Updated July 30, 2026

Material Participation and the Lodmell AMLP Structure: Why Asset Protection Does Not Necessarily Cost You the Tax Benefits of Active Ownership

One of the most common questions we receive from clients who own short-term rental properties is whether placing those properties into an Asset Management Limited Partnership (AMLP) will prevent them from qualifying for the favorable tax treatment available to taxpayers who materially participate in their business.

This concern is understandable.

The passive activity rules under Internal Revenue Code § 469 contain special restrictions applicable to true limited partners, and many clients notice that their grantor trust typically owns the Limited Partner interest in the AMLP. At first glance, it appears this ownership arrangement could prevent them from qualifying under the familiar 100-hour or 500-hour material participation tests.

Fortunately, the analysis is significantly more nuanced.

When properly structured and operated, an AMLP generally does not prevent a taxpayer from establishing material participation. In fact, where the taxpayer serves as the active manager of the LLCs that own the rental properties and controls the AMLP as its General Partner, there is substantial authority supporting the position that the taxpayer may utilize the ordinary material participation tests available under Treasury Regulation § 1.469-5T(a).

Understanding the Structure

A typical Lodmell structure for a short-term rental client resembles the following:

Grantor
        │
Grantor Trust
        │
Limited Partner
        │
Asset Management Limited Partnership (AMLP)
        │
General Partner
        │
Management Authority
        │
Property LLC
        │
Short-Term Rental Property

In many structures:

• the Grantor Trust owns the Limited Partner interest in the AMLP;
• the taxpayer (either directly or through a GP LLC) serves as the General Partner of the AMLP;
• the AMLP owns one or more Property LLCs;
• each Property LLC owns a single rental property; and
• the taxpayer serves as the Manager of each LLC.

This distinction is extremely important because ownership and management are two different concepts.

The passive activity rules focus primarily on participation in the activity—not merely ownership of the activity.

Material Participation Is Determined at the Taxpayer Level

Partnerships generally do not pay federal income tax.

Instead, all income, deductions, gains, and losses flow through to the partners.

Likewise, a grantor trust is generally disregarded for federal income tax purposes under Subpart E of the Internal Revenue Code. The IRS generally treats the grantor as directly owning the trust’s assets.

Accordingly, the IRS typically asks a single question:

Did the taxpayer materially participate in the activity?

The answer depends upon the taxpayer’s actual involvement in operating the business—not simply the labels assigned to the ownership interests.

The Limited Partner Rule

The concern arises from IRC § 469(h)(2), which provides:

“Except as provided in regulations, no interest in a limited partnership as a limited partner shall be treated as an interest with respect to which a taxpayer materially participates.”

Treasury implemented this provision in Temp. Treas. Reg. § 1.469-5T(e).

Under those regulations, a true limited partner may establish material participation only by satisfying one of three tests:

• more than 500 hours of participation during the year;
• material participation in five of the preceding ten years; or
• material participation for three prior years in a personal service activity.

Notice what is missing.

A limited partner generally cannot use the following commonly utilized tests:

• the 100-hour test;
• the “substantially all participation” test;
• the significant participation activity rules; or
• the facts-and-circumstances test.

If a taxpayer were truly acting only as a passive limited partner, those restrictions could be significant.

The Critical Question: Is the Taxpayer Actually Acting as a Limited Partner?

Modern business entities have evolved considerably since the temporary regulations were written in 1988.

Traditional limited partnerships were designed so that limited partners could not participate in management without risking the loss of their liability protection.

Modern LLCs operate differently.

Members and managers routinely possess extensive operational authority while still enjoying limited liability.

This distinction led several courts to conclude that the limited partner restrictions cannot automatically apply simply because an ownership interest carries limited liability.

Garnett v. Commissioner

One of the most significant decisions is Garnett v. Commissioner, 132 T.C. 368 (2009).

In Garnett, the taxpayers owned interests in several LLCs and LLPs engaged in agricultural businesses.

The IRS argued that the taxpayers should be treated as limited partners and therefore be restricted to the limited partner material participation tests.

The Tax Court disagreed.

The court held that LLC and LLP members were not automatically “limited partners” for purposes of IRC § 469(h)(2), emphasizing that they possessed meaningful management authority that traditional limited partners historically lacked.

Importantly, Garnett did not hold that LLC members automatically materially participate.

Instead, it held that they are generally entitled to use the full set of material participation tests to prove that they do.

That distinction is critical.

Supporting Authority

Other courts have reached similar conclusions.

Among the most frequently cited decisions are:

• Thompson v. United States, 87 Fed. Cl. 728 (2009);
• Gregg v. United States, 186 F. Supp. 2d 1123 (D. Or. 2000);
• Newell v. Commissioner, T.C. Memo. 2010-23; and
• Renkemeyer, Campbell & Weaver, LLP v. Commissioner, 136 T.C. 137 (2011), although addressing self-employment tax, likewise focused on the taxpayer’s actual management rights rather than labels alone.

Collectively, these authorities demonstrate an important trend.

Courts increasingly examine the taxpayer’s actual authority, responsibilities, and operational involvement instead of relying solely upon the legal title attached to an ownership interest.

Applying Those Principles to an AMLP

A Lodmell AMLP differs significantly from the classic passive investment partnership envisioned by § 469(h)(2).

Although the Grantor Trust owns the Limited Partner interest, the taxpayer is typically much more than a passive investor.

The taxpayer commonly serves as:

• General Partner of the AMLP;
• Manager of each Property LLC; and
• primary decision-maker for the rental business.

Those responsibilities generally include:

• approving acquisitions;
• negotiating contracts;
• supervising repairs;
• hiring contractors;
• establishing rental policies;
• reviewing financial reports;
• approving capital expenditures;
• monitoring occupancy;
• overseeing property managers;
• responding to operational issues;
• directing renovations;
• establishing budgets;
• managing financing; and
• making strategic business decisions.

These are not the activities of a passive investor.

They are the activities of an active business operator.

The General Partner’s Role Further Distinguishes the AMLP Structure

An important feature of the Lodmell AMLP structure is that the client is rarely acting solely through a Limited Partner interest.

Instead, the client typically serves in two separate management capacities:

• General Partner of the AMLP (either individually or through a General Partner LLC); and
• Manager of each Property LLC that owns the short-term rental property.

These are legally distinct roles, but together they demonstrate that the client is actively directing and operating the business rather than functioning as a passive investor.

The General Partner Is the Manager of the Partnership

Unlike a limited partner, a General Partner possesses the authority—and the responsibility—to manage the affairs of the partnership.

Depending on the partnership agreement, the General Partner typically has the authority to:

• acquire and dispose of partnership assets;
• admit or remove partners;
• direct the operations of the partnership;
• authorize capital expenditures;
• enter into contracts;
• supervise managers and vendors;
• approve financing transactions;
• oversee distributions; and
• make strategic decisions affecting the business.

These are management functions, not passive investment activities.

Accordingly, when the taxpayer serves as the General Partner, the taxpayer is acting in a fundamentally different capacity than the passive limited partner contemplated by IRC § 469(h)(2).

The Property LLC Is Where the Business Is Operated

The analysis becomes even stronger because the AMLP itself generally is not the entity conducting the day-to-day rental operations.

Instead, the AMLP owns one or more Property LLCs, and those LLCs own and operate the rental properties.

In most Lodmell structures, the taxpayer serves as the Manager of each Property LLC.

As Manager, the taxpayer typically:

• establishes rental policies and pricing;
• approves repairs and maintenance;
• hires and supervises contractors;
• oversees property managers;
• approves improvements and renovations;
• negotiates vendor contracts;
• manages financing decisions;
• reviews financial performance; and
• directs the overall operation of the rental business.

In other words, the taxpayer is performing the very activities that generate the income from the business.

Management Authority Exists at Both Levels

One aspect of the Lodmell structure that is often overlooked is that the taxpayer’s management authority exists at both levels of the ownership chain.

The taxpayer manages the AMLP as General Partner while simultaneously managing the operating LLCs as Manager.

Conceptually, the structure looks like this:

                  Taxpayer
          ┌──────────┴──────────┐
          │                     │
     General Partner      LLC Manager
          │                     │
        AMLP  ─────────────► Property LLC
                               │
                        Short-Term Rental

This dual-management role significantly distinguishes the taxpayer from the passive investor described in IRC § 469(h)(2).

The taxpayer is not simply holding an ownership interest and receiving a Schedule K-1.

Rather, the taxpayer is exercising continuous management authority throughout the organizational structure and making the operational decisions necessary to conduct the rental business.

Why This Matters Under Garnett

The Tax Court’s reasoning in Garnett v. Commissioner focused on substance rather than labels.

The court emphasized that taxpayers possessing meaningful management authority should not automatically be treated as passive limited partners merely because they enjoy limited liability or own interests in modern business entities.

The Lodmell AMLP structure aligns with that reasoning.

The taxpayer is not relying solely on ownership of a Limited Partner interest to claim material participation.

Instead, the taxpayer serves as the General Partner responsible for managing the partnership and as the Manager responsible for operating the LLCs that conduct the rental business.

These facts present a substantially stronger case for applying the ordinary material participation tests than would exist if the taxpayer merely held a passive Limited Partner interest with no management responsibilities.

Substance Over Form

The passive activity rules are intended to distinguish passive investors from taxpayers who are actively engaged in operating a business.

When viewed as a whole, the Lodmell structure demonstrates active operational involvement at every meaningful level:

• the Grantor Trust serves as the ownership vehicle;
• the AMLP centralizes ownership and asset protection;
• the taxpayer manages the AMLP as General Partner;
• the taxpayer manages each Property LLC;
• the taxpayer directs the rental operations; and
• the economic results flow through to the taxpayer for federal income tax purposes.

For these reasons, a taxpayer who genuinely performs these management functions has a compelling argument that he or she should be evaluated under the ordinary material participation rules of Treasury Regulation § 1.469-5T(a), including the 100-hour and 500-hour tests, rather than being confined to the limited partner restrictions contained in Treasury Regulation § 1.469-5T(e).

An Important Caveat

No court has specifically ruled on the precise fact pattern involving a grantor trust owning a Limited Partner interest in an AMLP while the grantor simultaneously serves as the General Partner of the AMLP and the Manager of the Property LLCs.

Accordingly, this analysis is based on the statutory framework, the Treasury Regulations, and persuasive judicial authority—particularly Garnett v. Commissioner, Thompson v. United States, and related cases—that emphasize a taxpayer’s actual management authority and operational involvement rather than formal ownership labels.

While no structure can guarantee a particular tax outcome, the Lodmell AMLP was intentionally designed so that asset protection planning and active business management can coexist without unnecessarily sacrificing the opportunity to establish material participation when the taxpayer genuinely operates the business.

Why Management of the LLC Matters

The Property LLC—not the AMLP itself—actually owns and operates the rental property.

When the taxpayer serves as Manager of the LLC, the taxpayer exercises direct operational authority over the business activity generating the income.

The taxpayer is not merely receiving a Schedule K-1.

The taxpayer is actively conducting the business.

This distinction is precisely the type of factual inquiry emphasized by Garnett and its companion cases.

Can the Taxpayer Use the 100-Hour Test?

Where the taxpayer is not treated as a true limited partner for purposes of § 469(h)(2), there is substantial authority supporting the position that all seven material participation tests remain available.

That includes the test found in Temp. Treas. Reg. § 1.469-5T(a)(3), commonly known as the “100-hour test.”

Under that test, the taxpayer materially participates if:

• the taxpayer participates in the activity for more than 100 hours during the year; and
• no other individual participates more than the taxpayer.

This test can be particularly valuable for taxpayers who employ cleaners, maintenance personnel, or third-party property managers while still retaining overall operational control.

The 500-Hour Test Remains Available

Regardless of the limited partner discussion, taxpayers who devote more than 500 hours annually to operating their rental business generally satisfy the most widely recognized material participation test under Temp. Treas. Reg. § 1.469-5T(a)(1).

Many active short-term rental owners exceed this threshold through:

• guest communications;
• pricing decisions;
• maintenance coordination;
• contractor oversight;
• bookkeeping;
• accounting review;
• marketing;
• furnishing and improvements;
• financing;
• strategic planning; and
• supervision of outside vendors.

Documentation Is Essential

Material participation is ultimately a factual determination.

Good documentation often determines whether a taxpayer prevails during an IRS examination.

Taxpayers should maintain contemporaneous records such as:

• calendars;
• appointment books;
• emails;
• contractor communications;
• maintenance logs;
• property management correspondence;
• travel records;
• invoices;
• project files; and
• time logs identifying the work performed.

Perfect time sheets are not required, but credible contemporaneous evidence significantly strengthens the taxpayer’s position.

Short-Term Rentals Require Separate Analysis

Material participation alone does not determine whether short-term rental income is passive or non-passive.

Taxpayers must first determine whether the activity constitutes a “rental activity” under Treas. Reg. § 1.469-1T(e)(3).

Factors such as the average period of customer use and the nature of services provided may remove the activity from the rental activity rules altogether.

Only after that determination is made does the material participation analysis become relevant.

Accordingly, taxpayers should work closely with their CPA to ensure both analyses are satisfied.

Practical Recommendations

To strengthen the position that material participation flows through the AMLP structure, taxpayers should consider the following practices:

• Serve as the General Partner of the AMLP, either directly or through a GP LLC.
• Serve as the Manager of each Property LLC.
• Ensure the LLC operating agreements clearly grant meaningful management authority.
• Personally perform significant operational functions.
• Maintain contemporaneous records documenting participation.
• Retain authority over major operational decisions, even if third-party property managers are utilized.
• Review management agreements to ensure the taxpayer—not the property manager—retains ultimate control over the business.

The Bottom Line

An AMLP is designed to provide centralized management, liability protection, privacy, and estate planning advantages without unnecessarily sacrificing favorable federal income tax treatment.

Although the Grantor Trust typically owns the Limited Partner interest in the AMLP, that fact alone does not determine whether the taxpayer materially participates.

Rather, the analysis focuses on the taxpayer’s actual role in operating the business.

Where the taxpayer serves as the General Partner of the AMLP, actively manages the Property LLCs, and exercises meaningful operational authority over the short-term rental business, there is substantial judicial authority supporting the availability of the ordinary material participation tests—including the 100-hour and 500-hour tests.

As with most areas of federal tax law, each case depends upon its particular facts. However, when properly structured and operated, an AMLP can preserve both robust asset protection and the opportunity to qualify for the favorable tax treatment available to active business owners.

Disclaimer: This article is intended for educational purposes only and should not be construed as legal or tax advice. Taxpayers should consult with their CPA or other qualified tax advisor regarding the application of the passive activity rules to their specific circumstances.

 

Lodmell & Lodmell, PC is one of the nations leading Asset Protection Law Firms and the creators of The Bridge Trust®.  L&L serves clients nationwide and may be reached at support@lodmell.com or 602-230-2014.

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