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Master Limited Partnerships pay investors very well, but that extra income comes with an extra headache come tax time. The Form K-1 these entities give their investors typically arrive toward the end of tax time and are a bit more complex to understand. While these forms only add a few minutes to your tax prep time, this can be avoided altogether by simply investing in a different entity. For example, instead of investing in LINN Energy (NASDAQ: LINE) and waiting for the arrival of the Form K-1 each year, you could have invested in LinnCo (NASDAQ: LNCO). While LINN Energy owns thousands of oil and gas wells around the U.S. LinnCo's only assets are its ownership of units in LINN Energy. Because of this LinnCo investors get the benefit of LINN Energy's business model without the added tax headache at the deadline each year. Meanwhile, a general partner holding company like Kinder Morgan (NYSE: KMI) takes that relationship to a different level. Not only does Kinder Morgan own a substantial amount of the units of its two MLPs, but it also owns the incentive distribution rights. Those rights enable Kinder Morgan's investors to see supercharged dividend growth without the tax headache of the MLPs. I've created the following slide show to help you understand the differences between owning LINN Energy and LinnCo as well as Kinder Morgan and its two MLPs. The slide show should help get you started on adding some easy retirement income to your portfolio without adding any extra paperwork to your plate.
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Easy Retirement Income Without the Extra Paperwork
Photo credit: Kinder MorganPhoto credit: LINN Energy
Intro to MLPs
• MLPs have been around since the early 1980s.• However, congress defined and limited MLPs in
1987.• Under Section 7704 of the Tax Code publically
traded partnerships needed to earn 90% of their income from qualifying natural resources activities (including oil and gas production and transportation of petroleum products).
Intro to MLPs
• Benefits include a pass-through tax structure that eliminates double taxation.
• Distribution of nearly all available cash flow is very attractive to income seeking investors.
• This enables MLPs to pay very high yields, while offering tax advantaged income to investors.
Intro to MLPs
• Downside is that the taxation of an MLP is more complex.
• Investor is treated as if they directly earned MLP’s income.
• Each investor is allocated a share of income, gains, deductions, losses and credits reported on a K-1.
• Makes it tough to own an MLP in a retirement account like an IRA.
Intro to MLPs
• Because of these complexities some investors avoid MLPs all together.
• However, for some MLPs there are other options.
LinnCo LLC
• Because its sole asset is units of LINN Energy (NASDAQ: LINE) it makes LinnCo a direct alternative to LINN Energy.
NASDAQ: LNCO
Photo credit: LINN Energy
LinnCo 101
• While its sole asset is units of LINN Energy by association its assets include:• 20,000 gross producing oil and gas wells.• 6,403 billion cubic feet equivalent of energy
reserves.• Diversified asset base with operations in
California, Rocky Mountains, Mid-Continent, Texas and Michigan.
LinnCo 101
• Structure as a C-Corp. and issues a Form 1099
• Sole asset is units of LINN Energy (NASDAQ: LINE)
NASDAQ: LNCO
Photo credit: LINN Energy
LinnCo 101
• Structure as a C-Corp. and issues a Form 1099
• Sole asset is units of LINN Energy (NASDAQ: LINE)
NASDAQ: LNCO
Photo credit: LINN Energy
LinnCo 101
• LINN Energy’s current price is $28.70 per unit.• That gives it a current yield of 10.12% with
distributions paid monthly.• However, because LinnCo’s shares trade at $27.80
investors can earn a higher yield.• Current yield is 10.41%• That said, it is possible that LinnCo will be required
to pay cash taxes after 2018, which could reduce its yield.
LinnCo 101
• Bottom Line:• LinnCo is analogous to owning units of LINN
Energy. • Investors own the same underlying assets and
receive the same monthly distribution.• That could change in the future when LinnCo pays
corporate taxes, however, it can reduce its tax burden through acquisitions like the recently completed Berry Petroleum deal.
Kinder Morgan Inc
• Owns the general partners and limited partner interests in two affiliated MLPs.
NYSE: KMI
Photo credit: Kinder Morgan
Kinder Morgan 101
• Because of these assets Kinder Morgan is:• Largest natural gas pipeline and storage operator in
the U.S.• Largest independent transporter of refined petroleum
products in the U.S.• Largest independent terminal operator in the U.S. • Largest transporter and marketer of carbon dioxide in
the U.S.• Owner of the only oil sands pipeline service the West
Coast of Canada.
Kinder Morgan 101
• The ownership interests in the MLPs give Kinder Morgan an interest in the following asset base:• 80,000 miles of pipelines across North America.• 180 product terminals.• Legacy oil fields in Texas that use carbon dioxide
to enhance the recovery of the oil.
Kinder Morgan 101
• Because of these assets Kinder Morgan is:• Largest natural gas pipeline and storage operator in
the U.S.• Largest independent transporter of refined petroleum
products in the U.S.• Largest independent terminal operator in the U.S. • Largest transporter and marketer of carbon dioxide in
the U.S.• Owner of the only oil sands pipeline service to the
West Coast of Canada.
Kinder Morgan 101
• Kinder Morgan earns income by receiving distributions from its ownership interests in MLPs.
• Company also receives incentive distributions from both MLPs.
• Finally, Kinder Morgan also owns two assets, Florida Gas Transmission and NGPL, which it hasn’t yet dropped down to its MLPs.
Kinder Morgan 101
• Bottom Line: • Kinder Morgan is more diversified as it owns the
income streams from both MLPs. • These assets generate significant income for Kinder
Morgan’s shareholders. • Current dividend yield of 5.05%.• Incentive distribution rights enable Kinder Morgan
to grow its dividend at a higher rate than MLPs (~8% annually vs. 5% and 0% at MLPs) over the next three years.
The investment that the IRS is daring you to make
Investor takeaway
You can have all the benefits of an MLP without the headaches.
Photo credit: Flickr/TaxRebate.org.uk
