Not in this case.
Ever since 1986, when the government introduced new rules to promote the development of essential energy infrastructure, master limited partnerships (MLPs) have become compelling income investments. The reasons are simple.
They provide a crucial service that's always in demand-the distribution of energy resources. Most are liquid, exchange-traded securities that are easy to track and trade. They expand their networks organically and through acquisitions to increase distributable cash flow and payout to investors, which helps propel price growth. And they distribute the vast majority of their profits to investors in a unique way that pushes off the payment of most taxes until investors sell out of the partnership.
On average, 80% of an MLP's quarterly distribution is a write-down on an investor's cost because it's considered a return of capital. This means if you paid $12 per unit of partnership, which distributes $1, you would pay taxes on $0.20 based on your individual tax rate. But your cost basis would be reduced by $0.80 with no taxes immediately paid on that amount.
It may take 15 years to write down the cost to zero, and afterwards one must pay taxes on all future distributions. When units with a zero cost basis are sold, an investor must pay ordinary income taxes on the value up to his original investment. Any appreciation above the original cost would be taxed as capital gains.
Sounds complicated?
Well, yes. MLPs are certainly not your average stock play. Some are directly involved in energy exploration and refining, exposing them to commodity price volatility.
MLPs typically require filing of K-1 tax forms in every state that a pipeline passes through. That can be a somewhat costly headache for some investors.
Let's say you opt for a fund manager to do all the work. You would have four different fund types to consider-exchange-traded funds, exchange-traded notes, open-ended funds, and closed-end funds-each having its own issues.