Blocker Corporation

Jurisdiction and status

Blockers are a US federal income tax device. The problems they address arise under the Internal Revenue Code's rules on unrelated business taxable income (UBTI), in sections 512 and 514, and on the effectively connected income (ECI) of non-US persons engaged in a US trade or business through a partnership, in sections 864 and 875. The cost of a US blocker follows from current statute: corporate taxable income is taxed at a flat 21% (section 11(b)), and business interest deductions are capped at business interest income plus 30% of adjusted taxable income and floor plan financing interest, with disallowed interest carried forward (section 163(j)). These provisions are in force at 2 October 2026.

The two problems a blocker solves

UBTI for US tax-exempt investors. Tax-exempt organisations are taxed on unrelated business taxable income (UBTI). Passive income such as dividends, interest and most capital gains is excluded, but income from an operating business held through a partnership is not, and income from debt-financed property is pulled back into UBTI in proportion to the debt. An organisation with several unrelated businesses must compute UBTI separately for each, so losses in one cannot offset income in another.

ECI for non-US investors. A non-US person is treated as engaged in a US trade or business if a partnership it invests in is so engaged, producing effectively connected income (ECI) taxable in the US. Gain on selling an interest in such a partnership can also be ECI, and the buyer must withhold 10% of the amount realised unless an exception applies.

How a blocker works

The affected investors invest through a corporation (a US C-corporation, or a non-US corporation where that achieves the result) that holds the partnership interest or the investment. The corporation receives the business income, pays corporate-level tax, and distributes after-tax profits as dividends, or realises gain when it is sold or liquidated. For a tax-exempt investor, dividends are excluded from UBTI. For a non-US investor, it receives dividends or sale proceeds rather than ECI; dividends a US blocker pays to a non-US corporate investor bear the 30% US tax on US-source dividends under section 881(a), unless an applicable income tax treaty provides a lower rate (the Code is applied with due regard to US treaty obligations, section 894(a)).

Where blockers appear

In private equity, fund limited partnership agreements (LPAs) usually let the GP form blockers or alternative investment vehicles for investments in pass-through operating companies, either for all investors or only for those who elect. In hedge funds, the offshore corporate feeder of a master-feeder acts as a blocker for US tax-exempt investors. In private credit and real estate, managers consider blockers, treaty structures or REIT and BDC wrappers where lending or property activities could give rise to ECI.

Costs and trade-offs

The blocker's corporate tax is a permanent cost borne by the blocked investors, so it is used only where the investor would otherwise suffer UBTI or ECI. Variations reduce leakage, for example funding the blocker partly with investor debt so interest is deductible ("leveraged blocker"), subject to the section 163(j) cap on business interest deductions, or selling the blocker itself rather than the underlying asset. Expenses of the blocker are usually charged only to the investors who use it. Whether a blocker is worthwhile depends on the investor's tax position, the expected income type and exit route, and requires tax advice.

Not the same as

• Alternative Investment Vehicle: An alternative investment vehicle (AIV) is a parallel route for some or all LPs into a particular investment; it may include a blocker but is defined by the LPA, not by tax function.
• Holding Company: A holding company owns subsidiaries for commercial, financing or ring-fencing reasons; a blocker exists specifically to change the tax character of income for certain investors.
• Feeder Fund: A feeder aggregates investors into a fund; an offshore corporate feeder can also function as a blocker.

How it is classified

• Call an entity a blocker if it is taxed as a corporation and was inserted for specific investors to stop UBTI or ECI flowing through.
• If the corporation is the portfolio company's own top holding entity, classify it as a holding company, not a blocker.

Common mistakes

• Assuming all private fund income is UBTI. Dividends, interest and most gains are excluded unless debt-financed or from an operating business.
• Using a blocker for investors who are not exposed to UBTI or ECI, creating unnecessary corporate tax.
• Assuming a blocker eliminates all US tax for non-US investors; corporate tax and possible dividend withholding remain.

Edge cases

• Under section 897 a non-US investor's gain on a US real property interest is taxed as effectively connected income, and stock of a US corporation whose US real property interests are worth 50% or more of the total of its US real property interests, its real property outside the US and its other trade or business assets is itself generally such an interest, so a US blocker holding mainly US real estate does not avoid the rule.
• Some tax-exempt investors, such as certain qualified pension trusts, benefit from statutory exceptions to debt-financed income for real property.

Sources

1. 26 U.S.C. 512 - Unrelated business taxable income. U.S. Congress (Internal Revenue Code; LII mirror), Current US Code text as published by LII (accessed 2026-10-01). Status: in force (checked 2026-10-01). Sec. 512(a)(6)(A)-(C), 512(b)(1), (b)(4), (b)(5), 512(c)(1) — supports: Separate computation for each unrelated trade or business, each floored at zero; exclusions for dividends, interest and gains on non-inventory property; debt-financed income included; exempt partner includes its share of a partnership's unrelated trade or business income
2. 26 U.S.C. 514 - Unrelated debt-financed income. U.S. Congress (Internal Revenue Code; LII mirror), Current US Code text as published by LII (accessed 2026-10-01). Status: in force (checked 2026-10-01). Sec. 514(a)(1), (c)(9)(A), (C) — supports: Debt-financed income included in UBTI; real property exception for qualified organisations
3. 26 U.S.C. 875 - Partnerships; beneficiaries of estates and trusts. U.S. Congress (Internal Revenue Code; LII mirror), Current US Code text as published by LII (accessed 2026-10-01). Status: in force (checked 2026-10-01). Sec. 875(1) — supports: Foreign partner treated as engaged in a US trade or business through the partnership
4. 26 U.S.C. 864 - Definitions and special rules (trade or business within the US; effectively connected income). U.S. Congress (Internal Revenue Code; LII mirror), Current US Code text as published by LII (accessed 2026-10-01). Status: in force (checked 2026-10-01). Sec. 864(c), 864(c)(8) — supports: Effectively connected income; gain on disposal of partnership interest treated as ECI
5. 26 U.S.C. 1446 - Withholding of tax on foreign partners' share of effectively connected income (incl. 1446(f)). U.S. Congress (Internal Revenue Code; LII mirror), Current US Code text as published by LII (accessed 2026-10-01). Status: in force (checked 2026-10-01). Sec. 1446(f)(1)-(2) — supports: 10% withholding by the transferee on disposals of partnership interests
6. 26 U.S.C. 11 - Tax imposed (corporations). U.S. Congress (US Code via LII), Current US Code text as published by LII (accessed 2026-10-01). Status: in force (checked 2026-10-01). Sec. 11(b) — supports: Corporate income tax of 21% of taxable income
7. 26 U.S.C. 881 - Tax on income of foreign corporations not connected with United States business. U.S. Congress (US Code via LII), Current US Code text as published by LII (accessed 2026-10-01). Status: in force (checked 2026-10-01). Sec. 881(a) — supports: 30% tax on US-source dividends and other fixed or determinable income of foreign corporations not effectively connected with a US business
8. 26 U.S.C. 897 - Disposition of investment in United States real property. U.S. Congress (US Code via LII), Current US Code text as published by LII (accessed 2026-10-01). Status: in force (checked 2026-10-01). Sec. 897(a)(1), (c)(1)(A), (c)(2) — supports: Gain on US real property interests treated as effectively connected; US real property holding corporation stock as a US real property interest; 50% test
9. 26 U.S.C. 163 - Interest, incl. s.163(j) limitation on business interest. U.S. Congress (US Code via LII), Current US Code text as published by LII (accessed 2026-10-01). Status: in force (checked 2026-10-01). Sec. 163(j)(1)-(2) — supports: Business interest deduction limited to business interest income, 30% of adjusted taxable income and floor plan financing interest; carryforward of disallowed interest
10. 26 U.S.C. 894 - Income affected by treaty. U.S. Congress (United States Code; LII mirror), Current US Code text as published by LII (accessed 2026-10-02). Status: in force (checked 2026-10-02). Sec. 894(a)(1) — supports: Code applied with due regard to US treaty obligations

• Unrelated Business Taxable Income (UBTI)
• Master-Feeder Structure
• Special Purpose Vehicle (SPV)
• Due Diligence
• Holding Company
• Fund Structure

• Foundation (Charitable Foundation)