A blocker is a taxable entity (usually a C-corporation) placed between the fund and certain investors to block pass-through income that would create tax problems.
The Short Answer
Tax-exempt investors use blockers to avoid UBTI. Foreign investors use blockers to avoid ECI and U.S. filing requirements. The blocker holds the LP interest, pays corporate tax on allocated income, and distributes after-tax proceeds to its investors as dividends.
How It Works
- The blocker corporation holds the LP interest in the fund on behalf of the investor.
- Fund income passes through to the blocker, which pays corporate tax on it.
- The blocker distributes after-tax proceeds to its shareholders as dividends.
- This converts problematic pass-through income (UBTI or ECI) into dividends.
When It Makes Sense
Blockers add cost: formation, maintenance, and corporate tax returns. They are only worth it when the tax exposure they prevent is significant. A tax-exempt LP with minimal UBTI exposure may not need a blocker. A foreign LP with substantial ECI exposure almost certainly does.
- Domestic blocker: Used by tax-exempt investors to shield UBTI.
- Offshore blocker (often Cayman): Used by foreign investors to avoid ECI and U.S. filing obligations.
- Cost consideration: Formation, annual maintenance, and corporate tax return preparation.
- Net return impact: The blocker pays corporate-level tax, reducing the investor's net return.
This content is for informational purposes only and does not constitute legal, tax, or compliance advice. Consult qualified counsel for guidance specific to your situation.