On January 16, 2026, the U.S. Court of Appeals for the Fifth Circuit issued a split decision (2–1) in Sirius Solutions v. Commissioner, a case with significant implications for partnership taxation. The ruling addresses the scope of the self-employment tax exclusion under Internal Revenue Code §1402(a)(13) and could reshape tax planning for limited partners in certain industries.
The dispute centered on the definition of a “limited partner” for purposes of the exemption from self-employment tax. The IRS had argued for a functional approach, applying a multi-factor test to determine whether a partner was a passive investor. Under this interpretation, active partners would not qualify for the exemption. The taxpayer, Sirius Solutions, contended that the statute requires a status-based approach, meaning any partner with limited liability under state law should qualify.
The Fifth Circuit sided with Sirius Solutions, holding that:
- A limited partner is defined by state-law limited liability status, not by level of participation in the business.
- The phrase “limited partner, as such” refers to the partner’s capacity as a limited partner, distinguishing ownership of a limited partnership interest from mixed ownership scenarios.
This interpretation rejects the IRS’s functional analysis signaling an important moment for partnerships, fund managers, and tax practitioners seeking predictability in how distributive share income is treated for Self-Employment Tax purposes. Similar cases are pending in the First and Second Circuits (Denham Capital Management and Soroban Capital Partners). Conflicting rulings could create a circuit split, increasing the likelihood of Supreme Court review.
For now, limited partners in state-law partnerships within the Fifth Circuit have a clearer and more favorable framework. Taxpayers outside the Fifth Circuit should monitor developments closely, as future decisions or legislative changes could alter the landscape. While the Tax Court may continue applying its functional test in other circuits, the Fifth Circuit’s statutory‑text approach marks a meaningful step forward.
Authors: Dan Mayo, Partner and Lead, National Tax Services | [email protected]; Colleen Fay, Partner and Practice Leader, Financial Services | [email protected]; and Dan Colon, CPA | [email protected]
Your Tax Strategy Simplified
With continued shifts in tax policy, staying proactive with your tax planning can help you take advantage of new opportunities and avoid unexpected liabilities. Withum’s Tax Planning Resource Center provides timely insights, planning tips and compliance reminders tailored to your needs.
Contact Us
For more information on this topic, reach out to Withum’s Business Tax Services Team.
