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Tax Simplification For MLPs

By Benjamin Shepherd on May 6, 2009

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A publicly traded partnership (PTP) can be one of the best investments you can make from a tax standpoint, but putting your return together can be difficult because of the K-1 form, with which many investors are unfamiliar. The K-1 is one of the biggest reasons why more investors don’t take advantage of PTPs.

But the form itself is straightforward (at least as straightforward as any tax document really can be), and you file it with your state and federal returns just as you would a 1099. The key point with a K-1 is many PTP distributions aren’t dividends; rather, they’re classified as return of capital (ROC). Those ROC payments serve to reduce your cost basis in the PTP and aren’t immediately taxable. Instead, your tax liability is deferred until you sell the units, which means, at worst, you can defer taxes for years to come.

The form and accompanying documentation have become clearer over the past few years, but it does require filing additional forms with your annual return and keeping records of your cost basis. If you’ve kept all of that information together it should be smooth sailing, but if you haven’t you’ll definitely want to for next year.

But to make tax season simpler for our subscribers, we’ve put together a list of all of the K-1 Web sites for our portfolio holdings and identify some quirks you may encounter.

A final note on the K-1s: If you’re preparing your taxes using one of the popular software packages on the market, it would be to your benefit to pull the K-1 information from the partnership’s Web site. All the sites listed below allow you to download K-1 information directly into your tax software, saving time and confusion.

Also, all the Web sites provide contact numbers if you have any questions. Be prepared for extended hold times as we approach the busy season.

BreitBurn Energy Partners (NSDQ: BBEP) made its K-1 site available around the middle of March, and you can access that by clicking here.

Kinder Morgan Energy Partners (NYSE: KMP) has made its K-1 information available through their website, which you can find here.

Kinder Morgan Management (NYSE: KMR) is a bit different situation, though, because it pays in stock rather than cash. Kinder Morgan Management owns roughly 26 percent of the outstanding units of Kinder Morgan Energy, and that’s Kinder Morgan Management’s only asset. Therefore, Kinder Morgan Management receives distributions from Kinder Morgan Energy as if it were any other unitholder.

Instead of passing through the cash distributions, however, Kinder Morgan Management simply pays unitholders in the form of additional Kinder Morgan Management shares. It’s in many ways equivalent to a dividend reinvestment program.

Although this may seem a rather pointless arrangement, it’s not. Kinder Morgan Management doesn’t issue a K-1 to unitholders, and the share distributions don’t generate unrelated business taxable income (UBTI). Therefore, i-units like those of Kinder Morgan Management can be held in tax-advantaged accounts and offer a more simplified tax structure.

If you hold the i-units long enough, your capital gains will be taxed at the long-term capital gains rate when you sell the units. Moreover, you don’t get any actual cash income until you sell the units. The fact that there are only two traded i-units also limits your choices considerably.

Macquarie Infrastructure Company (NYSE: MIC) operates and pays just like any other partnership but is treated as a corporation for tax purposes. That means you have the tax benefits of return of capital payments, with the simplicity of a 1099. The corporate tax treatment became effective Jan. 1, 2007, so the 1099 should be the only form you receive.

Penn Virginia Resources (NYSE: PVR) has made its K-1 information available through its Web site, which you can access here.

Our two Tortoise holdings, Tortoise Capital Resources (NYSE: TTO) and Tortoise Energy Infrastructure Corp (NYSE: TYG) are both structured as closed-end funds that invest in PTPs. That means you’ll receive 1099s rather than K-1s.

All the distributions made for Capital Resources for last year are considered return of capital, which serves to reduce your cost basis in the shares. You can find the documentation here.

Energy Infrastructure Corp is slightly different though, with about 41.3 percent of its total distributions classified as qualified dividends and the remainder as return of capital. For a breakdown of the total as well as each individual payment, click here.

WP Carey (NYSE: WPC) is technically a PTP, though it made some structural changes last year that now allow it to be held in an IRA account. Still, you’ll receive a K-1 for tax filing purposes. Click here for more information.

Aircastle (NYSE: AYR) and Genesis Lease (NYSE: GLS) are characterized by the IRS as Passive Foreign Investment Companies (PFIC), which means you have two ways to file your taxes.

You can choose to declare that you’ll treat them like any other domestic partnership, or what the IRS calls a Qualified Electing Fund (QEF). This means you’ll pay taxes on dividend income using the companies’ declarations of overall breakdown of income and return of capital. The key to using this option though is proper record keeping, so be sure to document every transaction including distributions so you can properly calculate your cost basis in the shares.

The other possibility is to simply pay taxes on the dividends and the tax on the gains. Either way, these are good deals because with the high payout rates you come out ahead.

The two affected companies provide guidance on the issue; click here for Aircastle and here for Genesis Lease.

Energy Transfer Partners (NYSE: ETP) mailed out K-1s around February 25, so you should have those by now. If haven’t or have any additional questions, click here.

Enterprise Products Partners (NYSE: EPD) mailed its K-1 March 3, but you can click here for more information.

Legacy Reserves (NSDQ: LGCY) has made its K-1 site available on March 8, 2008; click here for more information.

Linn Energy (NSDQ: LINE) just got its K-1 site up and running here a few days ago.

NuStar Energy’s (NYSE: NS) K-1 site is available here.

PMC Commercial Trust (AMEX: PCC) technically structured as a REIT rather than a partnership, so you should receive a regular 1099. For the full-year distribution of $1.20, $1.068 was classified as ordinary dividends (not qualified) and 13.2 cents was long-term capital gains. For a quarterly breakdown, click here.

Teekay LNG Partners (NYSE: TGP) hasn’t made a K-1 Web site available and doesn’t plan to, though it does have a K-1 helpline. Forms were mailed around mid-March, so if you haven’t received it or have any other questions, call them at (866) 867-4071.

TEPPCO Partners’ (NYSE: TPP) K-1 site is up and running and can be found here.

Like Teekay, US Shipping Partners (NYSE: USS) doesn’t provide a Web site with K-1 information. It does provide a toll-free support number, so if you have any questions or problems call (800) 485-6874.

Like Macquarie, Capital Product Partners (NSDQ: CPLP) has elected to be treated as a corporation for tax purposes, so you should receive a 1099. 89.74 percent of its total distribution should be treated as a qualified dividend with the remaining 10.26 percent as return of capital. Click here for a breakdown.

Cheniere Energy Partners (AMEX: CQP) has made a K-1 Web site available here.

DCP Midstream Partners’ (NYSE: DPM) K-1 site is here.

Regency Energy Partners (NSDQ: RGNC) can be a bit confusing if you use its Web site to pull K-1 information. If you go to the Web site here, you’ll notice that in the bottom of the left corner you have two options to choose from which cover the first half of the year and last half of the year. To ensure you receive the correct information, click on the time period which most closely corresponds to the data you initially purchased shares. For instance, if you first purchased your shares prior to June 18, 2007, click on the top link. If you first purchased shares after June 18, 2007, click on the bottom link.

The paper copy you received should reflect the correct information, regardless of when you first purchased units.

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