Master Limited Partnerships

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DoingHomework
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Master Limited Partnerships

Postby DoingHomework » Mon Oct 15, 2012 12:55 pm

I've been looking at a stock that happens to be set up as an MLP. I basically know what an MLP is - it is a partnership where the "shares" you buy represent a limited partnership interest rather than a common equity interest. Your return is much like a stock in the sense that you can gain by price appreciation or through the dividend. Usually these are set up when the operations of the company are highly capital-intensive (pipelines, shipping, some real estate.) By law they usually have to distribute all profits to the partners in the form of dividends.

MLPs also must distribute all the depreciation of their assets to the limited partners. Basically this means you get a tax deduction in addition to any dividends. But you don't get it in an IRA, 401(k) or similar so it's something that only comes up for individuals investing in plain old taxable accounts (which is where I'll be buying it.)

Now, even though I know what they are, and can potentially benefit from these more than most people, I'm not familiar with the details or how to research one. I have two basic questions:

1. How do I find out how much of a depreciation loss I'll get from a particular MLP? I don't see it in the normal stock information. I suppose I can go look for the prospectus (and I will) but I would think this kind of thing is published just like dividend history information.

2. Does this depreciation come into my return as a passive loss? If so, I know I can offset some passive gains with them, but how do I generate passive gains to take advantage?

I already have my taxes done by a pro, and it honestly doesn't cost much more than the total I'd pay to turbo tax for the 1/2 inch thick return, so I'm not worried about adding complexity. And I actually don't think it adds much complexity.

Also, many of these are registered overseas (like Bermuda). This makes sense for the business realities so it is not a concern by itself. But does anyone know if there is a restriction on taking these "depreciation dividends" for a US shareholder (limited partner).

After writing this I realize it sounds complicated. But these are bought and sold just like ETFs or stocks. They really are fairly simple. I'm just trying to learn a lot more before I consider buying a specific one that I have my eye on. I'm sure most people would have just assumed it was a regular old common stock and bought without looking further. Once I saw it was an MLP I decided I should understand that better and am having a very hard time finding the answers I seek.

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Re: Master Limited Partnerships

Postby bpgui » Mon Oct 15, 2012 4:16 pm

I don't know enough about them to extremely useful to you, but I prepare a few returns for clients who have MLP interest (exclusively oil and natural gax MLPs). Just my opinion, they are a pain in the ass tax reporting wise, but that probably is because the software I use is geared more for agricultural tax payers.

The depreciation is a passive loss. That's about it for answers I have. :)

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Re: Master Limited Partnerships

Postby DoingHomework » Mon Oct 15, 2012 4:37 pm

bpgui wrote:I don't know enough about them to extremely useful to you, but I prepare a few returns for clients who have MLP interest (exclusively oil and natural gax MLPs). Just my opinion, they are a pain in the ass tax reporting wise, but that probably is because the software I use is geared more for agricultural tax payers.

The depreciation is a passive loss. That's about it for answers I have. :)


Thanks! That is helpful. I'm not looking at buying oil well or anything, and the major competitor to the company I am interested in does almost exactly the same thing but is organized as a corporation.

You would think I'd be able to look at the historical distributions to find out what I need to know but it seems very hard to find the info. This is a NYSE-traded company too.

There seems to be a lot online explaining the pros and cons of MLPs, most of which I already understand. But there doesn't seem to be much info about the actual mechanics of owning them. The closest I've found is that they send you a K-1 every year instead of a 1099 and that form has simple number boxes that get transferred to your tax form...seems simple enough, lol!

I'm betting that Mr. Frise has some experience with these...

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Re: Master Limited Partnerships

Postby bpgui » Mon Oct 15, 2012 5:54 pm

DoingHomework wrote:The closest I've found is that they send you a K-1 every year instead of a 1099 and that form has simple number boxes that get transferred to your tax form...seems simple enough, lol!

Yep. It's a k-1 1065. Since I think you have mentioned setting up a trust for your nieces/nephews you are probably familiar with the k-1 1041 which is the form for beneficiaries of estates and trusts. They are very similar.

http://www.irs.gov/pub/irs-pdf/f1065sk1.pdf

Mostly, the forms are straightforward, but (at least for me) some of the numbers that can show up in some of the box 20 categories (among others) are difficult to determine where to report. The partner's instructions are not always very helpful.

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Re: Master Limited Partnerships

Postby timwalsh300 » Mon Oct 15, 2012 7:01 pm

I remember looking at these in the dark days of 2009, trying desperately to find a secret recipe for good returns with minimal risk/volatility. I wondered if high dividend yield was the key (as if I were the first person to consider the idea - haha), and I found a bunch of these MLPs using the Google Finance screening tool. The more I read about them, the less I really understood. Eventually I came back to the idea that the market was efficient, and there was probably a good reason why the yields were so high, so I slowly backed away.

Tim

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Re: Master Limited Partnerships

Postby DoingHomework » Mon Oct 15, 2012 7:47 pm

I actually did not find this company from a high dividend screen. I was researching a global trend/imbalance and looking for companies addressing it. I found a couple and the dominant player is organized as an MLP.

From what I have found the dividend is high because part of it is depreciation but is referred to as return of capital by the irs. That produces a deductible loss, immediate cash, but also reduces your cost basis. Effectively it allows for tax free accrual outside an Ira. Very interesting. You do pay up when you eventually sell but it is at cap gains rates.

Even though the dividend seem high, it is not comparable to a normal cash dividend because part of it is just a distribution of a noncash depreciation that is normally buried on a corporate income statement. Since that is not available to institutional shareholders, other corporations in most cases nor to individuals in tax deferred accounts, the market is not efficient in the ordinary sense. Basically they are priced by the market without including the passive income aspect because it is only available to individuals.

Since I am not able to contribute to iras, except maybe the backdoor way with fairly small amounts, I am very interested in the tax free accrual aspect.

Anyway, I still have a lot more homework to do...

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Re: Master Limited Partnerships

Postby DoingHomework » Tue Oct 16, 2012 7:09 am

bpgui wrote:Mostly, the forms are straightforward, but (at least for me) some of the numbers that can show up in some of the box 20 categories (among others) are difficult to determine where to report. The partner's instructions are not always very helpful.


I'm educating myself. Box 20 seems to be for unrelated business taxable income (for example if an oil exploration company had a sideline selling cookies and had income from that). It should not be relevant unless your client made the mistake of buying and MLP in and IRA..or if they are a non-profit.

So far my research has revealed that most of the criticism/cautions are related to extra record-keeping requirements and tax complexity. I'm not overly concerned with that so I'll probably proceed...but only after January 1 so that I put off the tax issue for an extra year!


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