Second Circuit affirms functional test in Soroban

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On Sept. 17, 2026, the Court of Appeals for the Second Circuit held in Soroban Capital Partners LP v. Commissioner (PDF - 372.99KB) that the definition of a limited partner for self-employment tax purposes “means a partner who, in addition to having limited liability, does not run, manage, or control the partnership’s business.”

In doing so, the court rejected the taxpayer’s argument that limited partner status under state law was sufficient to qualify for the exemption provided to “limited partners” from self-employment taxes as defined by the Self-Employment Contributions Act (SECA). The Second Circuit’s decision in Soroban adds to a growing body of authority requiring a functional analysis for purposes of applying the SECA limited partner exception and will be of particular interest to taxpayers located within the Second Circuit’s jurisdiction, including many within the asset management industry.

The issue in Soroban was whether three individuals were subject to SECA on their distributive shares of management fee income from an asset management company in which they were partners. The asset management company was organized as a Delaware limited partnership, and each of the individuals held a 33% limited partner (for state law purposes) interest. A 1% general partner interest was held by a limited liability company, owned equally by the same three individuals.

Although a partner is generally subject to SECA on his distributive share of a partnership’s trade or business income, the Soroban partners claimed their shares qualified for an exception from SECA for “limited partners” under Section 1402(a)(13).

The Second Circuit affirmed prior opinions from the Tax Court that a functional analysis determines whether a partner is a limited partner whose distributive share is exempt from self-employment tax under Section 1402(a)(13) and that the individuals did not satisfy the functional test for limited partners.

Like the Tax Court, the Second Circuit discerned that, at the time Section 1402(a)(13) was enacted, the term “limited partner” was understood to mean a partner who did not manage the partnership and thus generally functioned as a passive investor.  Because the three individuals exercised managerial control over the partnership and played an essential role in generating its income, they did not qualify as limited partners within the meaning of Section 1402(a)(13).

The latest opinion in Soroban follows close on the heels of an August opinion in K Alain, L.L.L.P. v. Commissioner (formerly captioned as Sirius Solutions) in which the Court of Appeals for the Fifth Circuit held that a “limited partner” is a partner who plays no significant role in managing or running a business, rejecting the position that state law status as a limited partner (or holding limited liability under state law) is enough to qualify under Section 1402(a)(13). See here for our prior coverage of the Fifth Circuit decision.

Although both the Second and Fifth Circuits have adopted a functional test approach, the Fifth Circuit explicitly rejected the Tax Court’s opinion in Soroban, and it remains to be seen whether the degree of services a partner can perform while retaining limited partner status varies depending on whether the Soroban or K. Alain standard is applied.