A blocker corporation is a type of

C Corporation A C corporation, under Income tax in the United States, United States federal income tax law, is any corporation that is taxed separately from its owners. A C corporation is distinguished from an S corporation, which generally is not taxed separ ...

in the

United States The United States of America (USA), also known as the United States (U.S.) or America, is a country primarily located in North America. It is a federal republic of 50 U.S. state, states and a federal capital district, Washington, D.C. The 48 ...

that has been used by tax exempt individuals to protect their investments from taxation when they participate in

private equity Private equity (PE) is stock in a private company that does not offer stock to the general public; instead it is offered to specialized investment funds and limited partnerships that take an active role in the management and structuring of the co ...

or with

hedge funds A hedge fund is a pooled investment fund that holds liquid assets and that makes use of complex trading and risk management techniques to aim to improve investment performance and insulate returns from market risk. Among these portfolio techniq ...

. In addition to tax exempt individuals, foreign investors have also used blocker corporations.

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Most private equity funds and hedge funds are composed as

limited partnership A limited partnership (LP) is a type of partnership with general partners, who have a right to manage the business, and limited partners, who have no right to manage the business but have only limited liability for its debts. Limited partnership ...

s, or as LLCs (

Limited Liability Company A limited liability company (LLC) is the United States-specific form of a private limited company. It is a business structure that can combine the pass-through taxation of a partnership or sole proprietorship with the limited liability of ...

) which for tax purposes is considered a Limited Partnership, unless the fund formally elects to be taxed as a corporation. This allows the fund itself to avoid taxation, as each of the individual investors is taxed as a partner with respect to the share of profits attributable to the partner's personal equity interest. By comparison, a fund set up as a C Corporation would be subject to tax for its earnings, and then the limited partners would be subject to tax when they received their profit in the form of dividends distributed by the corporation. Thus, the LLC or LP format allows a fund to avoid double taxation. When there are tax exempt investors in a fund, they are not subject to U.S. income tax, but are still required to declare and pay taxes on " Unrelated Business Taxable Income" or " UBTI".26 USCA 513
/ref> For tax exempt investors,

dividend A dividend is a distribution of profits by a corporation to its shareholders, after which the stock exchange decreases the price of the stock by the dividend to remove volatility. The market has no control over the stock price on open on the ex ...

royalties A royalty payment is a payment made by one party to another that owns a particular asset, for the right to ongoing use of that asset. Royalties are typically agreed upon as a percentage of gross or net revenues derived from the use of an asset or ...

, rents,

capital gain Capital gain is an economic concept defined as the profit earned on the sale of an asset which has increased in value over the holding period. An asset may include tangible property, a car, a business, or intangible property such as shares. ...

s and interest income are not considered UBTI, but any money earned from conduct unrelated to the entity's tax exempt purpose is considered UBTI. However, if a foreign investor conducts a trade or business within the United States, it is required to file a U.S. tax return and pay taxes on the same terms as a U.S. individual or corporation. In both cases, because partners are treated as earning their share of the partnership's income on a flow-through basis, they are treated as engaged in a U.S. trade or business or an unrelated business to the extent that the partnership is so engaged. To address these issues, a

fund can set up a U.S. feeder corporation known as a blocker corporation. The foreign and tax exempt investors can invest through the blocker corporation, and then they are no longer personally considered to be partners, as it is the domestic corporation that is the owner of equity in the fund. For tax exempt investors, their share of the blocker corporation is considered dividend income, and thus they are not subject to tax.US House Ways and Means Committee Testimony
Foreign investors similarly avoid U.S. trade or business income tax (although they will be subject to tax in their home country on any dividends received). The blocker corporation itself is subject, however, to tax on its share of the partnership's income.

References

{{DEFAULTSORT:Blocker Corporation Corporate taxation in the United States Types of business entity Financial services in the United States Tax avoidance

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See also

References