Massachusetts Rejects State Attempt to Tax Out-of-State Entity’s Gain from Sale of Partnership

July 12, 2022

By: Jeff Glickman, SALT Partner

At a glance

  • The main takeaway: A recent tax court case out of Massachusetts tackles the issue of analyzing the state income tax consequences of selling a partnership interest.
  • Impact on your business: Though the case provides little clarity on how to handle this tax event, it does highlight two potential approaches to taxing nonresident pass-through entity owners on gains from the sale of a partnership interest.
  • Next steps: Aprio’s State and Local Tax (SALT) team can help you comply with state income tax obligations and provide potential structuring alternatives to minimize multistate tax liabilities.

Schedule a consultation today

The full story:

It is a generally well-settled state income tax principle that if a taxpayer owns an interest in a pass-through entity (PTE), that taxpayer is required to pay tax in each of the states in which the PTE does business based on its distributive share of income in the PTE and the PTE’s state apportionment factors.  This information is typically provided on a state K-1 form.

However, what happens when that taxpayer sells its interest in the PTE (i.e., sells its partnership/limited liability company (LLC) membership interest or S-corporation stock)? Since that income does not flow to the taxpayer from the PTE on a K-1, do the states where the PTE files income tax returns have a right to tax the owner on the gain from the sale of the entity?

This is one of the more complicated state income tax issues, since there is often a lack of clear statutory guidance, typical of many state income tax issues dealing with PTEs (particularly multitier PTE structures). A recent Massachusetts Supreme Judicial Court opinion addresses this issue, and although it did agree with the taxpayer, the opinion failed to provide any real clarity moving forward.[1]

Taking a closer look at the case

The relevant facts are as follows: The taxpayer, a Florida LLC taxed as an S corporation, owned a 50% membership interest in a partnership (a Massachusetts LLC) doing business in Massachusetts and in other states. In October 2013, the taxpayer sold its interest in the partnership. For the couple of years leading up to the sale, the taxpayer had no employees or operations, and did not own or lease any real or tangible personal property. Its only material asset was its 50% membership interest in the partnership, and its only tax connection to the state of Massachusetts was through that ownership.  

The opinion states that the taxpayer and the partnership “lacked the functional integration, centralization of management, and economies of scale that are the ‘hallmarks’ of a unitary business relationship.” The taxpayer had “zero” involvement in the operations of the partnership, did not participate in its management or activities, and did not provide services or loan money. In fact, the taxpayer and the state agreed throughout this litigation that none of the unitary business factors were present between the taxpayer and the partnership.

For state income tax purposes, the taxpayer paid Massachusetts nonresident composite taxes on the Massachusetts source income generated by the partnership in the ordinary course of business (i.e., the partnership flow-through income). However, the gain from the sale of its interest in the partnership was not sourced to Massachusetts, and it passed through to each of the S-corporation shareholders, who paid state tax on the gain in their states of residence. 

On audit, Massachusetts issued an assessment to the taxpayer for Massachusetts income tax on the gain from the sale of the partnership interest even though the taxpayer had no other Massachusetts presence, based on the state’s contention that the value of the partnership had increased because of the partnership’s activities conducted in Massachusetts.

The bottom line

This case highlights two potential approaches to taxing nonresident PTE owners on a gain from the sale of a partnership interest. The first, and more commonly applied, approach is based on the existence of a unitary business. In those cases, if the PTE owner and the PTE are engaged in a unitary business, then the PTE owner would include the gain in its apportionable tax base. The second approach, applied in very few instances among the states, is what Massachusetts is asserting here — the investee apportionment approach — requiring the PTE owner to source the gain to the state based on the partnership’s (i.e., the investee’s) activity in Massachusetts.

The Court’s opinion concluded first that Massachusetts may constitutionally be allowed to apply the investee approach and that the unitary business approach is not necessarily the sole constitutionally valid approach to asserting taxing authority over a nonresident on a gain from the sale of a PTE. However, the Court then held that in this case, the Massachusetts statutes do not authorize the use of the investee approach and only allow the state to tax the gain based on the unitary business principle.  Therefore, given the lack of a unitary business between the taxpayer and the partnership, the Court ruled in favor of the taxpayer.

Addressing the multistate income tax consequences of the sale of an interest in a PTE is a complicated analysis that needs to take into consideration a variety of factors based on the existing guidance in each of the states.

Aprio’s SALT team has experience with analyzing these issues, and we can help your business make sure that it complies with its state income tax obligations. We can also provide potential structuring alternatives to minimize multistate tax liabilities. We constantly monitor these and other important state tax topics, and we will include any significant developments in future issues of the Aprio SALT Newsletter.

Contact Jeff Glickman, partner-in-charge of Aprio’s SALT practice, at for more information.

This article was featured in the June 2022 SALT Newsletter

[1] VAS Holdings & Investments LLC vs. Commissioner of Revenue, 489 Mass. 669 (Mass. Supreme Judicial Court, May 16, 2022).


Any tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or under any state or local tax law or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Please do not hesitate to contact us if you have any questions regarding the matter.

Recent Articles

About the Author

Jeff Glickman

Jeff Glickman is the partner-in-charge of Aprio, LLP’s State and Local Tax (SALT) practice. He has over 18 years of SALT consulting experience, advising domestic and international companies in all industries on minimizing their multistate liabilities and risks. He puts cash back into his clients’ businesses by identifying their eligibility for and assisting them in claiming various tax credits, including jobs/investment, retraining, and film/entertainment tax credits. Jeff also maintains a multistate administrative tax dispute and negotiations practice, including obtaining private letter rulings, preparing and negotiating voluntary disclosure agreements, pursuing refund claims, and assisting clients during audits.

(770) 353-4791