An MLP is a type of partnership that is publicly traded on a securities exchange. MLPs combine the tax structure of limited partnerships with the liquidity of publicly traded securities. Usually, private partnerships are relatively illiquid compared with public equities. Most MLPs are publicly traded oil and gas pipeline businesses that earn stable income from the transport of oil, gasoline and/or natural gas.
Many MLPs derive their revenue based on the amount of product transported and are not sensitive to price fluctuations, except where they affect demand. Some MLPs involve other natural resources, and certain other industries, but oil and gas are the most common sectors. MLPs usually provide their investors, the limited partners, with distributions similar to dividends, but which are often taxed differently. MLP tax issues can make them unsuitable for IRAs and similar retirement accounts.
MLPs are a growing asset class. There are a few giants in the business. These middle-sized MLPs may be preferable because it is far easier for them to grow. Simply put, a $3 billion-sized company goes up by 33% if another billion enters it, while a $10 billion-sized company would only go up 10% in that situation. Such amount leaving, of course, would go down by the same percentages. That is a risk.
Additionally, smaller companies that are less covered by Wall Street may, therefore, trade at different valuations than the larger ones, a. The same holds to a greater extent for small-cap MLPs. They may also later benefit technically from Wall Street coverage. As this is not a fundamental characteristic, it is difficult to quantify.
Below are five high-yield mid-cap MLPs, along with their present yields. I have also provided their one-month, six-month and 12-month equity appreciation/depreciation rates, which do not include prior distributions paid.
Boardwalk Pipeline Partners LP (BWP)
- Yield: 7.53%
- 1-month: 6.84%
- 6-month: 5.44%
- 12-month: -18.21%
Buckeye Partners LP (BPL)
- Yield: 5.99%
- 1-month: 6.23%
- 6-month: 5.44%
- 12-month: 7.3%
Enbridge Energy Partners LP (EEP)
- Yield: 7.34%
- 6-month: -13.25%
- 12-month: -4.38%
NuStar Energy LP (NS)
- Yield: 7.98%
- 1-month: -2.06%
- 6-month: -17.69
- 12-month: -12.98%
Plains All American Pipeline LP (PAA)
- Yield: 6.23%
- 1-month: 6.48%
- 6-month: -1.51%
- 12-month: 1.06%
Many of these names, like the larger MLPs, have appreciated considerably over the past year. Due to this often dramatic appreciation, it may be wise to prepare a list of those with characteristics you like and watch them for a better entry price. Of course, if you chose that course of action six months ago, you probably would have missed out on some decent growth and/or distributions.
MLPs And Taxation
MLPs are partnerships, so they do not pay corporate income taxes on either a state or federal basis. They are fairly similar in this regard to the once great Canadian Royalty Trusts (Canroys) that Canada recently eliminated, forcing restructuring. Additionally, the investing limited partner might be able to record a pro-rated share of any depreciation to reduce tax liability. However, this theoretical advantage does not exist where the MLP is held in a tax-deferred account, such as an IRA. Nonetheless, they are often effectively used in IRAs for their high yield characteristic alone.
The tax liability of the MLP is passed on to its holders. Each investor receives a K-1 statement that details their share of the partnership's net income. That income is then taxed at the investor's individual tax rate. The MLP may also make cash distributions that are not taxed received, but reduce the cost of partnership shares/units and create a tax liability that is deferred until the MLP is sold.
I would also like to mention that the ALPS Alerian MLP ETF (AMLP) is an ETF that provides exposure to a basket of MLPs that is supposed to correspond to and track the Alarian MLP Infrastructure Index. The annual expense ratio is listed as 0.85%, which is slightly above average for an indexing ETF, but this option may be preferable to individuals that desire diverse exposure to the asset class, or to those that do not feel confident picking and choosing individual names within the asset class.
There are also some newer MLP Closed End Fund (CEF) options, such as the Cushing MLP Total return Fund (SRV) that many may prefer because they are designed to produce a 1099 rather than a K-1. These CEFs are usually preferred by individuals who want to hold MLP exposure in an IRA or those who just don’t want to file a K-1. While there may be some reasons to hold such a CEF, their corporate structure essentially counters the tax pass-through characteristic of the investment plus expenses. If that was a good idea, why wouldn't these businesses structure themselves as corporations?
Disclaimer: This article is intended to be informative and should not be construed as personalized advice, as it does not take into account your specific situation or objectives.