The determination of cost basis for MLP's is tricky because it is NOT the original purchase price, despite what appears on your brokerage account statements. You have to adjust your cost basis for all the income items that were passed through on all the K-1 forms since you bought it, and reduce it for all the cash distributions you received from the MLP. The K-1 package often includes a schedule which makes this basis calculation for you.
Passive losses on MLP's are subject to the passive activity loss limitation rules (you definitely need to see your accountant on this one.) In addition, the passive loss from a MLP cannot be used to shelter passive income from a second MLP; the passive losses are "suspended" until they can be applied to future passive income from the same MLP.
Another quirk in MLP ownership is that part of the gain when you sell it will be taxed as ordinary income to the extent of the depreciation deductions that were passed through by the partnership as return of capital.
Prominent examples of MLP's include:
The Blackstone Group - BX Buckeye Partners LP - BPL Constellation Energy Partners LP - CEP Genesis Energy LP - GEL Kinder Morgan Energy Partners LP - KMP ONEOK Partners LP - OKS Plains All American Pipeline LP - PAA Sunoco Logistics Partners LP - SXL Terra Nitrogen Co LP - TNH Williams Pipeline Partners LP- WMZ
The National Association of Publicly-Traded Partnerships formerly provided excellent resources for finding out which states a particular MLP operates in before making an investment. This organization was replaced by the Master Limited Partnership Association and state-by-state information is no longer available on their public website.
Click on the PDF icon for a list of all the states with operations for various MLP's in 2010.
The states that do not impose an individual income tax are: Alaska, Florida, Nevada, South Dakota, Texas, Washington, and Wyoming.
CAUTION: You don't want to buy any MLP's in an IRA! Why? You are creating a UBIT problem for yourself. UBIT is Unrelated Business Income Tax which is owed on business income passed through on the Form K-1. It is owed even if the MLP is held inside an IRA. Why is this a problem? Because first you pay income tax on the income inside the IRA, and then you pay again when you withdraw distributions from your IRA (taxed at your marginal ordinary income tax rate.) You just created a double tax for yourself.
One way to get around both the UBIT problem in an IRA and the need to file state income tax returns in numerous states is to invest in MLPs though corporate-form ETFs or closed-end funds. ETFs that are structured as corporations pay taxes at the fund level and then pay dividends to their shareholders free of UBIT complications and free of non-resident state income tax filing requirements. The yields are less than pure MLPs but are still generous compared to average market yields. Some popular ETFs that specialize in MLPs are:
Information provided is intended solely for cash-basis U.S. citizen individual taxpayers and is believed to be accurate for most cases but is not guaranteed. Always consult your personal tax advisor about your own situation. Suggestions are most welcome. Please email our webmaster @ costbasis.com with your comments. If this website has been helpful to you, please consider making a donation to support our efforts.