If a nonresident is the sole general partner of a limited partnership that only buys and sells options for its own account through him as an AMEX Options Principal Member, is his distributive share of that income taxable as New York-source income?

Plain-English summary

Petitioner, Christopher L. Doyle, is a nonresident individual who is the sole general partner of a limited partnership ("LP"). The LP's only activity in New York is buying and selling options contracts for its own account on the American Stock Exchange (AMEX), which Petitioner carries out by trading as an Options Principal Member ("OPM") of the AMEX.

The opinion explains that the AMEX has two classes of floor membership. "Regular members" have the widest range of privileges: only regular members may be Specialists (the members obligated to post prices and stand ready to buy or sell up to ten contracts at their posted price under AMEX Rule 958A if no one else will), and only regular members may act as Floor Brokers or otherwise transact business with the public. OPMs, by contrast, hold a much more limited membership created in 1977: an OPM may only execute transactions in options initiated for his own account (or give orders for his own account to regular members for execution). An OPM cannot execute agency transactions for customers or other members, cannot be registered as a Specialist, and cannot trade stocks, warrants, bonds, or other securities as agent or principal - only options, for his own account. Under AMEX Rule 958, an OPM's only obligation is to engage in a "course of dealings reasonably calculated to contribute to the maintenance of a fair and orderly market," and he is free to leave the trading floor or a particular trading crowd at any time; the obligation to "make a market" belongs to the Specialist alone.

Tax Law § 631(a) makes a nonresident's distributive share of partnership income New York-source income to the extent it is derived from or connected with New York sources, including a business, trade, profession or occupation carried on in New York (§ 631(b)). But § 631(d) carves out an exception: a nonresident (other than a dealer holding property for sale to customers) is not deemed to carry on a business in New York solely because he buys, sells, or writes stock option contracts for his own account. Following its own prior opinions in Kenneth S. Davidson Partners (TSB-A-88(11)I) and Paul E. Singer (TSB-A-92(2)I), the Department held that because Petitioner, as an OPM, is neither a "market maker" nor a dealer - that role belongs only to the Specialist - and because the LP's activities are limited to buying and selling options for its own account, the LP is not carrying on a business, trade, profession or occupation in New York. Petitioner's distributive share of the LP's income is therefore not New York-source income under Tax Law § 631(a).

What this means for you

Nonresident partners in NY-based trading/options partnerships

If you are a nonresident who is a partner in a partnership whose New York activity is limited to buying, selling, or writing options (or other property) for the partnership's own account, Tax Law § 631(d) generally keeps that activity from being treated as a New York business. That means your distributive share of the partnership's income is not automatically New York-source income merely because the trading happens on a New York exchange. This exception does not apply to a dealer who holds property primarily for sale to customers in the ordinary course of business.

Floor members trading solely for their own account on NY exchanges

If you trade on an exchange like the AMEX through a limited membership category (such as an OPM) that legally prevents you from acting as a market-making Specialist, from executing customer or agency orders, or from trading securities other than options as agent or principal, that restriction supports the conclusion that you are trading only for your own account. If instead your trading privileges let you make markets, handle customer orders, or otherwise transact business with the public, the own-account exception would not apply and the income could be treated as New York-source.

Common questions

Q: Does buying and selling options on a New York exchange automatically make a nonresident's partnership income New York-source income?
A: No. Tax Law § 631(d) provides that a nonresident (other than a dealer holding property for sale to customers) is not deemed to carry on a business in New York solely by purchasing, selling, or writing stock option contracts for the individual's own account, even if that trading occurs on a New York exchange.

Q: What is the difference between an AMEX "regular member" and an "Options Principal Member" (OPM) that mattered here?
A: Regular members may be Specialists, may be Floor Brokers, and may otherwise transact business with the public. OPMs may only execute options transactions initiated for their own account; they cannot execute agency transactions for customers or other members, cannot be Specialists, and cannot trade stocks, warrants, bonds, or other securities (except options) as agent or principal.

Q: Why does it matter that Petitioner could not be a Specialist?
A: The Specialist is the member obligated to "make a market" - to post prices and to buy or sell options at those posted prices even when no one else will (AMEX Rule 958A). An OPM has no such obligation; under AMEX Rule 958, an OPM need only engage in dealings reasonably calculated to contribute to a fair and orderly market, and may leave the floor at any time. Because that market-making obligation belongs to the Specialist alone, the Department concluded Petitioner was not a "market maker" or dealer.

Q: Would the answer change if the LP also engaged in market-making activities?
A: Yes. The Department's earlier opinion in Kenneth S. Davidson Partners (TSB-A-88(11)I) specifically noted that a partnership would not be considered to be trading solely for its own account if it engaged in activities such as market making. Here, because Petitioner traded only as an OPM - who cannot register as a Specialist or make markets - that concern did not apply.

Q: Does using a tiered partnership structure or having a partner who is itself a partnership change the result?
A: No. In Paul E. Singer (TSB-A-92(2)I), the Department held that a partnership engaged solely in trading securities for its own account was not carrying on a business in New York even though its income passed through a tiered partnership arrangement before ultimate distribution to the individual.

Q: Would executing agency or customer orders change the result?
A: Yes. An OPM who executed agency transactions for customers or other Exchange members, or who traded stocks, warrants, bonds, or other securities as agent or principal, would exceed the limited privileges of an Options Principal Membership and would no longer be trading solely for the partnership's own account, which is the basis for the § 631(d) exception.

Citations and references

• Tax Law § 631(a) - New York source income of a nonresident includes the individual's distributive share of partnership income, gain, loss and deduction
• Tax Law § 631(b) - New York source income includes items attributable to a business, trade, profession or occupation carried on in New York
• Tax Law § 631(d) - a nonresident, other than a dealer holding property for sale to customers, is not deemed to carry on a business in New York solely by buying, selling, or writing property or stock options for the individual's own account
• TSB-A-88(11)I, Kenneth S. Davidson Partners - own-account trading in index, currency, debt, and futures options is not carrying on a business in New York, unless the partnership also engages in market-making activities
• TSB-A-92(2)I, Paul E. Singer - a partnership trading securities solely for its own account is not carrying on a business in New York, even through a tiered partnership arrangement
• AMEX Rule 958 - an Options Principal Member need only engage in a course of dealings reasonably calculated to contribute to the maintenance of a fair and orderly market
• AMEX Rule 958A - the Specialist's obligation to complete a trade of up to ten options contracts at his posted price if no other member takes the remaining portion

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/income_ao_1998.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/income/a98_13i.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-98(13)I
Income Tax
November 5, 1998

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. I980814B

On August 14, 1998, a Petition for Advisory Opinion was received from
Christopher L. Doyle, Hodgson, Russ, Et. Al., 1800 One M&T Plaza, Buffalo, New
York 14203-2391.
The issue raised by Petitioner, Christopher L. Doyle, is whether a
nonresident individual, who is the sole general partner of a limited partnership
whose only activity in New York is buying and selling options and other
securities for its own account by trading under an Options Principal Member (an
"OPM") of the American Stock Exchange ("AMEX"), must treat his distributive share
of the partnership's income as New York source income for personal income tax
purposes under Article 22 of the Tax Law.
Petitioner submits the following facts as the basis for this Advisory
Opinion.
A: The Amex
Taxpayer, an individual, is not a resident of New York. He is a general
partner in a limited partnership ("LP") engaged as an OPM on the AMEX. The AMEX
is a well established market on which both stocks and stock options are traded.
Trading is accomplished by using an auction system. The main players in this
system are the Intake Broker, the Specialist, the OPM and the Floor Broker.
A typical transaction starts with a customer who contacts an Intake Broker
asking him to buy some stock options on (for example) XYZ stock. The Intake
Broker handles the trade for a commission. The broker contacts a member on the
floor of the AMEX and directs him to buy the options on the XYZ stock. This
member, who receives a fee for the transaction, is called a Floor Broker. The
Floor Broker goes to the location where the Specialist for XYZ stock options does
business. OPM's have limited memberships which permit them to do nothing more
than trade on their own accounts.
If an OPM wants to buy (or sell) an XYZ
option, he will congregate near the Specialist for the XYZ stock options.
B: Regular Members
The AMEX has authorized two different classes of memberships to conduct
trading activities on the floor of the AMEX, a regular membership and an Options
Principal Membership. Regular memberships afford members the widest range of
possible activities.
Only regular members may be Specialists.
Regular
membership is required if the member wishes to either trade or specialize in all
the stocks (i.e. equity interests) listed on the AMEX. Finally, only regular
members may be Floor Brokers or otherwise transact business with the public.

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The Specialist is responsible for both establishing and maintaining the
prices at which the various options will trade. He does so by displaying the
price he (or an OPM or a public customer if their price is higher) is willing to
pay for a particular option. He will also display another, slightly higher price
he (or an OPM or a public customer if their price is lower) will accept for
selling it.
In the example, the Floor Broker will announce he is seeking to purchase
options on XYZ stock, how many he wants and the price he is willing to pay. If
the price is the Specialist's price, the Specialist will indicate how much of the
transaction he will do.
If the Specialist is unwilling to participate as a
counter-party for the entire transaction, he will ask the OPMs if any of them
wish to participate in the remaining portion of the transaction. The OPMs will
then compete to participate in the portion of the transaction not taken by the
Specialist. In many cases, the Specialist will decide which OPMs may participate
in the transaction. If no OPM is willing to take part in the transaction, and
if the price meets that posted by the Specialist, the Specialist is obligated to
complete the trade for up to ten options contracts at the posted price. This
obligation of the Specialist is explained in AMEX Rule 958A.
The Specialist, who must be a "regular" member (not an OPM) appointed to
his position by the Exchange, must at all times be present and willing to buy or
sell the options in which he specializes. He may not leave his post or refuse
to post prices at which options can be bought and sold. If an offer to buy or
sell is made, consistent with the prices he has posted, he must honor the offer.
Thus, it is the Specialist who is obligated to "make a market". He is
required to post the prices at which various options will be bought or sold and
has the responsibility to buy or sell them if no one else will. OPMs merely
compete with each other to participate in the market created by the Specialist
when they see fit to do so.
C: OPMs
According to AMEX Rule 958, an OPM is not required to do anything other
than engage in a "course of dealings reasonably calculated to contribute to the
maintenance of a fair and orderly market". At any time during the trading day,
an OPM may leave the area where a particular option is traded and go to another
area. He may leave the floor altogether if he chooses. If an offer to buy or
sell options comes to the floor of the Exchange, an OPM is not obligated to
participate in the transaction. That obligation belongs to the Specialist alone.
The Options Principal Membership, which was created in 1977, severely
limits the kind of activity an OPM may conduct. Petitioner provides that the
Offering Memorandum for Options Principal Memberships describes the privileges
allowed this type of membership:
An options principal member may execute on the floor of the Exchange
transactions in options initiated by him for his own account and may
give orders in options for his own account to regular members of the

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Exchange for execution.
Such member may not execute agency
transactions on the floor either for customers or for regular,
associate or allied members of the Exchange or other options
principal members, may not be registered as a specialist, may not
execute on the Exchange any orders, whether as agent or principal,
in stocks, warrants, bonds or other securities (except principal
transactions in options) and may not accept orders from his member
organization for execution. An options principal membership will
not carry any of the privileges of regular membership except as
described above and as otherwise specifically provided in the
Constitution of the Exchange.
In short, although often referred to as "market makers", OPMs may do nothing but
buy and sell options contracts for their own accounts and can only do so with
other members of the Exchange.
Like other OPMs, LP's business activities are limited to buying and selling
options (and the related underlying securities) for its own account.
Discussion
Section 631(a) of the Tax Law provides that the New York source income of
a nonresident individual includes the net amount of items of income, gain, loss
and deduction entering into the individual's federal adjusted gross income
derived from or connected with New York sources, including the individual's
distributive share of partnership income, gain, loss and deduction, determined
under section 632 of the Tax Law.
Section 631(b) of the Tax Law provides that items of income, gain, loss and
deduction derived from or connected with New York sources include those items
attributable to a business, trade, profession or occupation carried in New York
State. However, section 631(d) of the Tax Law provides that a nonresident, other
than a dealer holding property primarily for sale to customers in the ordinary
course of the individual's trade or business, shall not be deemed to carry on a
business, trade, profession or occupation in this state solely by reason of the
purchase and sale of property or the purchase, sale or writing of stock option
contracts, or both, for the individual's own account.
In Kenneth S. Davidson Partners, Adv Op Comm T&F, June 28, 1988, TSB-A­
88(11)I, it was held that the purchase and sale by the partnership of options on
indexes, foreign currencies, debt obligations and futures contracts and the
exercise, closing out or expiration of such options solely for its own account
did not constitute the carrying on of a business, trade, profession or occupation
in New York State. However, the opinion noted that the partnership would not be
considered to be solely trading for its own account if it engaged in certain
other activities such as market making activities.
In Paul E. Singer, Adv Op Comm T&F, June 4, 1992, TSB-A-92(2)I, a
partnership with its principal office in New York engaged in trading securities
for its own account.
It had two general partners, one was a nonresident

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individual and the other was a limited partnership. The opinion held that the
partnership was not carrying on a trade or business in New York because it was
engaged solely in trading for its own account, thus the income attributable to
the partnership was not New York source income, and this did not change despite
the existence of a tiered partnership arrangement, where the partnership's income
is funneled through the limited partnership before its ultimate distribution, or
deemed distribution to the individual.
In this case, Taxpayer is a general partner in a LP. The LP's business
activities are limited to buying and selling options contracts for its own
account, which is conducted by Taxpayer as an OPM on the AMEX.
As an OPM,
Taxpayer may buy and sell options contracts for the LP's own account, but he may
not "execute agency transactions on the floor either for customers or for
regular, associate or allied members of the Exchange or other options principal
members, may not be registered as a specialist, may not execute on the Exchange
any orders, whether as agent or principal, in stocks, warrants, bonds or other
securities (except principal transactions in options) and may not accept orders
from his member organization for execution."
Taxpayer may contribute to the maintenance of a fair and orderly market by
trading for his own account, but he is not a "specialist" who is required to
establish and maintain a fair and orderly market by executing orders as agent as
well as principal. Therefore, as an OPM, Taxpayer is neither a "market maker"
nor a dealer in options contracts, and, pursuant to section 631(d) of the Tax
Law, Davidson, supra, and Singer, supra, LP is not carrying on a business, trade,
profession or occupation in New York by buying and selling options contracts for
its own account through Taxpayer, as an OPM on the AMEX. Accordingly, Taxpayer's
distributive share of LP's income is not New York source income under section
631(a) of the Tax Law.

DATED:

November 5, 1998

NOTE:

/s/
John W. Bartlett
Deputy Director
Technical Services Bureau

The opinions expressed in Advisory Opinions
are limited to the facts set forth therein.