Newspaper article Sarasota Herald Tribune

Avoiding Master Limited Partnerships' Tax Hassles

Newspaper article Sarasota Herald Tribune

Avoiding Master Limited Partnerships' Tax Hassles

Article excerpt

MASTER LIMITED PARTNERships (MLPs) have historically been one of my more successful investments. Unfortunately, investing in them can create significant tax complications and record-keeping hassles.

Now, however, both the companies themselves and the broad investment community have created ways to get most, if not all, of the benefits of direct investment in MLPs without these impediments.

Before looking at the specific investments, let's review the basics of MLPs.

MLPs are limited partnerships that trade on major exchanges just like the stocks of ordinary corporations. Their business is usually related to the transport and storage of crude oil and natural gas. To be an MLP, a firm must satisfy stringent IRS requirements, including that 90 percent of the firm's income comes from businesses like those just mentioned.

MLPs are required to make quarterly distributions. Since they are partnerships, they avoid corporate income taxes at both the federal and state level. Thus, their distributions tend to be large. Over the last decade, they have had total returns that averaged 10 percent annually, many times the S&P 500's. Of that, about 7 percent came from distributions.

Unfortunately, taxes are not avoided. The income stream is still taxed once, to the individual investor. However, a significant part of the distribution is a tax-deferred return of capital. This means that the investor can avoid paying taxes on that part of the distribution until the MLP is sold.

These benefits do not come for "free."

Unlike corporations that issue 1099 forms, MLPs issue K-1's and have until March 15 to do so, as opposed to Jan. 31 for 1099s. Additionally, K-1's are more complex than 1099s. Some large investors may also be required to pay state taxes in states in which the MLP operates. Additionally, record keeping is complex because each distribution's return of capital reduces the cost basis of the investment, so the investor must keep track of these, perhaps for many years.

Three MLPs have devised attractive ways for an investor to invest in them without these complications.

Kinder Morgan Energy Partners (ticker: KMP) and Enbridge Energy Partners (EEP) have created related stocks, Kinder Morgan Management (KMR) and Enbridge Energy Management (EEQ) that pay distributions only in stock. …

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