under REG 1.469-5T(e)(1) a limited partner is not treated as materially participating in an activity. However, (e)(2) contains an exception to (e)(1) and that is if they qualify as materially participating under (a)(1), (5) or (6)
(a)(1) the individual participated for more than 500 hours during the tax year
(a)(5) the individual materially participated in the activity for any 5 tax years during the 10 tax years preceding the current tax year
(a)(6) the activity is a personal service activity under paragraph (d) and the individual participated in the activity for any 3 tax years preceding the current tax year
(d) An activity constitutes a personal service activity if such activity involves the performance of personal services in—
(1) The fields of health, law, engineering, architecture, accounting, actuarial science, performing arts, or consulting; or
(2) Any other trade or business in which capital is not a material income-producing factor.
this may be why Turbotax is asking about MP even though you checked LP
i would think that since you're fully employed you are spending more than 500 hours participating in this activity so you would be materially participating under (a) (1) via (e)(2)
there could be a conflict under state law as to LP status and federal law as to liability for self-employment taxes if they apply to the partnership activity. Tax court has held an active limited partner is subject to SE tax.
On November 28, 2023, the Tax Court in Soroban Capital Partners LP v. Commissioner held that the phrase “limited partner, as such” means that, in order to benefit from the self-employment exclusion, a limited partner must be passive and cannot actively participate in the partnership. The Tax Court did not consider whether even de minimis participation would disqualify a limited partner from the exclusion. Accordingly, under Soroban, limited partners in private equity and hedge fund managers must pay self-employment tax if they actively participate in the manager.
The Tax Court did not set forth the specific factors that would indicate when a limited partner is actively participating in the partnership’s business. Notwithstanding this continued uncertainty, under the Tax Court’s reasoning, it is likely that most limited partners of investment management firms structured as limited partnerships who participate in the day-to-day activities of the firm would not be considered “limited partners, as such”. And therefore, managers who take the position that their active limited partners are not subject to self-employment tax may wish to reconsider that position in light of Soroban.
Generally, section 1401(a) imposes self-employment tax on an individual’s distributive share of income or loss from any trade or business carried on by a partnership of which the individual is a partner. However, section 1402(a)(13) excludes from the computation of self-employment tax the distributive share of income or loss of a “limited partner, as such”. The limited partner exception does not apply to “guaranteed payments” to a limited partner for services actually rendered to, or on behalf of, the partnership to the extent that the payments represent remuneration for those services.
Neither the Code nor the Treasury regulations define “limited partner” for these purposes. The legislative history indicates that Congress enacted section 1402(a)(13) to prevent limited partners from using passive limited partnership interests to qualify for Social Security benefits.
