If a company reorganizes its Texas operations into a Texas limited partnership that elects under the federal 'check-the-box' rules to be taxed as a corporation and joins the company's consolidated federal tax return, does Texas's Intercorporate Services exemption cover services the company provides to that limited partnership?

Plain-English summary

A company reorganizing its Texas operations planned to move them into a newly formed Texas limited partnership ("Texas LP"). After the reorganization, the company would provide various services to Texas LP — services that would normally be subject to Texas sales and use tax if provided between unrelated companies. The twist: Texas LP would make a federal "check-the-box" election (filing IRS Form 8832 under Treas. Reg. 301.7701-3) to be treated as a corporation for federal income tax purposes, and would be included in the company's consolidated federal tax return as a member of an affiliated group under 26 U.S.C. Sec. 1504. The question was whether Texas's Intercorporate Services exemption would cover the services provided to this "check-the-box" partnership.

The Comptroller's answer: yes. Texas Tax Code Sec. 151.346 exempts service transactions among affiliated entities where at least one is a corporation reporting income on a single consolidated federal return, and defines "affiliated entity" to include an entity that would be classified as a member of an affiliated group under 26 U.S.C. Sec. 1504. Because Texas LP will be treated as a corporation and included in the company's consolidated return after checking the box, it counts as an affiliated entity, and services the company provides to it qualify for the Intercorporate Services exemption under Sec. 151.346(a) and 34 Tex. Admin. Code Sec. 3.331(d) — as long as those services weren't already taxable before September 2, 1987 (the exemption doesn't reach back to services that were taxable before that date), and as long as the exemption isn't being applied to a sale of tangible personal property (which the exemption never covers, only services).

What this means for you

Companies reorganizing into limited partnership structures

A Texas LP (or LLP) that elects to be taxed as a corporation under the federal check-the-box rules and joins its parent's consolidated federal return can be treated as an "affiliated entity" for Texas sales tax purposes — meaning intercompany services provided to it can qualify for the Intercorporate Services exemption, the same as if it were a wholly owned corporate subsidiary.

Tax and corporate structuring advisors

This is a useful confirmation that Texas's affiliated-entity definition under Sec. 151.346(b) follows the federal check-the-box classification, not the entity's state-law form (partnership vs. corporation) — so a partnership that elects corporate tax treatment and consolidated-return membership can be an "affiliated entity" for this exemption.

Accountants and tax professionals

Remember the two limits built into the exemption itself: it never covers sales of tangible personal property between affiliated entities (services only), and it doesn't reach services that were already taxable before September 2, 1987.

Common questions

Q: Does a limited partnership need to be legally organized as a corporation to get the Intercorporate Services exemption on services from its parent?
A: No — if it makes a federal "check-the-box" election to be treated as a corporation and is included in the parent's consolidated federal return as a member of an affiliated group under 26 U.S.C. Sec. 1504, it can qualify as an "affiliated entity" under Sec. 151.346(b) even though it's a partnership under state law.

Q: Does the Intercorporate Services exemption cover sales of goods (not services) between affiliated companies?
A: No — the exemption applies only to service transactions, not to sales of tangible personal property.

Q: Are all intercompany services automatically exempt once affiliated-entity status is established?
A: No — services that were already taxable before September 2, 1987 fall outside the exemption regardless of affiliated status.

Q: Can I rely on this letter for my own reorganization?
A: No. It's based on the specific facts presented and can be relied on only by the taxpayer to whom it was issued; other facts, even if similar, may produce a different result.

Citations and references

Statutes and rules:

• Texas Tax Code Sec. 151.346 (Intercorporate Services exemption)
• 34 Tex. Admin. Code Sec. 3.331(d) (Transfers of Common Interest in Tangible Personal Property; Intercorporate Services)
• 26 U.S.C. Section 1504 (federal affiliated group definition)
• Treas. Reg. 301.7701-3 ("check-the-box" entity classification election)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9908634L

Original ruling text

August 17, 1999

Dear **:

This is in response to Ms. **' request for a ruling regarding the
application of the Texas Intercorporate Service exemption to services provided
between certain related entities. She asked that I direct my response to your
attention. I appreciate your patience and apologize for the delay in
responding. The fact situation, issue and question are restated below,
followed by my response:

Our Client ("Company") is in the process of reorganizing its current
organizational structure. This reorganization will include the use of a Texas
limited partnership ("Texas LP") structure to conduct the current operations of
Company's Texas divisions.

Subsequent to the reorganization, Company will provide a variety of services to
Texas LP, some of which may be subject to Texas sales and use tax when provided
between unaffiliated corporations.

Texas has adopted the "check-the-box" rules which allow taxpayers to choose the
classification of their business entity (i.e., corporation versus partnership,
etc.).

Texas LP will "check-the-box" and elect to be treated as a corporation for
federal income tax purposes under Treas. Reg. 301.7701-3. The election is made
by filing Form 8832, Entity Classification Election, with the Internal Revenue
Service. Pursuant to "checking-the-box", Texas LP will be classified as a
member of an affiliated group under 26 United States Code, 1504 and will be
included in Company's consolidated federal tax return.

Issue

Whether the Texas Intercorporate Services exemption will apply to services
provided between Company and Texas LP.

Discussion and Law

Texas Code, Sec. 151.346, Intercorporate Services provides in part:

(a) There are exempt from the taxes imposed by this chapter service
transactions among affiliated entities at least one of which is a corporation
that report their income to the Internal Revenue Service on a single
consolidated return for the tax year in which the transaction occurs.

(b) For purposes of this section, "affiliated entity" includes an entity that
would be classified as a member of an affiliated group under 26 U.S.C. Section
1504 but for the exclusions provided by that section.

Texas Regulation, 34 TAC Sec. 3.331(d), Transfers of Common Interest in
Tangible Personal Property; Intercorporate Services provides in part:

(1) Sales or use tax is not due on charges for taxable services between
affiliated corporations which qualify to report their income to the Internal
Revenue Service on a single consolidated return with other members of the
affiliated group for the tax year in which the taxable service is provided.

(2) For the purposes of this subsection, "affiliated corporation" includes a
corporation that would be classified as a member of an affiliated group under
26 United States Code, 1504 but for the exclusion provided by that section.

(3) The exemption provided by this subsection does not apply to sales of
tangible personal property between affiliated corporations. Neither does the
exemption apply to services that were taxable before September 2, 1987.

Upon "checking-the box" Texas LP will be treated as a corporation for federal
income tax purposes. Further, Texas LP will be classified as a member of an
affiliated group under 26 U.S.C. Sec 1504 and will be included on Company's
consolidated federal tax return. Therefore, it appears Texas LP will be
considered an affiliated entity per Texas Code, Sec. 151.346 (b) and, to the
extent they were not taxable before September 2, 1987, services provided
between Company and Texas LP will qualify for the Texas Intercorporate Service
exemption.

Response: A limited partnership or a limited liability partnership that makes
an election under the "check the box" provisions of the IRC to be treated as a
corporation and that reports its income as a C corporation on the consolidated
return as a member of an affiliated group under IRC 1504, qualifies for the
intercorporate service exemption under Texas Tax Code 151.346(a).

This opinion is based on the facts presented. Other facts though similar may
provide a different result. I hope this information answers your questions.
If you need additional information, please call me toll-free at 1-800-531-5441,
extension 3-4502. The direct line is 512/463-4502. You may also write to Tax
Policy Division, Comptroller of Public Accounts. You may also e-mail our tax
help section at:

Sincerely,

Gilbert Zamora
Tax Policy Division