among other activities. We are pleased to submit these comments on behalf of our members, but particularly those that currently conduct business as MLPs.

We appreciate the desire of Treasury and the Internal Revenue Service ("IRS") to provide guidance with respect to the qualifying income requirements of Internal Revenue Code ("Code") section 7704 as they relate to certain natural resources. To date, guidance in this area generally has been limited to the plain reading of the statute and legislative history, and private letter rulings and other informal guidance. Significant recent developments in the production of oil and gas resources raise issues as to whether certain new activities give rise to qualifying income. While we understand the desire of Treasury and the IRS to address these new issues, we believe the government should also take the opportunity in the new regulations to solidify well-settled law with respect to activities that have been undertaken by propane MLPs since before the enactment of Code section 7704 and have been recognized as qualifying activities upon and since enactment in 1987.

Background

Congress enacted Code section 7704 in 1987 to address the conversions of certain C corporations to MLP status following significant changes in tax law by the Tax Reform Act of 1986, including the inversion of the individual and corporate marginal income tax rates. Through Code section 7704, Congress limited the availability of partnership status for publicly traded entities to those entities with sufficient income from certain sources -- largely, investment income and income from certain activities related to natural resources (commonly known as "passive-type income"). Income from retail activities related to natural resources generally was not qualifying income.¹ Congress provided a ten-year grandfather for entities that were partnerships as of the effective date of section 7704 but that did not have sufficient qualifying income after such date.

At least one propane company operated as an MLP before Congress enacted Code section 7704. Petrolane Partners, L.P. was formed in March 1987, prior to the enactment of section 7704, as a publicly traded partnership. Petrolane distributed propane to over 500,000 retail customers in 42 States. The chairmen of both Congressional tax-writing committees made it clear in floor statements that the legislation was not intended to affect Petrolane's status as a partnership despite its retail sales activity. On December 21, 1987, House Ways and Means Committee Chairman Dan Rostenkowski made the following floor statement in explaining the qualifying income requirement of new Code section 7704:

The IRS has also had an opportunity to consider whether a publicly traded propane company serving retail customers could be treated as a partnership. Chief Counsel Advice 200749012⁷ dealt with a publicly traded partnership whose business principally consisted of transporting and selling propane purchased from third parties to the taxpayer's distribution locations and then to tanks on customers' premises and to portable propane tanks. The distribution to residential customers generally involved a large number of low volume deliveries by bulk delivery trucks. The taxpayer also delivered propane to industrial and commercial customers.

The IRS reviewed the 1987 and 1988 legislative histories of Code section 7704, focusing on the general disqualification of income derived from retail sales. The Service also reviewed the floor statements of the two tax-writing committee chairmen in 1987 regarding propane deliveries and the incorporation of those statements into the 1988 legislative history. The IRS concluded that the joint statements "were viewed as authoritative pronouncements concerning the scope of the legislation," and that Congress intended that the retail activities of the propane MLP were of the types that give rise to qualifying income for purposes of Code section 7704.

Relying on this, and similar analyses, several publicly traded propane companies with consumer retail deliveries have since been treated as partnerships. The legislative history of section 7704, as illustrated by the IRS' analysis in Chief Counsel Advice 200749012, clearly indicates that these companies qualified for partnership status. Thus, these propane companies generally went forward with their partnership transactions without first obtaining a private letter ruling.

Proposed regulations

Code section 7704(d)(1)(E) lists activities with respect to natural resources that give rise to qualifying income.⁸ The legislative history to section 7704 provides a more comprehensive meaning for these activities, including a general prohibition on retail activities (except for retail activities related to propane). The proposed regulations incorporate many of the definitions and distinctions found in the legislative history, including the general prohibition against retail activities. For example, proposed regulations section 1.7704-4(c)(6) provides that:

Suggested modification to proposed regulations

The final regulations under section 7704(d)(1)(E) should more fully incorporate the entire legislative history related to the section by explicitly including the language of the floor statements of Chairmen Rostenkowski and Bentsen regarding propane partnerships. To include the prohibitions against certain retail activities found exclusively in the legislative history, but not include the language related to propane partnerships also found in the same legislative history, will create uncertainty that has not existed since the enactment of section 7704.

Publicly traded propane companies have relied on this legislative history to operate as partnerships. Also, the IRS has concurred with this treatment as evidenced by Chief Counsel Advice 200749012. Nothing has happened since the legislative history was drafted that should change this analysis. Finally, if the intent of regulations is to clarify the scope of qualifying income from natural resources, excluding the legislative history relating to propane partnerships could have the opposite, and presumably unintended, effect.

Before the issuance of the proposed regulations, the availability of partnership status for propane companies was clear and consistent with legislative history. However, partnership status could be in doubt if the final regulations go forward with the current proposed regulation language regarding retail activity, but without the propane language. The current language could be read to deny partnership status to currently operating propane partnerships, contrary to congressional intent. The reference in the preamble of the proposed regulations to the floor statement of Chairman Bentsen presumably would disappear with the proposed regulations, and its applicability to the final regulations would be unclear. Similarly, without a clear indication otherwise, there could be questions as to whether the position of Chief Counsel Advice 200749012 was superseded by the final regulations.

For these reasons, we respectfully request that the body of the final regulations include the language from the floor statements and legislative history relating to propane partnerships. In addition, the final regulations should include an example that clarifies that the retail transportation and marketing activities described in the floor statements gives rise to qualifying income under Code section 7704.

Thank you for your attention to this important matter. Please do not hesitate to contact the undersigned if you have any questions or comments regarding this submission.

² 133 Cong. Rec. H 11,968 (December 21, 1987).

³ 133 Cong. Rec. S 18,651 (December 22, 1987).

⁴ H.R. Report 100-795, 100^th Cong., 2d Sess. (July 26, 1988), p. 401.

⁵ S. Report 100-445, 100^th Cong., 2d Sess. (August 1, 1988), p. 425.

⁶ H.R. Report 100-1104, 100^th Cong., 2d Sess. (October 21, 1988), pp. 17-18.

⁷ December 7, 2007.

⁸ These activities are exploration, development, mining or production, processing, refining, transportation and marketing.