Passive and subject to SE tax

We are having a discussion in our office about a relatively unusual situation where the client fails all the material participation tests with regard to an LLC he majority owns (taxed as a partnership), but where the net profit of the LLC likely still needs to be considered self-employment income. He devotes very little time to the business as employees perform all the day-to-day work, and going through the 7 tests he doesn't pass any, so I believe he also must be considered passive.

However the taxpayer has all of the power in the LLC and can certainly bind the company to contracts, so I do not see anyway that he can be considered a limited partner under the tests in the 1402 proposed regs. So I think he's both passive, and subject to SE-tax on the same income. Others disagree and think you have to be passive and not SE, or nonpassive and SE, like they are mutually exclusive. There was also a concern that this would subject them to NIIT as well as SE tax on the same income. Helpfully I noticed that code section 1411 excludes income that is already subject to SE from also being hit with NIIT, so at least this doesn't mean he's hit with the 3.8% tax twice, but we still have the primary issue.

I would think this is not uncommon, and that I could quite easily clear this up by finding a court case where a taxpayer had been attempting to avoid SE tax on LLC income where they were passive but clearly had the power of full control even if they weren't using it. But I apparently am terrible at searching for court cases and can't find a single one which resembles my situation. They are all generally dealing with people who were either clearly active in the business but still not subjecting their income to SE, or tried to bifurcate their income by claiming some guaranteed payments as subject to SE and the residual as not subject. If it matters our client takes no fixed guaranteed payments. Nor are their second classes of ownership interest or anything of the sort.

Has anyone had this come up before that could point me in the right direction?

I would think this is not uncommon, and that I could quite easily clear this up by finding a court case where a taxpayer had been attempting to avoid SE tax on LLC income where they were passive but clearly had the power of full control even if they weren't using it.

Try the Hardy case. And for fun, compare it to Castigliola.

A planning opportunity might be for your client to hold his partnership interest through an S Corp if he truly provides very little time (i.e. "services").

But yes, I agree that IRC Sec 469 and Sec 1402 do not cross reference each other (read: it's completely possible to be both passive and subject to SE taxes).