Transfer Agent and Registrar
Duties.
American Stock Transfer and Trust Company, LLC serves as the registrar and transfer agent for the common units. We pay all
fees
charged by the transfer agent for transfers of common units, except the following, which must be paid by unitholders:
-
-
surety bond premiums to replace lost or stolen certificates, taxes and other governmental charges;
1
Table of Contents
-
-
special charges for services requested by a holder of a common unit; and
-
-
other similar fees or charges.
There
are no charges to unitholders for disbursements of our cash distributions. We indemnify the transfer agent, its agents and each of their stockholders, directors, officers and
employees against all claims and losses that may arise out of acts performed or omitted for its activities in that capacity, except for any liability due to any gross negligence or intentional
misconduct of the indemnified person or entity.
Resignation or Removal.
The transfer agent may resign, by notice to us, or be removed by us. The resignation or removal of the transfer
agent will
become effective upon our appointment of a successor transfer agent and registrar and its acceptance of the appointment. If a successor has not been appointed or has not accepted its appointment
within 30 days after notice of the resignation or removal, our general partner may act as the transfer agent and registrar until a successor is appointed.
Transfer of Common Units
By transfer of common units in accordance with our partnership agreement, each transferee of common units shall be admitted as a limited partner
with respect to the common units transferred when such transfer and admission is reflected in our books and records. Each transferee:
-
-
represents that the transferee has the capacity, power and authority to become bound by our partnership agreement;
-
-
automatically agrees to be bound by the terms and conditions of, and is deemed to have executed, our partnership agreement; and
-
-
gives the consents and approvals contained in our partnership agreement.
A
transferee will become a substituted limited partner of our partnership for the transferred common units automatically upon the recording of the transfer on our books and records. Our
general partner will cause any transfers to be recorded on our books and records no less frequently than quarterly.
We
may, at our discretion, treat the nominee holder of a common unit as the absolute owner. In that case, the beneficial owner's rights are limited solely to those that it has against
the nominee holder as a result of any agreement between the beneficial owner and the nominee holder.
Common
units are securities and are transferable according to the laws governing transfers of securities. In addition to other rights acquired upon transfer, the transferor gives the
transferee the right to become a substituted limited partner in our partnership for the transferred common units.
Until
a common unit has been transferred on our books, we and the transfer agent may treat the record holder of the common unit as the absolute owner for all purposes, except as
otherwise required by law or stock exchange regulations.
Listing
Our common units are listed on the NYSE under the symbol "EMES."
2
Table of Contents
THE PARTNERSHIP AGREEMENT
The following is a summary of the material provisions of our partnership agreement. We will provide prospective investors with a copy of this
agreement upon request at no charge.
We
summarize the following provisions of our partnership agreement elsewhere:
-
-
with regard to distributions of available cash, please read "How We Make Cash Distributions";
-
-
with regard to the fiduciary duties of our general partner, you should read the risk factors included in our most recent Annual Report on
Form 10-K and subsequent Quarterly Reports on Form 10-Q and Current Reports on Form 8-K;
-
-
with regard to the transfer of common units, please read "Description of Our Common UnitsTransfer of Common Units"; and
-
-
with regard to allocations of taxable income and taxable loss, please read "Material U.S. Federal Income Tax Consequences."
Organization and Duration
We were formed in April 2012 as a Delaware limited partnership. Our partnership will have perpetual existence unless terminated pursuant to the
terms of our partnership agreement.
Purpose
Our purpose, as set forth in our partnership agreement, is limited to any business activity that is approved by our general partner and that
lawfully may be conducted by a limited partnership organized under Delaware law; provided, that our general partner shall not cause us to engage, directly or indirectly, in any business activity that
the general partner determines would be reasonably likely to cause us to be treated as an association taxable as a corporation or otherwise taxable as an entity for federal income tax purposes.
Although
our general partner has the ability to cause us and our subsidiaries to engage in activities other than our current operations, our general partner has no current plans to do so
and may decline to do so free of any fiduciary duty or obligation whatsoever to us or the limited partners, including any duty to act in the best interests of us or the limited partners, other than
the implied contractual covenant of good faith and fair dealing. Our general partner is generally authorized to perform all acts it determines to be necessary or appropriate to carry out our purposes
and to conduct our business.
Capital Contributions
Common unitholders are not obligated to make additional capital contributions, except as described below under "Limited Liability."
For a discussion of our general partner's right to contribute capital to maintain its and its affiliates' percentage interest if we issue partner interests, see "Issuance of Additional
Partner Interests."
Voting Rights
The following is a summary of the unitholder vote required for the matters specified below. Matters requiring the approval of a "common unit
majority" require the approval of a majority of the common units.
In
voting their common units, our general partner and its affiliates will have no duty or obligation whatsoever to us or the limited partners, including any duty to act in the best
interests of us or the limited partners, other than the implied contractual covenant of good faith and fair dealing.
3
Table of Contents
The
following is a summary of the vote requirements specified for certain matters under our partnership agreement:
|
|
|
Issuance of additional units
|
|
No approval rights. See "Issuance of Additional Partner Interests."
|
Amendment of our partnership agreement
|
|
Certain amendments may be made by our general partner without the approval of our limited partners. Other amendments
generally require the approval of a common unit majority. Please read "Amendment of Our Partnership Agreement."
|
Merger of the Partnership or the sale of all or substantially all of our assets
|
|
Common unit majority in certain circumstances. Please read "Merger, Sale or Other Disposition of Assets."
|
Dissolution of the Partnership
|
|
Common unit majority. Please read "Termination and Dissolution."
|
Continuation of the Partnership upon dissolution
|
|
Common unit majority. Please read "Termination and Dissolution."
|
Withdrawal of our general partner
|
|
Under most circumstances, the approval of a majority of the common units, excluding common units held by our general partner
and its affiliates, is required for the withdrawal of our general partner prior to June 30, 2023 in a manner that would cause a dissolution of our partnership. Please read "Withdrawal or Removal of Our General Partner."
|
Removal of our general partner
|
|
Not less than 66
2
/
3
% of the outstanding units, voting as a single class, including units held by
our general partner and its affiliates. Please read "Withdrawal or Removal of Our General Partner."
|
Transfer of ownership interests in our general partner interest
|
|
Our general partner may transfer all, but not less than all, of its general partner interest in us without a vote of our
unitholders to an affiliate or another person in connection with its merger or consolidation with or into, or sale of all or substantially all of its assets to, such person. The approval of a majority of the common units, excluding common units held
by our general partner and its affiliates, is required in other circumstances for a transfer of the general partner interest to a third party prior to June 30, 2023. Please read "Transfer of Ownership Interests in our General Partner
Interest."
|
Transfer of ownership interests in our general partner
|
|
No approval rights at any time. Please read "Transfer of Ownership Interests in Our General Partner."
|
If
any person or group other than our general partner and its affiliates acquires beneficial ownership of 20% or more of any class of units, that person or group loses voting rights on
all of its units. This loss of voting rights does not apply to any person or group that acquires the units from our
4
Table of Contents
general
partner, its affiliates, their direct transferees and their indirect transferees approved by our general partner in its sole discretion or to any person or group who acquires the units with
the specific prior approval of our general partner.
Applicable Law; Forum, Venue and Jurisdiction
Our partnership agreement is governed by Delaware law. Subject to certain limited exceptions, our partnership agreement requires that any
claims, suits, actions or proceedings:
-
-
arising out of or relating in any way to the partnership agreement (including any claims, suits or actions to interpret, apply or enforce the
provisions of the partnership agreement or the duties, obligations or liabilities among limited partners or of limited partners to us, or the rights or powers of, or restrictions on, the limited
partners or us);
-
-
brought in a derivative manner on our behalf;
-
-
asserting a claim of breach of a fiduciary duty owed by any director, officer or other employee of us or our general partner, or owed by our
general partner, to us or the limited partners;
-
-
asserting a claim arising pursuant to or to interpret and enforce any provision of the Delaware Revised Uniform Limited Partnership Act, or
Delaware Act; or
-
-
asserting a claim governed by the internal affairs doctrine
shall
be exclusively brought in the Court of Chancery of the State of Delaware (or, if such court does not have subject matter jurisdiction thereof, any other court located in the State of Delaware
with subject matter jurisdiction), regardless of whether such claims, suits, actions or proceedings sound in contract, tort, fraud or otherwise, are based on common law, statutory, equitable, legal or
other grounds, or are derivative or direct claims. By purchasing a common unit, a limited partner is irrevocably consenting to these limitations and provisions regarding claims, suits, actions or
proceedings and submitting to the exclusive jurisdiction of the Court of Chancery of the State of Delaware in connection with any such claims, suits, actions or proceedings.
Limited Liability
Assuming that a limited partner does not participate in the control of our business within the meaning of the Delaware Act and that it otherwise
acts in conformity with the provisions of our partnership agreement, its liability under the Delaware Act will be limited, subject to possible exceptions, to the amount of capital it is obligated to
contribute to us for its common units
plus its share of any undistributed profits and assets. If it were determined, however, that the right, or exercise of the right, by the limited partners as a
group:
-
-
to remove or replace our general partner;
-
-
to approve some amendments to our partnership agreement; or
-
-
to take other action under our partnership agreement
constituted
"participation in the control" of our business for the purposes of the Delaware Act, then the limited partners could be held personally liable for our obligations under the laws of
Delaware to the same extent as our general partner. This liability would extend to persons who transact business with us who reasonably believe that the limited partner is a general partner. Neither
our partnership agreement nor the Delaware Act specifically provides for legal recourse against our general partner if a limited partner were to lose limited liability through any fault of our general
partner. While this does not mean that a limited partner could not seek legal recourse, we know of no precedent for such a claim in Delaware case law.
5
Table of Contents
Under
the Delaware Act, a limited partnership may not make a distribution to a partner if, after the distribution, all liabilities of the limited partnership, other than liabilities to
partners on account of their partner interests and liabilities for which the recourse of creditors is limited to specific property of the partnership, would exceed the fair value of the assets of the
limited partnership. For the purpose of determining the fair value of the assets of a limited partnership, the Delaware Act provides that the fair value of property subject to liability for which
recourse of creditors is limited shall be included in the assets of the limited partnership only to the extent that the fair value of that property exceeds the nonrecourse liability. The Delaware Act
provides that a limited partner who receives a distribution and knew at the time of the distribution that the distribution was in violation of the Delaware Act shall be liable to the limited
partnership for the amount of the distribution for three years. Under the Delaware Act, a substituted limited partner of a limited partnership is liable for the obligations of his assignor to
make contributions to the partnership, except that such person is not obligated for liabilities unknown to him at the time he became a limited partner and that could not be ascertained from the
partnership agreement.
Certain
of our subsidiaries conduct business in Louisiana, Minnesota, Montana, New York, Oklahoma Ohio, Pennsylvania, Texas, West Virginia and Wisconsin as well as in Alberta, Canada.
Our subsidiaries may conduct business in other states in the future. Maintenance of our limited liability as a member of our operating companies may require compliance with legal requirements in the
jurisdictions in which our operating companies conduct business, including qualifying our subsidiaries to do business there.
Limitations
on the liability of limited partners for the obligations of a limited partnership have not been clearly established in many jurisdictions. If, by virtue of our member
interest in our operating companies or otherwise, it were determined that we were conducting business in any state without compliance with the applicable limited partnership or liability company
statute, or that the right, or exercise of the right by the limited partners as a group, to remove or replace our general partner, to approve some amendments to our partnership agreement, or to take
other action under our partnership agreement constituted "participation in the control" of our business for purposes of the statutes of any relevant jurisdiction, then the limited partners could be
held personally liable for our obligations under the law of that jurisdiction to the same extent as our general partner under the circumstances. We will operate in a manner that our general partner
considers reasonable and necessary or appropriate to preserve the limited liability of the limited partners.
Issuance of Additional Partner Interests
Our partnership agreement authorizes us to issue an unlimited number of additional partnership interests for the consideration and on the terms
and conditions determined by our general partner without the approval of the unitholders.
It
is possible that we will fund acquisitions through the issuance of additional common units or other partnership interests. Holders of any additional common units we issue will be
entitled to share equally with the then-existing holders of common units in our distributions of available cash. In addition, the issuance of additional common units or other partnership interests may
dilute the value of the interests of the then-existing holders of common units in our net assets.
In
accordance with Delaware law and the provisions of our partnership agreement, we may also issue additional partnership interests that, as determined by our general partner, may have
special voting rights to which the common units are not entitled. In addition, our partnership agreement does not prohibit our subsidiaries from issuing equity securities, which may effectively rank
senior to the common units.
Our
general partner has the right, which it may from time to time assign in whole or in part to any of its affiliates, to purchase common units or other partnership interests whenever,
and on the same
6
Table of Contents
terms
that, we issue those interests to persons other than our general partner and its affiliates and beneficial owners, to the extent necessary to maintain the percentage interest of the general
partner and its affiliates, including such interest represented by common units, that existed immediately prior to each issuance. The holders of common units do not have preemptive rights under our
partnership agreement to acquire additional common units or other partnership interests.
Amendment of Our Partnership Agreement
General
Amendments to our partnership agreement may be proposed only by or with the consent of our general partner. However, our general partner will
have no duty or obligation to propose any amendment and may decline to do so free of any duty or obligation whatsoever to us or the limited partners, including any duty to act in the best interests of
us or the limited partners, other than the implied contractual covenant of good faith and fair dealing. In order to adopt a proposed amendment, other than the amendments discussed below, our general
partner is required to seek written approval of the holders of the number of units required to approve the amendment or to call a meeting of the limited partners to consider and vote upon the proposed
amendment. Except as described below, an amendment must be approved by a common unit majority.
Prohibited Amendments
No amendment may be made that would:
-
(1)
-
enlarge
the obligations of any limited partner or general partner without its consent, unless approved by at least a majority of the type or class of limited partner
interests so affected; or
-
(2)
-
enlarge
the obligations of, restrict in any way any action by or rights of, or reduce in any way the amounts distributable, reimbursable or otherwise payable by us
to our general partner or any of its affiliates without the consent of our general partner, which consent may be given or withheld in its sole discretion.
The
provision of our partnership agreement preventing the amendments having the effects described in any of the clauses above can be amended upon the approval of the holders of at least
90% of the outstanding common units, voting together as a single class (including common units held by our general partner and its affiliates) unless we obtain an opinion of counsel regarding limited
liability. As of April 4, 2018, affiliates of our general partner owned approximately 28% of the outstanding common units.
No Unitholder Approval
Our general partner may generally make amendments to our partnership agreement without the approval of any other partner to
reflect:
-
-
a change in our name, the location of our principal place of business, our registered agent or our registered office;
-
-
the admission, substitution, withdrawal or removal of partners in accordance with our partnership agreement;
-
-
a change that our general partner determines to be necessary or appropriate for us to qualify or to continue our qualification as a limited
partnership or a partnership in which the limited partners have limited liability under the laws of any state or to ensure that neither we nor our subsidiaries will be treated as an association
taxable as a corporation or otherwise taxed as an entity for United States federal income tax purposes;
7
Table of Contents
-
-
an amendment that is necessary, in the opinion of our counsel, to prevent us or our general partner or its directors, officers, agents, or
trustees from in any manner being subjected to the provisions of the Investment Company Act of 1940, the Investment Advisers Act of 1940, or "plan asset" regulations adopted under the Employee
Retirement Income Security Act of 1974, or ERISA, whether or not substantially similar to plan asset regulations currently applied or proposed;
-
-
an amendment that our general partner determines to be necessary or appropriate for the creation, authorization, or issuance of additional
partner interests or rights to acquire partner interests;
-
-
any amendment expressly permitted in our partnership agreement to be made by our general partner acting alone;
-
-
an amendment effected, necessitated or contemplated by a merger agreement that has been approved under the terms of our partnership agreement;
-
-
any amendment that our general partner determines to be necessary or appropriate for the formation by us of, or our investment in, any
corporation, partnership or other entity, as otherwise permitted by our partnership agreement;
-
-
a change in our fiscal year or taxable year and related changes;
-
-
conversions into, mergers with or conveyances to another limited liability entity that is newly formed and has no assets, liabilities or
operations at the time of the merger, conveyance or conversion other than those it receives by way of the merger, conveyance or conversion; or
-
-
any other amendments substantially similar to any of the matters described above.
In
addition, our general partner may make amendments to our partnership agreement without the approval of any partner if our general partner determines that those
amendments:
-
-
do not adversely affect the limited partners (or any particular class of limited partners) in any material respect;
-
-
are necessary or appropriate to satisfy any requirements, conditions, or guidelines contained in any opinion, directive, order, ruling, or
regulation of any federal or state agency or judicial authority or contained in any federal or state statute;
-
-
are necessary or appropriate to facilitate the trading of limited partner interests or to comply with any rule, regulation, guideline, or
requirement of any securities exchange on which the limited partner interests are or will be listed for trading;
-
-
are necessary or appropriate for any action taken by our general partner relating to splits or combinations of common units under the
provisions of our partnership agreement; or
-
-
are required to effect the intent expressed in the prospectus filed as part of our initial registration statement on Form S-1 or the
intent of the provisions of our partnership agreement or are otherwise contemplated by our partnership agreement.
8
Table of Contents
Opinion of Counsel and Unitholder Approval
Any amendment that our general partner determines adversely affects in any material respect one or more particular classes of limited partners
will require the approval of at least a majority of the class or classes so affected, but no vote will be required by any class or classes of limited partners that our general partner determines are
not adversely affected in any material respect. Any amendment that would have a material adverse effect on the rights or preferences of any type or class of outstanding units in relation to other
classes of units will require the approval of at least a majority of the type or class of units so affected. Any amendment that reduces the voting percentage required to take any action, other than to
remove the general partner or call a meeting, is required to be approved by the affirmative vote of limited partners whose aggregate outstanding units constitute not less than the voting requirement
sought to be reduced. Any amendment that increases the voting percentage required to remove the general partner or call a meeting of unitholders must be approved by the affirmative vote of limited
partners whose aggregate outstanding units constitute not less than the voting requirement sought to be increased. For amendments of the type not requiring unitholder approval, our general partner
will not be required to obtain an opinion of counsel that an amendment
will neither result in a loss of limited liability to the limited partners nor result in our being treated as a taxable entity for federal income tax purposes in connection with any of the amendments.
No other amendments to our partnership agreement will become effective without the approval of holders of at least 90% of the outstanding units, voting as a single class, unless we first obtain an
opinion of counsel to the effect that the amendment will not affect the limited liability under applicable law of any of our limited partners.
Merger, Sale or Other Disposition of Assets
A merger, consolidation or conversion of us requires the prior consent of our general partner. However, our general partner will have no duty or
obligation to consent to any merger, consolidation or conversion and may decline to do so free of any fiduciary duty or obligation whatsoever to us or the limited partners, including any duty to act
in the best interest of us or the limited partners, other than the implied contractual covenant of good faith and fair dealing.
In
addition, our partnership agreement generally prohibits our general partner, without the prior approval of the holders of a common unit majority, from causing us to sell, exchange or
otherwise dispose of all or substantially all of our assets in a single transaction or a series of related transactions. Our general partner may, however, mortgage, pledge, hypothecate or grant a
security interest in all or substantially all of our assets without such approval. Our general partner may also sell all or substantially all of our assets under a foreclosure or other realization
upon those encumbrances without such approval. Finally, our general partner may consummate any merger without the prior approval of our unitholders if we are the surviving entity in the transaction,
our general partner has received an opinion of counsel regarding limited liability and tax matters, the transaction would not result in a material amendment to the partnership agreement (other than an
amendment that the general partner could adopt without the consent of the limited partners), each of our units will be an identical unit of our partnership following the transaction and the
partnership interests to be issued do not exceed 20% of our outstanding partnership interests immediately prior to the transaction.
If
the conditions specified in our partnership agreement are satisfied, our general partner may convert us or any of our subsidiaries into a new limited liability entity or merge us or
any of our subsidiaries into, or convey all of our assets to, a newly formed entity, if the sole purpose of that conversion, merger or conveyance is to effect a mere change in our legal form into
another limited liability entity, our general partner has received an opinion of counsel regarding limited liability and tax matters and the governing instruments of the new entity provide the limited
partners and our general partner with the same rights and obligations as contained in our partnership agreement. Our unitholders are not entitled to dissenters' rights of appraisal under our
partnership agreement or
9
Table of Contents
applicable
Delaware law in the event of a conversion, merger or consolidation, a sale of substantially all of our assets or any other similar transaction or event.
Termination and Dissolution
We will continue as a limited partnership until terminated under our partnership agreement. We will dissolve upon:
(1) the
election of our general partner to dissolve us, if approved by the holders of common units representing a common unit majority;
(2) there
being no limited partners, unless we are continued without dissolution in accordance with applicable Delaware law;
(3) the
entry of a decree of judicial dissolution of the Partnership; or
(4) the
withdrawal or removal of our general partner or any other event that results in its ceasing to be our general partner other than by reason of a transfer of its
general partner interest in accordance with our partnership agreement or withdrawal or removal following approval and admission of a successor.
Upon
a dissolution under clause (4), the holders of a common unit majority may also elect, within specific time limitations, to continue our business on the same terms and
conditions described in our partnership agreement by appointing as a successor general partner an entity approved by the holders of common units representing a common unit majority, subject to our
receipt of an opinion of counsel to the effect that:
-
-
the action would not result in the loss of limited liability under Delaware law of any limited partner; and
-
-
neither the Partnership nor our subsidiaries would be treated as an association taxable as a corporation or otherwise be taxable as an entity
for United States federal income tax purposes upon the exercise of that right to continue (to the extent not already so treated or taxed).
Liquidation and Distribution of Proceeds
Upon our dissolution, unless our business is continued, the liquidator authorized to wind up our affairs will, acting with all of the powers of
our general partner that are necessary or appropriate, liquidate our assets and apply the proceeds of the liquidation as set forth in our partnership agreement. The liquidator may defer liquidation or
distribution of our assets for a reasonable period of time or distribute assets to partners in kind if it determines that a sale would be impractical or would cause undue loss to our partners.
Withdrawal or Removal of Our General Partner
Except as described below, our general partner has agreed not to withdraw voluntarily as our general partner prior to June 30, 2023
without obtaining the approval of the holders of at least a majority of the outstanding common units, excluding common units held by our general partner and its affiliates, and furnishing an opinion
of counsel regarding limited liability and tax matters. On or after June 30, 2023, our general partner may withdraw as general partner without first obtaining approval of any unitholder by
giving 90 days' written notice, and that withdrawal will not constitute a violation of our partnership agreement. Notwithstanding the information above, our general partner may withdraw without
unitholder approval upon 90 days' notice to the limited partners if at least 50% of the outstanding common units are held or controlled by one person and its affiliates, other than our general
partner and its affiliates. In addition, our partnership agreement permits our general partner, in
10
Table of Contents
some
instances, to sell or otherwise transfer all of its general partner interest in us without the approval of the unitholders. See "Transfer of General Partner Interest."
Upon
withdrawal of our general partner under any circumstances, other than as a result of a transfer by our general partner of all or a part of its general partner interest in us, the
holders of a majority of the outstanding classes of common units voting as a single class may select a successor to that withdrawing general partner. If a successor is not elected, or is elected but
an opinion of counsel regarding limited liability and tax matters cannot be obtained, we will be dissolved, wound up and liquidated, unless within a specified period of time after that withdrawal, the
holders of a common unit majority agree in writing to continue our business and to appoint a successor general partner. See "Termination and Dissolution."
Our
general partner may not be removed unless that removal is approved by the vote of the holders of not less than 66
2
/
3
% of the outstanding common units, voting together
as a single class, including common units held by our general partner and its affiliates, and we receive an opinion of counsel regarding limited liability and tax matters. Any removal of our general
partner is also subject to the approval of a successor general partner by the vote of the holders of a majority of the outstanding common units. The ownership of more than 33
1
/
3
% of the
outstanding common units by our general partner and its affiliates gives them the ability to prevent our general partner's removal. As of April 4, 2018, affiliates of our general partner owned
approximately 28% of the outstanding common units.
In
the event of removal of our general partner under circumstances where cause exists or withdrawal of our general partner where that withdrawal violates our partnership agreement, a
successor general partner will have the option to purchase the general partner interest of the departing general partner for a cash payment equal to the fair market value of the general partner
interest. Under all other circumstances where our general partner withdraws or is removed, the departing general partner will have the option to require the successor general partner to purchase the
general partner interest of the departing general partner for its fair market value. In each case, this fair market value will be determined by agreement between the departing general partner and the
successor general partner. If no agreement is reached, an independent investment banking firm or other independent expert selected by the departing general partner and the successor general partner
will determine the fair market value or, if the departing general partner and the successor general partner cannot agree upon an expert, then an expert chosen by agreement of the experts selected by
each of them will determine the fair market value.
If
the option described above is not exercised by either the departing general partner or the successor general partner, the departing general partner's general partner interest will
automatically convert into common units equal to the fair market value of those interests as determined by an investment banking firm or other independent expert selected in the manner described in
the preceding paragraph.
In
addition, we are required to reimburse the departing general partner for all amounts due to the general partner, including, without limitation, all employee-related liabilities,
including severance liabilities, incurred for the termination of any employees employed by the departing general partner or its affiliates for our benefit.
Transfer of Ownership Interests in Our General Partner Interest
Except for the transfer by our general partner of all, but not less than all, of its general partner interest in the Partnership
to:
-
-
an affiliate of our general partner (other than an individual), or
11
Table of Contents
-
-
another entity as part of the merger or consolidation of our general partner with or into another entity or the transfer by our general partner
of all or substantially all of its assets to another entity,
our
general partner may not transfer all or any part of its general partner interest to another person prior to June 30, 2023 without the approval of the holders of at least a majority of the
outstanding common units, excluding common units held by our general partner and its affiliates. As a condition of this transfer, the transferee must, among other things, assume the rights and duties
of our general partner, agree to be bound by the provisions of our partnership agreement and furnish an opinion of counsel regarding limited liability and tax matters.
Our
general partner and its affiliates may at any time transfer common units to one or more persons, without unitholder approval.
Transfer of Ownership Interests in Our General Partner
At any time, the owners of our general partner may sell or transfer all or part of their ownership interests in our general partner to an
affiliate or a third party without the approval of our unitholders.
MATERIAL U.S. FEDERAL INCOME TAX CONSEQUENCES
This section is a summary of the material U.S. federal income tax consequences that may be relevant to prospective common unitholders who are
individual citizens or residents of the United States and, unless otherwise noted in the following discussion, is the opinion of Latham & Watkins LLP, counsel to our general partner and
us, insofar as it relates to legal conclusions with respect to matters of U.S. federal income tax law. This section is based upon current provisions of the Internal Revenue Code of 1986, as amended
(the "Internal Revenue Code"), existing and proposed Treasury regulations promulgated under the Internal Revenue Code (the "Treasury Regulations") and current administrative rulings and court
decisions, all of which are subject to change. Later changes in these authorities may cause the tax consequences to vary substantially from the consequences described below. Unless the context
otherwise requires, references in this section to "us," "we" or "our company" are references to Emerge Energy Services LP and our operating subsidiaries.
The
following discussion does not comment on all federal income tax matters affecting us or our unitholders and does not describe the application of the alternative minimum tax that may
be applicable to certain unitholders. Moreover, the discussion focuses on unitholders who are individual citizens or residents of the United States and has only limited application to corporations,
estates, entities treated as partnerships for U.S. federal income tax purposes, trusts, nonresident aliens, U.S. expatriates and former citizens or long-term residents of the United States or other
unitholders subject to specialized tax treatment, such as banks, insurance companies and other financial institutions, tax-exempt institutions, foreign persons (including, without limitation,
controlled foreign corporations, passive foreign investment companies and foreign persons eligible for the benefits of an applicable
income tax treaty with the United States), individual retirement accounts (IRAs), real estate investment trusts (REITs) or mutual funds, dealers in securities or currencies, traders in securities,
U.S. persons whose "functional currency" is not the U.S. dollar, persons holding their units as part of a "straddle," "hedge," "conversion transaction" or other risk reduction transaction, persons
subject to special tax accounting rules as a result of any item of gross income with respect to our common units being taken into account in an applicable financial statement and persons deemed to
sell their units under the constructive sale provisions of the Internal Revenue Code. In addition, the discussion only comments, to a limited extent, on state, local, and foreign tax consequences.
Accordingly, we encourage each prospective common unitholder to consult his own tax advisor in analyzing the state, local and foreign tax consequences particular to him of the ownership or disposition
of common units and potential changes in applicable laws, including the impact of the recently enacted U.S. tax reform legislation.
No
ruling has been requested from the Internal Revenue Service (the "IRS") regarding our characterization as a partnership for tax purposes. Instead, we will rely on opinions of
Latham & Watkins LLP. Unlike a ruling, an opinion of counsel represents only that counsel's best legal judgment and does not bind the IRS or the courts. Accordingly, the opinions and
statements made herein may not be sustained by a court if contested by the IRS. Any contest of this sort with the IRS may materially and adversely impact the market for the common units and the prices
at which common units trade. In addition, the costs of any contest with the IRS, principally legal, accounting and related fees, will result in a reduction in cash available for distribution to our
unitholders and thus will be borne indirectly by our unitholders. Furthermore, our tax treatment, or the tax treatment of an investment in our company, may be significantly modified by future
legislative or administrative changes or court decisions. Any modifications may or may not be retroactively applied.
All
statements as to matters of federal income tax law and legal conclusions with respect thereto, but not as to factual matters, contained in this section, unless otherwise noted, are
the opinion of Latham & Watkins LLP and are based on the accuracy of the representations made by us and our general partner.
20
Table of Contents
For
the reasons described below, Latham & Watkins LLP has not rendered an opinion with respect to the following specific federal income tax issues: (i) the treatment
of a unitholder whose common units are loaned to a short seller to cover a short sale of common units (please read "Tax Consequences of Unit OwnershipTreatment of Short
Sales"); (ii) whether all aspects of our method for allocating taxable income and losses is permitted by existing Treasury Regulations (please read "Disposition of Common
UnitsAllocations Between Transferors and Transferees"); and (iii) whether our method for taking into account Section 743 adjustments is sustainable in certain cases (please
read "Tax Consequences of Unit OwnershipSection 754 Election" and "Disposition of Common UnitsUniformity of Units").
Partnership Status
A partnership is not a taxable entity and incurs no federal income tax liability. Instead, each partner of a partnership is required to take
into account his share of items of income, gain, loss and deduction of the partnership in computing his federal income tax liability, regardless of whether cash distributions are made to him by the
partnership. Distributions by a partnership to a partner are generally not taxable to the partnership or the partner unless the amount of cash distributed to him is in excess of the partner's adjusted
basis in his partnership interest. Section 7704 of the Internal Revenue Code provides that publicly traded partnerships will, as a general rule, be taxed as corporations. However, an exception,
referred to as the "Qualifying Income Exception," exists with respect to publicly traded partnerships of which 90% or more of the gross income for every taxable year consists of "qualifying income."
Qualifying income includes income and gains derived from the mining, transportation, storage, processing and marketing of certain minerals and natural resources, including silica sand, crude oil,
natural gas and other products of a type that are produced in a petroleum refinery or natural gas processing plant, certain related hedging activities, certain activities that are intrinsic to other
qualifying activities, and our allocable share of our subsidiaries' income from these sources. Other types of qualifying income include interest (other than from a financial business), dividends, real
property rents, gains from the sale of real property and gains from the sale or other disposition of capital assets held for the production of income that otherwise constitutes qualifying income. We
estimate that less than 3% of our current gross income is not qualifying income; however, this estimate could change from time to time. Based upon and subject to this estimate, the factual
representations made by us and our general partner and a review of the applicable legal authorities, Latham & Watkins LLP is of the opinion that at least 90% of our current gross income
constitutes qualifying income. The portion of our income that is qualifying income may change from time to time.
The
IRS has made no determination as to our status or the status of our operating subsidiaries for federal income tax purposes. Instead, we will rely on the opinion of Latham &
Watkins LLP on such matters. It is the opinion of Latham & Watkins LLP that, based upon the Internal Revenue Code, its regulations, published revenue rulings and court decisions
and the representations described below that:
-
-
We will be classified as a partnership for federal income tax purposes; and
-
-
Each of our operating subsidiaries will be disregarded as an entity separate from us for federal income tax purposes.
In
rendering its opinion, Latham & Watkins LLP has relied on factual representations made by us and our general partner. The representations made by us and our general
partner upon which Latham & Watkins LLP has relied include:
-
-
Neither we nor any of our operating subsidiaries have elected or will elect to be treated, or is otherwise treated, as a corporation for
federal income tax purposes; and
21
Table of Contents
-
-
For each taxable year, more than 90% of our gross income has been and will be income of the type that Latham & Watkins LLP has
opined or will opine is "qualifying income" within the meaning of Section 7704(d) of the Internal Revenue Code.
We
believe that these representations have been true in the past, are true as of the date hereof and expect that these representations will continue to be true in the future.
If
we fail to meet the Qualifying Income Exception, other than a failure that is determined by the IRS to be inadvertent and that is cured within a reasonable time after discovery (in
which case the IRS may also require us to make adjustments with respect to our unitholders or pay other amounts), we will be treated as if we had transferred all of our assets, subject to liabilities,
to a newly formed corporation, on the first day of the year in which we fail to meet the Qualifying Income Exception, in return for stock in that corporation, and then distributed that stock to the
unitholders in liquidation of their interests in us. This deemed contribution and liquidation should be tax-free to unitholders and us so long as we, at that time, do not have liabilities in excess of
the tax basis of our assets. Thereafter, we would be treated as a corporation for federal income tax purposes.
If
we were treated as an association taxable as a corporation in any taxable year, either as a result of a failure to meet the Qualifying Income Exception or otherwise, our items of
income, gain, loss and deduction would be reflected only on our tax return rather than being passed through to our unitholders, and our net income would be taxed to us at corporate rates. In addition,
any distribution made to a unitholder would be treated as taxable dividend income, to the extent of our current and accumulated earnings and profits, or, in the absence of earnings and profits, a
nontaxable return of
capital, to the extent of the unitholder's tax basis in his common units, or taxable capital gain, after the unitholder's tax basis in his common units is reduced to zero. Accordingly, taxation as a
corporation would result in a material reduction in a unitholder's cash flow and after-tax return and thus would likely result in a substantial reduction of the value of the units.
The
discussion below is based on Latham & Watkins LLP's opinion that we will be classified as a partnership for federal income tax purposes.
Limited Partner Status
Unitholders of Emerge Energy Services LP will be treated as partners of Emerge Energy Services LP for federal income tax purposes.
Also, unitholders whose common units are held in street name or by a nominee and who have the right to direct the nominee in the exercise of all substantive rights attendant to the ownership of their
common units will be treated as partners of Emerge Energy Services LP for federal income tax purposes. A beneficial owner of common units whose units have been transferred to a short seller to
complete a short sale would appear to lose his status as a partner with respect to those units for federal income tax purposes. Please read "Tax Consequences of Unit
OwnershipTreatment of Short Sales".
Income,
gains, losses or deductions would not appear to be reportable by a unitholder who is not a partner for federal income tax purposes, and any cash distributions received by a
unitholder who is not a partner for federal income tax purposes would therefore appear to be fully taxable as ordinary income. These holders are urged to consult their tax advisors with respect to the
tax consequences to them of holding common units in Emerge Energy Services LP. The references to "unitholders" in the discussion that follows are to persons who are treated as partners in
Emerge Energy Services LP for federal income tax purposes.
22
Table of Contents
Tax Consequences of Unit Ownership
Subject to the discussion below under "Entity-Level Collections," we will not pay any federal income tax. Instead, each unitholder
will be required to report on his income tax return his share of our income, gains, losses and deductions without regard to whether we make cash distributions to him. Consequently, we may allocate
income to a unitholder even if he has not received a cash distribution. Each unitholder will be required to include in income his allocable share of our income, gains, losses and deductions for our
taxable year ending with or within his taxable year. Our taxable year ends on December 31.
Distributions by us to a unitholder generally will not be taxable to the unitholder for federal income tax purposes, except to the extent the
amount of any such cash distribution exceeds his tax basis in his common units immediately before the distribution. Our cash distributions in excess of a unitholder's tax basis generally will be
considered to be gain from the sale or exchange of the common units, taxable in accordance with the rules described under "Disposition of Common Units." Any reduction in a unitholder's
share of our liabilities for which no partner bears the economic risk of loss, known as "nonrecourse liabilities," will be treated as a distribution by us of cash to that unitholder. To the extent our
distributions cause a unitholder's "at-risk" amount to be less than zero at the end of any taxable year, he must recapture any losses deducted in previous years. Please read the discussion below under
"Limitations on Deductibility of Losses."
A
decrease in a unitholder's percentage interest in our company because of our issuance of additional common units will decrease his share of our nonrecourse liabilities, and thus will
result in a corresponding deemed distribution of cash. This deemed distribution may constitute a non-pro rata distribution. A non-pro rata distribution of money or property may result in ordinary
income to a unitholder, regardless of his tax basis in his common units, if the distribution reduces the unitholder's share of our "unrealized receivables," including depreciation recapture, depletion
recapture and/or substantially appreciated "inventory items," each as defined in the Internal Revenue Code, and
collectively, "Section 751 Assets." To that extent, the unitholder will be treated as having been distributed his proportionate share of the Section 751 Assets and then having exchanged
those assets with us in return for the non-pro rata portion of the actual distribution made to him. This latter deemed exchange will generally result in the unitholder's realization of ordinary
income, which will equal the excess of (i) the non-pro rata portion of that distribution over (ii) the unitholder's tax basis (often zero) for the share of Section 751 Assets
deemed relinquished in the exchange.
A unitholder's initial tax basis for his common units will be the amount he paid for the common units plus his share of our nonrecourse
liabilities. That basis will be increased by his share of our income, by any increases in his share of our nonrecourse liabilities and, on the disposition of a common unit, by his share of certain
items related to business interest not yet deductible by him due to applicable limitations. Please read "Limitations on Interes Deductions." That basis will be decreased, but not below
zero, by distributions from us, by the unitholder's share of our losses, by any decreases in his share of our nonrecourse liabilities, by his share of our excess business interest (generally, the
excess of our business interest over the amount that is deductible), and by his share of our expenditures that are not deductible in computing taxable income and are not required to be capitalized. A
unitholder will generally have a share of our nonrecourse liabilities based on his share of our profits. Please read "Disposition of Common UnitsRecognition of Gain or Loss."
23
Table of Contents
The deduction by a unitholder of his share of our losses will be limited to the tax basis in his units and, in the case of an individual
unitholder, estate, trust, or corporate unitholder (if more than 50% of the value of the corporate unitholder's stock is owned directly or indirectly by or for five or fewer individuals or some
tax-exempt organizations) to the amount for which the unitholder is considered to be "at risk" with respect to our activities, if that is less than his tax basis. A common unitholder subject to these
limitations must recapture losses deducted in previous years to the extent that distributions cause his at-risk amount to be less than zero at the end of any taxable year. Losses disallowed to a
unitholder or recaptured as a result of these limitations will carry forward and will be allowable as a deduction to the extent that his at-risk amount is subsequently increased, provided such
losses do not exceed such common unitholder's tax basis in his common units. Upon the taxable disposition of a common unit, any gain recognized by a unitholder can be offset by losses that were
previously suspended by the at-risk limitation but may not be offset by losses suspended by the basis limitation. Any loss previously suspended by the at-risk limitation in excess of that gain would
no longer be utilizable.
In
general, a unitholder will be at risk to the extent of the tax basis of his units, excluding any portion of that basis attributable to his share of our nonrecourse liabilities,
reduced by (i) any portion of that basis representing amounts otherwise protected against loss because of a guarantee, stop loss agreement or other similar arrangement and (ii) any
amount of money he borrows to acquire or hold his units, if the lender of those borrowed funds owns an interest in us, is related to the unitholder or can look only to the units for repayment. A
unitholder's at-risk amount will increase or decrease as the tax basis of the unitholder's units increases or decreases, other than tax basis increases or decreases attributable to increases or
decreases in his share of our nonrecourse liabilities.
In
addition to the basis and at-risk limitations on the deductibility of losses, the passive loss limitations generally provide that individuals, estates, trusts and some closely-held
corporations and personal service corporations can deduct losses from passive activities, which are generally trade or business activities in which the taxpayer does not materially participate, only
to the extent of the taxpayer's income from those passive activities. The passive loss limitations are applied separately with respect to each publicly traded partnership. Consequently, any passive
losses we generate will only be available to offset our passive income generated in the future and will not be available to offset income from other passive activities or investments, including our
investments or a unitholder's investments in other publicly traded partnerships, or the unitholder's salary, active business or other income. Passive losses that are not deductible because they exceed
a unitholder's share of income we generate may be deducted in full when he disposes of his entire investment in us in a fully taxable transaction with an unrelated party. The passive loss limitations
are applied after other applicable limitations on deductions, including the at-risk rules and the basis limitation.
A
unitholder's share of our net income may be offset by any of our suspended passive losses, but it may not be offset by any other current or carryover losses from other passive
activities, including those attributable to other publicly traded partnerships.
An
additional loss limitation may apply to certain of our unitholders for taxable years beginning after December 31, 2017, and before January 1, 2026. A non-corporate
unitholder will not be allowed to take a deduction for certain excess business losses in such taxable years. An excess business loss is the excess (if any) of a taxpayer's aggregate deductions for the
taxable year that are attributable to the trades or businesses of such taxpayer (determined without regard to the excess business loss limitation) over the aggregate gross income or gain of such
taxpayer for the taxable year that is attributable to such trades or businesses plus a threshold amount. The threshold amount is equal to $250,000, or $500,000 for taxpayers filing a joint return. Any
losses disallowed in a taxable year due to the excess business loss limitation may be used by the applicable unitholder in the following taxable year if certain
24
Table of Contents
conditions
are met. Unitholders to which this excess business loss limitation applies will take their allocable share of our items of income, gain, loss and deduction into account in determining this
limitation. This excess business loss limitation will be applied to a non-corporate unitholder after the passive loss limitations and may limit such unitholders' ability to utilize any losses we
generate allocable to such unitholder that are not otherwise limited by the basis, at-risk and passive loss limitations described above.
Our ability to deduct interest paid or accrued on indebtedness properly allocable to a trade or business, "business interest," may be limited in
certain circumstances. Should our ability to deduct business interest be limited, the amount of taxable income allocated to our unitholders in the taxable year in which the limitation is in effect may
increase. However, in certain circumstances, a unitholder may be able to utilize a portion of a business interest deduction subject to this limitation in future taxable years. Prospective unitholders
should consult their tax advisors regarding the impact of this business interest deduction limitation on an investment in our common units.
In
addition, the deductibility of a non-corporate taxpayer's "investment interest expense" is generally limited to the amount of that taxpayer's "net investment income." Investment
interest expense includes:
-
(a)
-
interest
on indebtedness properly allocable to property held for investment;
-
(b)
-
our
interest expense attributed to portfolio income; and
-
(c)
-
the
portion of interest expense incurred to purchase or carry an interest in a passive activity to the extent attributable to portfolio income.
The
computation of a unitholder's investment interest expense will take into account interest on any margin account borrowing or other loan incurred to purchase or carry a unit. Net
investment income includes gross income from property held for investment and amounts treated as portfolio income under the passive loss rules, less deductible expenses, other than interest, directly
connected with the production of investment income, but generally does not include gains attributable to the disposition of property held for investment or (if applicable) qualified dividend income.
The IRS has indicated that the net passive income earned by a publicly traded partnership will be treated as investment income to its unitholders. In addition, the unitholder's share of our portfolio
income will be treated as investment income.
If we are required or elect under applicable law to pay any federal, state, local or foreign income tax on behalf of any unitholder or any
former unitholder, we are authorized to pay those taxes from our funds. That payment, if made, will be treated as a distribution of cash to the unitholder on whose behalf the payment was made. If the
payment is made on behalf of a person whose identity cannot be determined, we are authorized to treat the payment as a distribution to all current unitholders. We are authorized to amend our
partnership agreement in the manner necessary to maintain uniformity of intrinsic tax characteristics of units and to adjust later distributions, so that after giving effect to these distributions,
the priority and characterization of distributions otherwise applicable under our partnership agreement is maintained as nearly as is practicable. Payments by us as described above could give rise to
an overpayment of tax on behalf of an individual unitholder in which event the unitholder would be required to file a claim in order to obtain a credit or refund.
25
Table of Contents
Allocation of Income, Gain, Loss and Deduction
In general our items of income, gain, loss and deduction will be allocated among the unitholders in accordance with their percentage interests
in us. Although we do not expect that our operations will result in the creation of negative capital accounts, if negative capital accounts nevertheless result, items of our income and gain will be
allocated in an amount and manner sufficient to eliminate the negative balance as quickly as possible.
Specified
items of our income, gain, loss and deduction will be allocated to account for any difference between the tax basis and fair market value of any property contributed to us that
exists at the time of such contribution, referred to in this discussion as the "Contributed Property." The effect of these allocations, referred to as Section 704(c) Allocations, to a
unitholder purchasing common units from us in an offering will be essentially the same as if the tax bases of our assets were equal to their fair market values at the time of the offering. In the
event we issue additional common units or engage in certain other transactions in the future, "reverse Section 704(c) Allocations," similar to the Section 704(c) Allocations described
above, will be made to all of our unitholders immediately prior to such issuance or other transactions to account for the difference between the "book" basis for purposes of maintaining capital
accounts and the fair market value of all property held by us at the time of such issuance or future transaction. In addition, items of recapture income will be allocated to the extent possible to the
unitholder who was allocated the deduction giving rise to the treatment of that gain as recapture income in order to minimize the recognition of ordinary income by some unitholders. Finally, although
we do not expect that our operations will result in the creation of negative capital accounts (subject to certain adjustments), if negative capital accounts (subject to certain adjustments)
nevertheless result, items of our income and gain will be allocated in an amount and manner sufficient to eliminate such negative balance as quickly as possible.
An
allocation of items of our income, gain, loss or deduction, other than an allocation required by the Internal Revenue Code to eliminate the difference between a partner's "book"
capital account, credited with the fair market value of Contributed Property, and "tax" capital account, credited with the tax basis of Contributed Property, referred to in this discussion as the
"Book-Tax Disparity," will generally be given effect for federal income tax purposes in determining a partner's share of an item of income, gain, loss or deduction only if the allocation has
"substantial economic effect." In any other case, a partner's share of an item will be determined on the basis of his interest in us, which will be determined by taking into account all the facts and
circumstances, including:
-
(a)
-
his
relative contributions to us;
-
(b)
-
the
interests of all the partners in profits and losses;
-
(c)
-
the
interest of all the partners in cash flow; and
-
(d)
-
the
rights of all the partners to distributions of capital upon liquidation.
Latham &
Watkins LLP is of the opinion that, with the exception of the issues described in "Section 754 Election," "Disposition of Common
UnitsUniformity of Units" and "Disposition of Common UnitsAllocations Between Transferors and Transferees," allocations under our partnership agreement will be
given effect for federal income tax purposes in determining a partner's share of an item of income, gain, loss or deduction.
26
Table of Contents
A unitholder whose units are loaned to a "short seller" to cover a short sale of units may be considered as having disposed of those units. If
so, he would no longer be treated for tax purposes as a partner with respect to those units during the period of the loan and may recognize gain or loss from the disposition.
As
a result, during this period:
-
(a)
-
any
of our income, gain, loss or deduction with respect to those units would not be reportable by the unitholder;
-
(b)
-
any
cash distributions received by the unitholder as to those units would be fully taxable; and
-
(c)
-
while
not entirely free from doubt, all of these distributions would appear to be ordinary income.
Because
there is no direct or indirect controlling authority on the issue relating to partnership interests, Latham & Watkins LLP has not rendered an opinion regarding the
tax treatment of a unitholder whose common units are loaned to a short seller to cover a short sale of common units; therefore, unitholders desiring to assure their status as partners and avoid the
risk of gain recognition from a loan to a short seller are urged to consult a tax advisor to discuss whether it is advisable to modify any applicable brokerage account agreements to prohibit their
brokers from borrowing and loaning their units. The IRS has previously announced that it is studying issues relating to the tax treatment of short sales of partnership interests. Please also read
"Disposition of Common UnitsRecognition of Gain or Loss."
Currently, the highest marginal U.S. federal income tax rate applicable to ordinary income of individuals is 37% and the highest marginal U.S.
federal income tax rate applicable to long-term capital gains (generally, capital gains on certain assets held for more than twelve months) of individuals is 20%. Such rates are subject to change by
new legislation at any time.
In
addition, a 3.8% Medicare tax, or NIIT, on certain net investment income earned by individuals, estates and trusts currently applies. For these purposes, net investment income
generally includes a unitholder's allocable share of our income and gain realized by a unitholder from a sale of units. In the case of an individual, the tax will be imposed on the lesser of
(1) the unitholder's net investment income and (2) the amount by which the unitholder's modified adjusted gross income exceeds $250,000 (if the unitholder is married and filing jointly
or a surviving spouse), $125,000 (if the unitholder is married and filing separately) or $200,000 (in any other case). In the case of an estate or trust, the tax will be imposed on the lesser of
(1) undistributed net investment income and (2) the excess adjusted gross income over the dollar amount at which the highest income tax bracket applicable to an estate or trust begins
for such taxable year. The U.S. Department of the Treasury and the IRS have issued Treasury Regulations that provide guidance regarding the NIIT. Prospective unitholders are urged to consult with
their tax advisors as to the impact of the NIIT on an investment in our common units.
For
taxable years beginning after December 31, 2017, and ending on or before December 31, 2025, a non-corporate unitholder is entitled to a deduction equal to 20% of its
"qualified business income" attributable to us, subject to certain limitations. For purposes of this deduction, a unitholder's "qualified business income" attributable to us is equal to the sum
of:
-
-
the net amount of such unitholder's allocable share of certain of our items of income, gain, deduction and loss (generally excluding certain
items related to our investment activities, including capital gains and dividends, which are subject to a federal income tax rate of 20%); and
27
Table of Contents
-
-
any gain recognized by such unitholder on the disposition of its units to the extent such gain is attributable to certain Section 751
assets, including depreciation recapture and "inventory items" we own.
Prospective
unitholders should consult their tax advisors regarding the application of this deduction and its interaction with the overall deduction for qualified business income.
We have made the election permitted by Section 754 of the Internal Revenue Code. That election is irrevocable without the consent of the
IRS. The election generally permits us to adjust a common unit purchaser's tax basis in our assets ("inside basis") under Section 743(b) of the Internal Revenue Code to reflect his purchase
price. This election does not apply with respect to a person who purchases common units directly from us. The Section 743(b) adjustment belongs to the purchaser and not to other unitholders.
For purposes of this discussion, the inside basis in our assets with respect to a unitholder will be considered to have two components: (i) his share of our tax basis in our assets ("common
basis") and (ii) his Section 743(b) adjustment to that basis.
We
have adopted the remedial allocation method as to all our properties. Where the remedial allocation method is adopted, the Treasury Regulations under Section 743 of the
Internal Revenue Code require a portion of the Section 743(b) adjustment that is attributable to recovery property that is subject to depreciation under Section 168 of the Internal
Revenue Code and whose book basis is in excess of its tax basis to be depreciated over the remaining cost recovery period for the property's unamortized Book-Tax Disparity. Under Treasury Regulation
Section 1.167(c)-1(a)(6), a Section 743(b) adjustment attributable to property subject to depreciation under Section 167 of the Internal Revenue Code, rather than cost recovery
deductions under Section 168, is generally required to be depreciated using either the straight-line method or the 150% declining balance method. Under our partnership agreement, our general
partner is authorized to take a position to preserve the uniformity of units even if that position is not consistent with these and any other Treasury Regulations. Please read
"Disposition of Common UnitsUniformity of Units."
We
depreciate the portion of a Section 743(b) adjustment attributable to unrealized appreciation in the value of Contributed Property, to the extent of any unamortized Book-Tax
Disparity, using a rate of depreciation or amortization derived from the depreciation or amortization method and useful life applied to the property's unamortized Book-Tax Disparity, or treat that
portion as non-amortizable to the extent attributable to property that is not amortizable. This method is consistent with the methods employed by other publicly traded partnerships but is arguably
inconsistent with Treasury Regulation Section 1.167(c)-1(a)(6), which is not expected to directly apply to a material portion of our assets. To the extent this Section 743(b) adjustment
is attributable to appreciation in value in excess of the unamortized Book-Tax Disparity, we will apply the rules described in the Treasury Regulations and legislative history. If we determine that
this position cannot reasonably be taken, we may take a depreciation or amortization position under which all purchasers acquiring units in the same month would receive depreciation or amortization,
whether attributable to common basis or a Section 743(b) adjustment, based upon the same applicable rate as if they had purchased a direct interest in our assets. This kind of aggregate
approach may result in lower annual depreciation or amortization deductions than would otherwise be allowable to some unitholders. Please read "Disposition of Common
UnitsUniformity of Units." A unitholder's tax basis for his common units is reduced by his share of our deductions (whether or not such deductions were claimed on an individual's income
tax return) so that any position we take that understates deductions will overstate the common unitholder's basis in his common units, which may cause the unitholder to understate gain or overstate
loss on any sale of such units. Please read "Disposition of Common UnitsRecognition of Gain or Loss." Latham & Watkins LLP is unable to opine as to whether our
method for taking into account Section 743 adjustments is sustainable for property subject to depreciation under Section 167 of the
28
Table of Contents
Internal
Revenue Code or if we use an aggregate approach as described above, as there is no direct or indirect controlling authority addressing the validity of these positions. Moreover, the IRS may
challenge our position with respect to depreciating or amortizing the Section 743(b) adjustment we take to preserve the uniformity of the units. If such a challenge were sustained, the gain
from the sale of units might be increased without the benefit of additional deductions.
A
Section 754 election is advantageous if the transferee's tax basis in his units is higher than the units' share of the aggregate tax basis of our assets immediately prior to the
transfer. Conversely, a Section 754 election is disadvantageous if the transferee's tax basis in his units is lower than those units' share of the aggregate tax basis of our assets immediately
prior to the transfer. Thus, the fair market value of the units may be affected either favorably or unfavorably by the election. A basis adjustment is required regardless of whether a
Section 754 election is made in the case of a transfer of an interest in us if we have a substantial built-in loss immediately after the transfer. Generally, a built-in loss is substantial if
(i) it exceeds $250,000 or (ii) the transferee would be allocated a net loss in excess of $250,000 on a hypothetical sale of our assets for their fair market value immediately after a
transfer of the interest at issue. In addition, a basis adjustment is required regardless of whether a Section 754 election is made if we distribute property and have a substantial basis
reduction. A substantial basis reduction exists if, on a liquidating distribution of property to a unitholder, there would be a negative basis adjustment to our assets in excess of $250,000 if a
Section 754 election were in place.
The
calculations involved in the Section 754 election are complex and will be made on the basis of assumptions as to the value of our assets and other matters. For example, the
allocation of the Section 743(b) adjustment among our assets must be made in accordance with the Internal Revenue Code. The IRS could seek to reallocate some or all of any Section 743(b)
adjustment allocated by us to our tangible assets to goodwill instead. Goodwill, as an intangible asset, is generally nonamortizable or amortizable over a longer period of time or under a less
accelerated method than our tangible assets. We cannot assure you that the determinations we make will not be successfully challenged by the IRS and that the deductions resulting from them will not be
reduced or disallowed altogether. Should the IRS require a different basis adjustment to be made, and should, in our opinion, the expense of compliance exceed the benefit of the election, we may seek
permission from the IRS to revoke our Section 754 election. If permission is granted, a subsequent purchaser of units may be allocated more income than he would have been allocated had the
election not been revoked.
Tax Treatment of Operations
We use the year ending December 31 as our taxable year and the accrual method of accounting for federal income tax purposes. Each
unitholder will be required to include in income his share of our income, gain, loss and deduction for our taxable year ending within or with his taxable year. In addition, a unitholder who has a
taxable year ending on a date other than December 31 and
who disposes of all of his units following the close of our taxable year but before the close of his taxable year must include his share of our income, gain, loss and deduction in income for his
taxable year, with the result that he will be required to include in income for his taxable year his share of more than twelve months of our income, gain, loss and deduction. Please read
"Disposition of Common UnitsAllocations Between Transferors and Transferees."
Tax Basis, Depreciation and Amortization
The tax basis of our assets will be used for purposes of computing depreciation and cost recovery deductions and, ultimately, gain or loss on
the disposition of these assets. The federal income tax burden associated with the difference between the fair market value of our assets and their tax basis
29
Table of Contents
immediately
prior to an offering will be borne by our unitholders holding interests in us prior to any such offering. Please read "Tax Consequences of Unit
OwnershipAllocation of Income, Gain, Loss and Deduction."
To
the extent allowable, we may use the depreciation and cost recovery methods, including bonus depreciation to the extent available, that will result in the largest deductions being
taken in the early years after assets subject to these allowances are placed in service. Please read "Disposition of Common UnitsUniformity of Units." Property we
subsequently acquire or construct may be depreciated using accelerated methods permitted by the Internal Revenue Code.
If
we dispose of depreciable property by sale, foreclosure or otherwise, all or a portion of any gain, determined by reference to the amount of depreciation previously deducted and the
nature of the property, may be subject to the recapture rules and taxed as ordinary income rather than capital gain. Similarly, a unitholder who has taken cost recovery or depreciation deductions with
respect to property we own will likely be required to recapture some or all of those deductions as ordinary income upon a sale of his interest in us. Please read "Tax Consequences of Unit
OwnershipAllocation of Income, Gain, Loss and Deduction" and "Disposition of Common UnitsRecognition of Gain or Loss."
The
costs we incur in selling our units (called "syndication expenses") must be capitalized and cannot be deducted currently, ratably or upon our termination. There are uncertainties
regarding the classification of costs as organization expenses, which may be amortized by us, and as syndication expenses, which may not be amortized by us. The underwriting discounts and commissions
we incur will be treated as syndication expenses.
The federal income tax consequences of the ownership and disposition of units will depend in part on our estimates of the relative fair market
values, and the initial tax bases, of our assets. Although we may from time to time consult with professional appraisers regarding valuation matters, we will make many of the relative fair market
value estimates ourselves. These estimates and determinations of basis are subject to challenge and will not be binding on the IRS or the courts. If the estimates of fair market value or
determinations of basis are later found to be incorrect, the character and amount of items of income, gain, loss or deductions previously reported by unitholders might change, and unitholders might be
required to adjust their tax liability for prior years and incur interest and penalties with respect to those adjustments.
In general, we are entitled to depletion deductions with respect to silica sand mined from the underlying mineral property. We generally are
entitled to the greater of cost depletion limited to the basis of the property or percentage depletion. The percentage depletion rate for silica sand is 5%.
Depletion
deductions we claim generally will reduce the tax basis of the underlying mineral property. Depletion deductions can, however, exceed the total tax basis of the mineral
property. Upon the disposition of the mineral property, a portion of the gain, if any, equal to the lesser of the deductions for depletion which reduce the adjusted tax basis of the mineral property
plus deductible development and mining exploration expenses (discussed below), or the amount of gain realized upon the disposition, will be treated as ordinary income to us.
We have elected to currently deduct mining exploration expenditures that we pay or incur to determine the existence, location, extent or quality
of silica sand deposits prior to the time the existence of silica sand in commercially marketable quantities has been disclosed.
30
Table of Contents
If
a mine reaches the producing stage in any taxable year, amounts we deducted for mine exploration expenditures must be recaptured and reduce future depletion deductions by the amount
of the recapture, as described below. In the alternative, we may elect, in such taxable year and with respect to all such mines reaching the producing stage during such taxable year, to include such
amount in our taxable income. A mine reaches the producing stage when the major part of the silica sand production is obtained from working mines rather than those opened for the purpose of
development or the principal activity of the mine is the production of developed silica sand rather than the development of additional silica sand for mining. Assuming the election described above is
not made, this recapture is accomplished through the disallowance of both cost and percentage depletion deductions on the particular mine reaching the producing stage. This disallowance of depletion
deductions continues until the amount of adjusted exploration expenditures with respect to the mine has been fully recaptured. This recapture is not applied to the full amount of the previously
deducted exploration expenditures. Instead these expenditures are reduced by the amount of percentage depletion, if any, that was lost as a result of deducting these exploration expenditures.
We
generally elect to defer mine development expenses, consisting of expenditures incurred in making silica sand accessible for extraction, after the exploration process has disclosed
the existence of silica sand in commercially marketable quantities, and deduct them on a ratable basis as the silica sand benefited by the expenses is sold.
Mine
exploration and development expenditures are subject to recapture as ordinary income to the extent of any gain upon a sale or other disposition of our property or of your common
units. Please read "Disposition of Common Units." Corporate unitholders are subject to an additional rule that requires them to capitalize a portion of their otherwise deductible mine
exploration and development expenditures. Corporate unitholders, other than some S corporations, are required to reduce their otherwise deductible exploration expenditures by 30%. These capitalized
mine exploration and development expenditures must be amortized over a 60-month period, beginning in the month paid or incurred, using a straight-line method and may not be treated as part of the
basis of the property for purposes of computing depletion.
If any silica sand reserves are sold or otherwise disposed of in a taxable transaction, we will recognize gain or loss measured by the
difference between the amount realized (including the amount of any indebtedness assumed by the purchaser upon such disposition or to which such property is subject) and the adjusted tax basis of the
property sold. Generally, the character of any gain or loss recognized upon that disposition will depend upon whether our silica sand reserves or the mined silica sand sold are held by
us:
-
-
for sale to customers in the ordinary course of business (i.e., we are a "dealer" with respect to that property);
-
-
for use in a trade or business within the meaning of Section 1231 of the Internal Revenue Code; or
-
-
as a capital asset within the meaning of Section 1221 of the Internal Revenue Code.
In
determining dealer status with respect to silica sand reserves and other types of real estate, the courts have identified a number of factors for distinguishing between a particular
property held for sale in the ordinary course of business and one held for investment. Any determination must be based on all the facts and circumstances surrounding the particular property and sale
in question.
We
intend to hold our silica sand reserves for use in a trade or business and achieve long-term capital appreciation. Although our general partner may consider strategic sales of silica
sand reserves consistent with achieving long-term capital appreciation, our general partner does not anticipate
31
Table of Contents
frequent
sales of silica sand reserves. Thus, the general partner does not believe we will be viewed as a dealer. In light of the factual nature of this question, however, there is no assurance that
our purposes for holding our properties will not change and that our future activities will not cause us to be a "dealer" in silica sand reserves.
If
we are not a dealer with respect to our silica sand reserves and we have held the disposed property for more than a one-year period primarily for use in our trade or business, the
character of any gain or loss realized from a disposition of the property will be determined under Section 1231 of the Internal Revenue Code. If we have not held the property for more than one
year at the time of the sale, gain or loss from the sale will be taxable as ordinary income.
A
unitholder's distributive share of any Section 1231 gain or loss generated by us will be aggregated with any other gains and losses realized by that unitholder from the
disposition of property used in the trade or business, as defined in Section 1231(b) of the Internal Revenue Code, and from the involuntary conversion of such properties and of capital assets
held in connection with a trade or business or a transaction entered into for profit for the requisite holding period. If a net gain results, all such gains and losses will be long-term capital gains
and losses; if a net loss results, all such gains and losses will be ordinary income and losses. Net Section 1231 gains will be treated as ordinary income to the extent of prior net
Section 1231 losses of the taxpayer or predecessor taxpayer for the five most recent prior taxable years to the extent such losses have not previously been offset against Section 1231
gains. Losses are deemed recaptured in the chronological order in which they arose.
If
we are not a dealer with respect to our silica sand reserves and that property is not used in a trade or business, the property will be a "capital asset" within the meaning of
Section 1221 of the Internal Revenue Code. Gain or loss recognized from the disposition of that property will be taxable as capital gain or loss, and the character of such capital gain or loss
as long-term or short-term will be based upon our holding period of such property at the time of its sale. The requisite holding period for long-term capital gain is more than one year.
Upon
a disposition of silica sand reserves, a portion of the gain, if any, equal to the lesser of (1) the depletion deductions that reduced the tax basis of the disposed mineral
property plus deductible development and mining exploration expenses or (2) the amount of gain recognized on the disposition, will be treated as ordinary income to us.
Disposition of Common Units
Gain or loss will be recognized on a sale of units equal to the difference between the amount realized and the unitholder's tax basis for the
units sold. A unitholder's amount realized will be measured by the sum of the cash or the fair market value of other property received by him plus his share of our nonrecourse liabilities. Because the
amount realized includes a unitholder's share of our nonrecourse liabilities, the gain recognized on the sale of units could result in a tax liability in excess of any cash received from the sale.
Prior
distributions from us that in the aggregate were in excess of cumulative net taxable income for a common unit and, therefore, decreased a unitholder's tax basis in that common unit
will, in effect, become taxable income if the common unit is sold at a price greater than the unitholder's tax basis in that common unit, even if the price received is less than his original cost.
Except
as noted below, gain or loss recognized by a unitholder, other than a "dealer" in units, on the sale or exchange of a unit will generally be taxable as capital gain or loss.
Capital gain recognized by an individual on the sale of units held for more than twelve months will generally be taxed at the U.S. federal income tax rate applicable to long-term capital gains.
However, a portion of this gain or loss, which will likely be substantial, will be separately computed and taxed as ordinary income or loss
32
Table of Contents
under
Section 751 of the Internal Revenue Code to the extent attributable to assets giving rise to "unrealized receivables," including potential recapture items such as depreciation recapture
or depletion recapture, or to "inventory items" we own. Ordinary income attributable to unrealized receivables and inventory items may exceed net taxable gain realized upon the sale of a unit and may
be recognized even if there is a net taxable loss realized on the sale of a unit. Thus, a unitholder may recognize both ordinary income and a capital loss upon a sale of units. Capital losses may
offset capital gains and no more than $3,000 of ordinary income, in the case of individuals, and may only be used to
offset capital gains in the case of corporations. Ordinary income recognized by a unitholder on disposition of our units may be reduced by such unitholder's deduction for qualified business income.
Both ordinary income and capital gain recognized on a sale of units may be subject to the NIIT in certain circumstances. Please read "Tax Consequences of Unit OwnershipTax
Rates."
The
IRS has ruled that a partner who acquires interests in a partnership in separate transactions must combine those interests and maintain a single adjusted tax basis for all those
interests. Upon a sale or other disposition of less than all of those interests, a portion of that tax basis must be allocated to the interests sold using an "equitable apportionment" method, which
generally means that the tax basis allocated to the interest sold equals an amount that bears the same relation to the partner's tax basis in his entire interest in the partnership as the value of the
interest sold bears to the value of the partner's entire interest in the partnership. Treasury Regulations under Section 1223 of the Internal Revenue Code allow a selling unitholder who can
identify common units transferred with an ascertainable holding period to elect to use the actual holding period of the common units transferred. Thus, according to the ruling discussed above, a
common unitholder will be unable to select high or low basis common units to sell as would be the case with corporate stock, but, according to the Treasury Regulations, he may designate specific
common units sold for purposes of determining the holding period of units transferred. A unitholder electing to use the actual holding period of common units transferred must consistently use that
identification method for all subsequent sales or exchanges of common units. A unitholder considering the purchase of additional units or a sale of common units purchased in separate transactions is
urged to consult his tax advisor as to the possible consequences of this ruling and application of the Treasury Regulations.
Specific
provisions of the Internal Revenue Code affect the taxation of some financial products and securities, including partnership interests, by treating a taxpayer as having sold an
"appreciated" partnership interest, one in which gain would be recognized if it were sold, assigned or terminated at its fair market value, if the taxpayer or related persons enter(s)
into:
-
-
an offsetting notional principal contract; or
-
-
a futures or forward contract;
-
-
in each case, with respect to the partnership interest or substantially identical property.
Moreover,
if a taxpayer has previously entered into a short sale, an offsetting notional principal contract or a futures or forward contract with respect to the partnership interest, the
taxpayer will be treated as having sold that position if the taxpayer or a related person then acquires the partnership interest or substantially identical property. The Secretary of the Treasury is
also authorized to issue regulations that treat a taxpayer that enters into transactions or positions that have substantially the same effect as the preceding transactions as having constructively
sold the financial position.
In general, our taxable income and losses will be determined annually, will be prorated on a monthly basis in proportion to the number of days
in each month and will be subsequently apportioned among our unitholders in proportion to the number of units owned by each of them as of the opening of the applicable exchange on the first business
day of the month, which we refer to in this prospectus
33
Table of Contents
as
the "Allocation Date." However, gain or loss realized on a sale or other disposition of our assets other than in the ordinary course of business will be allocated among our unitholders on the
Allocation Date in the month in which that gain or loss is recognized. As a result, a unitholder transferring units may be allocated income, gain, loss and deduction realized after the date of
transfer.
The
U.S. Department of Treasury and the IRS have issued Treasury Regulations that permit publicly traded partnerships to use a monthly simplifying convention that is similar to ours, but
they do not specifically authorize all aspects of the proration method we have adopted. Accordingly, Latham & Watkins LLP is unable to opine on the validity of this method of allocating
income and deductions between transferor and transferee unitholders. If this method is not allowed under the Treasury Regulations, our taxable income or losses might be reallocated among the
unitholders. We are authorized to revise our method of allocation between transferor and transferee unitholders, as well as unitholders whose interests vary during a taxable year.
A
unitholder who owns units at any time during a quarter and who disposes of them prior to the record date set for a cash distribution for that quarter will be allocated items of our
income, gain, loss and deductions attributable to that quarter through the month of disposition but will not be entitled to receive that cash distribution.
A unitholder who sells any of his units is generally required to notify us in writing of that sale within 30 days after the sale (or, if
earlier, January 15 of the year following the sale). A purchaser of units who purchases units from another unitholder is also generally required to notify us in writing of that purchase within
30 days after the purchase. Upon receiving such notifications, we are required to notify the IRS of that transaction and to furnish specified information to the transferor and transferee.
Failure to notify us of a purchase may, in some cases, lead to the imposition of penalties. However, these reporting requirements do not apply to a sale by an individual who is a citizen of the United
States and who effects the sale or exchange through a broker who will satisfy such requirements.
Because we cannot match transferors and transferees of units, we must maintain uniformity of the economic and tax characteristics of the units
to a purchaser of these units. In the absence of uniformity, we may be unable to completely comply with a number of federal income tax requirements, both statutory and regulatory. A lack of uniformity
can result from a literal application of Treasury Regulation Section 1.167(c)-1(a)(6). Any non-uniformity could have a negative impact on the value of the units. Please read "Tax
Consequences of Unit OwnershipSection 754 Election.". We take into account the portion of a Section 743(b) adjustment attributable to unrealized appreciation in the value of
Contributed Property, to the extent of any unamortized Book-Tax Disparity, using a rate of depreciation or amortization derived from the depreciation or amortization method and useful life applied to
the property's unamortized Book-Tax Disparity, or treat that portion as nonamortizable, to the extent attributable to property the common basis of which is not amortizable, consistent with the
regulations under Section 743 of the Internal Revenue Code, even though that position may be inconsistent with Treasury Regulation Section 1.167(c)-1(a)(6), which is not expected to
directly apply to a material portion of our assets. Please read "Tax Consequences of Unit OwnershipSection 754 Election." To the extent that the Section 743(b)
adjustment is attributable to appreciation in value in excess of the unamortized Book-Tax Disparity, we will apply the rules described in the Treasury Regulations and legislative history. If we
determine that this position cannot reasonably be taken, we may adopt a depreciation and amortization position under which all purchasers acquiring units in the same month would receive depreciation
and amortization deductions, whether attributable to common basis or a Section 743(b) adjustment, based upon the same applicable rate as if they had purchased a direct interest in our assets.
If this position is adopted, it may result in lower annual depreciation and
34
Table of Contents
amortization
deductions than would otherwise be allowable to some unitholders and risk the loss of depreciation and amortization deductions not taken in the year that these deductions are otherwise
allowable. This position will not be adopted if we determine that the loss of depreciation and amortization deductions will have a material adverse effect on the unitholders. If we choose not to
utilize this aggregate method, we may use any other reasonable depreciation and amortization method to preserve the uniformity of the intrinsic tax characteristics of any units that would not have a
material adverse effect on the unitholders. In either case, and as stated above under "Tax Consequences of Unit OwnershipSection 754 Election," Latham &
Watkins LLP has not rendered an opinion with respect to these methods. Moreover, the IRS may challenge any method of depreciating the Section 743(b) adjustment described in this
paragraph. If this challenge were sustained, the uniformity of units might be affected, and the gain from the sale of units might be increased without the benefit of additional deductions. Please read
"Recognition of Gain or Loss."
Tax-Exempt Organizations and Other Investors
Ownership of units by employee benefit plans, other tax-exempt organizations, non-resident aliens, foreign corporations and other foreign
persons raises issues unique to those investors and, as described below to a limited extent, may have substantially adverse tax consequences to them. If you are a tax-exempt entity or a foreign
person, you should consult your tax advisor before investing in our common units. Employee benefit plans and most other organizations exempt from federal income tax, including individual retirement
accounts and other retirement plans, are subject to federal income tax on unrelated business taxable income. Virtually all of our income allocated to a unitholder that is a tax-exempt organization
will be unrelated business taxable income and will be taxable to it.
Non-resident
aliens and foreign corporations, trusts or estates that own units will be considered to be engaged in business in the United States because of the ownership of units. As a
consequence, they will be required to file federal tax returns to report their share of our income, gain, loss or deduction and pay federal income tax at regular rates on their share of our net income
or gain. Moreover, under rules applicable to publicly traded partnerships, our quarterly distribution to foreign unitholders will be subject to withholding at the highest applicable effective tax
rate. Each foreign unitholder must obtain a taxpayer identification number from the IRS and submit that number to our transfer agent on a Form W-8BEN, W-8BEN-E or applicable substitute form in
order to obtain credit for these withholding taxes. A change in applicable law may require us to change these procedures.
In
addition, because a foreign corporation that owns units will be treated as engaged in a U.S. trade or business, that corporation may be subject to the U.S. branch profits tax at a
rate of 30%, in addition to
regular federal income tax, on its share of our earnings and profits, as adjusted for changes in the foreign corporation's "U.S. net equity," that is effectively connected with the conduct of a U.S.
trade or business. That tax may be reduced or eliminated by an income tax treaty between the United States and the country in which the foreign corporate unitholder is a "qualified resident."
In addition, this type of unitholder is subject to special information reporting requirements under Section 6038C of the Internal Revenue Code.
A
foreign unitholder who sells or otherwise disposes of a common unit will be subject to U.S. federal income tax on gain realized from the sale or disposition of that unit to the extent
the gain is effectively connected with a U.S. trade or business of the foreign unitholder. Gain on the sale or disposition of a common unit will be treated as effectively connected with a U.S. trade
or business to the extent that a foreign unitholder would recognize gain effectively connected with a U.S. trade or business upon the hypothetical sale of our assets at fair market value on the date
of the sale or exchange of that unit. Such gain shall be reduced by certain amounts treated as effectively connected with a U.S. trade or business attributable to certain real property interests, as
set forth in the following paragraph.
35
Table of Contents
Under the Foreign Investment in Real Property Tax Act, a foreign common unitholder (other than certain "qualified foreign pension funds" (or an entity all of the
interests of which are held by such a qualified foreign pension fund), which generally are entities or arrangements that are established and regulated by foreign law to provide retirement or other
pension benefits to employees, do not have a single participant or beneficiary that is entitled to more than 5% of the assets or income of the entity or arrangement and are subject to certain
preferential tax treatment under the laws of the applicable foreign country) generally will be subject to U.S. federal income tax upon the sale or disposition of a common unit if (i) he owned
(directly or constructively applying certain attribution rules) more than 5% of our common units at any time during the five-year period ending on the date of such disposition and (ii) 50% or
more of the fair market value of all of our assets consisted of U.S. real property interests at any time during the shorter of the period during which such unitholder held the common units or the
five-year period ending on the date of disposition.
Upon
the sale, exchange or other disposition of a unit by a foreign unitholder, the transferee is generally required to withhold 10% of the amount realized on such sale, exchange or
other disposition if any portion of the gain on such sale, exchange or other disposition would be treated as effectively connected with a U.S. trade or business. If the transferee fails to satisfy
this withholding requirement, we will be required to deduct and withhold such amount (plus interest) from future distributions to the transferee. Because the "amount realized" would include a
unitholder's share of our nonrecourse
liabilities, 10% of the amount realized could exceed the total cash purchase price for such disposed units. Due to this fact, our inability to match transferors and transferees of units, and other
uncertainty surrounding the application of these withholding rules, the U.S. Department of the Treasury and the IRS have currently suspended these rules for transfers of certain publicly traded
partnership interests, including transfers of our units, until regulations or other guidance has been issued. It is unclear when such regulations or other guidance will be issued.
Additional
withholding requirements may also affect certain foreign unitholders. Please read "Administrative MattersAdditional Withholding Requirements."
Administrative Matters
Information Returns and Audit Procedures.
We intend to furnish to each unitholder, within 90 days after the close of each calendar
year,
specific tax information, including a Schedule K-1, which describes his share of our income, gain, loss and deduction for our preceding taxable year. In preparing this information, which will
not be reviewed by counsel, we will take various accounting and reporting positions, some of which have been mentioned earlier, to determine each unitholder's share of income, gain, loss and
deduction. We cannot assure you that those positions will yield a result that conforms to the requirements of the Internal Revenue Code, Treasury Regulations or administrative interpretations of the
IRS. Neither we nor Latham & Watkins LLP can assure prospective unitholders that the IRS will not successfully contend in court that those positions are impermissible. Any challenge by
the IRS could negatively affect the value of the units.
The
IRS may audit our federal income tax information returns. Adjustments resulting from an IRS audit may require each unitholder to adjust a prior year's tax liability, and possibly may
result in an audit of his return. Any audit of a unitholder's return could result in adjustments not related to our returns as well as those related to our returns.
Partnerships
generally are treated as separate entities for purposes of federal tax audits, judicial review of administrative adjustments by the IRS and tax settlement proceedings. The
tax treatment of partnership items of income, gain, loss and deduction are determined in a partnership proceeding rather than in separate proceedings with the partners. For taxable years beginning on
or before December 31, 2017, the Internal Revenue Code requires that one partner be designated as the "Tax
36
Table of Contents
Matters
Partner" for these purposes. Our partnership agreement names Emerge Energy Services GP LLC as our Tax Matters Partner.
The
Tax Matters Partner has made and will make some elections on our behalf and on behalf of unitholders. In addition, the Tax Matters Partner can extend the statute of limitations for
assessment of tax deficiencies against unitholders for items in our returns. The Tax Matters Partner may bind a unitholder with less than a 1% profits interest in us to a settlement with the IRS
unless that unitholder elects, by filing a statement with the IRS, not to give that authority to the Tax Matters Partner. The Tax Matters Partner may seek judicial review, by which all the unitholders
are bound, of a final partnership administrative adjustment and, if the Tax Matters Partner fails to seek judicial review, judicial review may be sought by any unitholder having at least a 1% interest
in profits or by any group of unitholders having in the aggregate at least a 5% interest in profits. However, only one action for judicial review will go forward, and each unitholder with an interest
in the outcome may participate.
A
unitholder must file a statement with the IRS identifying the treatment of any item on his federal income tax return that is not consistent with the treatment of the item on our
return. Intentional or negligent disregard of this consistency requirement may subject a unitholder to substantial penalties
Pursuant
to the Bipartisan Budget Act of 2015, for taxable years beginning after December 31, 2017, if the IRS makes audit adjustments to our income tax returns, it may assess and
collect any taxes (including any applicable penalties and interest) resulting from such audit adjustment directly from us. Similarly, for such taxable years, if the IRS makes audit adjustments to
income tax returns filed by an entity in which we are a member or partner, it may assess and collect any taxes (including penalties and interest) resulting from such audit adjustment directly from
such entity. Generally, we expect to elect to have our general partner and its unitholders take any such audit adjustment into account in accordance with their interests in us during the taxable year
under audit, but there can be no assurance that such election will be effective in all circumstances. If, as a result of any such audit adjustment, we are required to make payments of taxes, penalties
and interest, our cash available for distribution to our common unitholders might be substantially reduced.
Additionally,
pursuant to the Bipartisan Budget Act of 2015, the Internal Revenue Code will no longer require that we designate a Tax Matters Partner. Instead, for taxable years
beginning after December 31, 2017, we will be required to designate a partner, or other person, with a substantial presence in the United States as the partnership representative ("Partnership
Representative"). The Partnership Representative will have the sole authority to act on our behalf for purposes of, among other things, U.S. federal income tax audits and judicial review of
administrative adjustments by the IRS. If we do not make such a designation, the IRS can select any person as the Partnership Representative. We currently anticipate that we will designate our
general partner as our Partnership Representative. Further, any actions taken by us or by the Partnership Representative on our behalf with respect to, among other things, U.S. federal income tax
audits and judicial review of administrative adjustments by the IRS, will be binding on us and all of our unitholders.
Withholding taxes may apply to certain types of payments made to "foreign financial institutions" (as specially defined in the Internal Revenue
Code) and certain other foreign entities. Specifically, a 30% withholding tax may be imposed on interest, dividends and other fixed or determinable annual or periodical gains, profits and income from
sources within the United States ("FDAP Income"), or gross proceeds from the sale or other disposition of any property of a type which can produce interest or dividends from sources within the United
States ("Gross Proceeds") paid to a foreign financial institution or to a "non-financial foreign entity" (as specially defined in the Internal Revenue Code), unless (i) the foreign financial
institution undertakes certain diligence and reporting, (ii) the
37
Table of Contents
non-financial
foreign entity either certifies it does not have any substantial U.S. owners or furnishes identifying information regarding each substantial U.S. owner or (iii) the foreign
financial institution or non-financial foreign entity otherwise qualifies for an exemption from these rules. If the payee is a foreign financial institution and is subject to the diligence and
reporting requirements in clause (i) above, it must enter into an agreement with the U.S. Department of the Treasury requiring, among other things, that it undertake to identify accounts held
by certain U.S. persons or U.S.-owned foreign entities, annually report certain information about such accounts, and withhold 30% on payments to noncompliant foreign financial institutions and certain
other account holders. Foreign financial institutions located in jurisdictions that have an intergovernmental agreement with the United States governing these requirements may be subject to different
rules.
These
rules generally apply to payments of FDAP Income currently and generally will apply to payments of relevant Gross Proceeds made on or after January 1, 2019. Thus, to the
extent we have current FDAP Income or have Gross Proceeds on or after January 1, 2019 that are not treated as effectively connected with a U.S. trade or business (please read
"Tax-Exempt Organizations and Other Investors"), unitholders who are foreign financial institutions or certain other foreign entities, or persons that hold their units through such
foreign entities, may be subject to withholding on distributions they receive from us, or their distributive share of our income, pursuant to the rules described above.
Prospective
investors should consult their own tax advisors regarding the potential application of these withholding provisions to their investment in our common units.
Persons who hold an interest in us as a nominee for another person are required to furnish to us:
-
-
the name, address and taxpayer identification number of the beneficial owner and the nominee;
-
-
whether the beneficial owner is:
-
-
a person that is not a United States person;
-
-
a foreign government, an international organization or any wholly owned agency or instrumentality of either of the foregoing; or
-
-
a tax-exempt entity;
-
-
the amount and description of units held, acquired or transferred for the beneficial owner; and
-
-
specific information including the dates of acquisitions and transfers, means of acquisitions and transfers, and acquisition cost for
purchases, as well as the amount of net proceeds from dispositions.
Brokers
and financial institutions are required to furnish additional information, including whether they are U.S. persons and specific information on units they acquire, hold or
transfer for their own account. A penalty of $260 per failure, up to a maximum of $3,218,500 per calendar year, is imposed by the Internal Revenue Code for failure to report that information to us.
The nominee is required to supply the beneficial owner of the units with the information furnished to us.
Accuracy-Related Penalties
Certain penalties may be imposed on taxpayers as a result of an underpayment of tax that is attributable to one or more specified causes,
including: (i) negligence or disregard of rules or regulations, (ii) substantial understatements of income tax, (iii) substantial valuation misstatements and (iv) the
disallowance of claimed tax benefits by reason of a transaction lacking economic substance or failing to meet the requirements of any similar rule of law. Except with respect to the disallowance of
38
Table of Contents
claimed
tax benefits by reason of a transaction lacking economic substance or failing to meet the requirements of any similar rule of law, however, no penalty will be imposed for any portion of any
such underpayment if it is shown that there was a reasonable cause for the underpayment of that portion and that the taxpayer acted in good faith regarding the underpayment of that portion. With
respect to substantial understatements of income tax, the amount of any understatement subject to penalty generally is reduced by that portion of the understatement which is attributable to a position
adopted on the return (A) for which there is, or was, "substantial authority" or (B) as to which there is a reasonable basis and the relevant facts of that position are adequately
disclosed on the return. If any item of income, gain, loss or deduction included in the distributive shares of unitholders might result in that kind of an "understatement" of income for which no
"substantial authority" exists, we must adequately disclose the relevant facts on our return. In addition, we will make a reasonable effort to furnish sufficient information for unitholders to make
adequate disclosure on their returns and to take other actions as may be appropriate to permit unitholders to avoid liability for this penalty.
Recent Legislative Developments
The present federal income tax treatment of publicly traded partnerships, including us, or an investment in our common units may be modified by
administrative, legislative or judicial interpretation at any time. For example, from time to time, members of Congress and the President propose and consider substantive changes to the existing
federal income tax laws that affect the tax treatment of publicly traded partnerships and our common unitholders.
Recently,
the President signed into law comprehensive U.S. federal tax reform legislation that significantly reforms the Internal Revenue Code. This legislation, among other things,
contains significant changes to the taxation of our operations and an investment in our common units, including a partial limitation on the deductibility of certain business interest expenses, a
deduction for our unitholders relating to certain income from partnerships, immediate deductions for certain new investments instead of deductions for depreciation over time and the modification or
repeal of many business deductions and credits. We continue to examine the impact of this tax reform legislation, and as its overall impact is uncertain, we note that this tax reform legislation could
adversely affect the value of an investment in our common units. Prospective common unitholders are urged to consult their tax advisors regarding the impact of this tax reform legislation on an
investment in our common units
Additional
modifications to the federal income tax laws and interpretations thereof may or may not be retroactively applied and could make it more difficult or impossible to meet the
exception for us to be treated as a partnership for federal income tax purposes. Please read "Partnership Status." We are unable to predict whether any such changes will ultimately be
enacted. However, it is possible that a change in law could affect us, and any such changes could negatively impact the value of an investment in our common units.
State, Local, Foreign and Other Tax Considerations
In addition to federal income taxes, you likely will be subject to other taxes, such as state, local and foreign income taxes, unincorporated
business taxes, and estate, inheritance or intangible taxes that may be imposed by the various jurisdictions in which we do business or own property or in which you are a resident. Although an
analysis of those various taxes is not presented here, each prospective commonunitholder should consider their potential impact on his investment in us. We currently own property or do business in
many states. Several of these states impose a personal income tax on individuals; certain of these states also impose an income tax on corporations and other entities. We may also own property or do
business in other jurisdictions in the future. Although you may not be required to file a return and pay taxes in some jurisdictions because your income from that
jurisdiction falls below the filing and payment requirement, you will be required to file income tax returns and to
39
Table of Contents
pay
income taxes in many of these jurisdictions in which we do business or own property and may be subject to penalties for failure to comply with those requirements. In some jurisdictions, tax losses
may not produce a tax benefit in the year incurred and may not be available to offset income in subsequent taxable years. Some of the jurisdictions may require us, or we may elect, to withhold a
percentage of income from amounts to be distributed to a unitholder who is not a resident of the jurisdiction. Withholding, the amount of which may be greater or less than a particular unitholder's
income tax liability to the jurisdiction, generally does not relieve a nonresident unitholder from the obligation to file an income tax return. Amounts withheld will be treated as if distributed to
unitholders for purposes of determining the amounts distributed by us. Please read "Tax Consequences of Unit OwnershipEntity-Level Collections" above. Based on current law
and our estimate of our future operations, our general partner anticipates that any amounts required to be withheld will not be material.
It
is the responsibility of each unitholder to investigate the legal and tax consequences, under the laws of pertinent states, localities and foreign jurisdictions, of his investment in
us. Accordingly, each prospective common unitholder is urged to consult his own tax counsel or other advisor with regard to those matters. Further, it is the responsibility of each unitholder to file
all state, local and foreign, as well as U.S. federal tax returns, that may be required of him. Latham & Watkins LLP has not rendered an opinion on the state tax, local tax, alternative
minimum tax or foreign tax consequences of an investment in us.
40
Table of Contents