Asset Focus: Master Limited Partnerships
Master Limited Partnerships are an interesting investment option that enjoy significant tax breaks. They also generate regular quarterly income. In today’s article, we look at what they are and how they work.
What Are Master Limited Partnerships?
Master Limited Partnerships (MLPs) are investment companies that are traded on a public stock exchange. You can buy and sell units in an MLP just like any other publicly traded company. These particular companies invest exclusively in real estate and natural resources.
An MLP does not have employees. A General Partner is responsible for the day to day operation of the company. The GP will usually have a 2% stake in the company. All other investors that buy shares in the company are known as Limited Partners.
Legally, an MLP must show that at least 90% of its income is from the exploration, production, or transportation of natural resources or real estate. It must also distribute 100% of its available cash to unit holders.
As such, MLPs are generally considered a low-risk, long-term investment that pay a steady, reliable stream of income.
Tax Advantages of Master Limited Partnerships
Master Limited Partnerships do not pay federal income taxes. So, unit holders pay their own tax on the quarterly income distributions they receive. This avoids the double taxation which occurs when a corporation pays income tax on its profits, then shareholders pay income tax on their dividend distributions.
Furthermore, cash distributions are treated as a return of shareholder capital rather than as dividend income. So, unit holders in a Master Limited Partnership do not pay income tax. Rather, you pay capital gains tax at the lower applicable rate when they sell your units.
How to Invest in Master Limited Partnerships
You can buy units in a Master limited Partnership in the same way as any other publicly traded company. There are about 100 listed MLPs, and you can use one of the many online trading platforms that provide easy access to the whole market to buy and sell units.
Here are 5 examples of master limited partnerships with links to help you start your own research:
- Brookfield Infrastructure Partners (BIP)
- NextEra Energy Partners (NEP)
- Magellan Midstream Partners (MMP)
- MPLX LP (MPLX)
- Enterprise Products Partners (EPD)
If you want to learn more about stock trading in general, NerdWallet.com has a great article covering their top 11 picks for stock trading platforms here.
What Are the Returns for A Master Limited Partnership?
Generally speaking, Master Limited Partnerships are used as a long-term income investment. They tend to deliver much higher yields than financial markets in general.
For example, in August, 2021, the S&P 500 was yielding around 1.35%. At the same time, The Enterprise Products Partner MLP mentioned in my list above was delivering 8.05%. Some MLPs have delivered yields in excess of 25%, and many consistently deliver 10% or more.
Another positive for MLP unit holders is the fact that their cash distributions often grow quicker than inflation. That is particularly pertinent for investors today as fears of runaway inflation abound.
Of course, the tax advantages that apply to these types of companies also play a part in boosting overall net gains for investors.
Are Master Limited Partnerships Risky?
As I have already mentioned, MLPs tend to be viewed as low risk long term investments. They invest in stable long term projects in the natural resources and real estate sectors, so their income is often contractual and reliable.
That said, there are of course risks attached to any investment. Aside from the complicated tax reporting and additional paperwork for IRA and 401k investors, there are other risk considerations such as the lack of diversification.
While MLPs are used as a diversification tool within a wider portfolio, there is not much diversification inside MLP itself. For example, most MLPs are invested in the oil and gas pipeline business. That in and of itself also poses some risk. That is especially true today as environmental concerns continue to impinge that industry, with some major projects being temporarily shut down, or canceled entirely.
Conclusion and Resources
Informed investors make better decisions. If you want to learn more about master limited partnerships, you can further your research using the following resources:
- Garnaco – The Ultimate List of Monthly Income Investments
- Investopedia – Master Limited Partnerships
- Sure Dividend – All 98 Publicly Traded Master Limited Partnerships
- US News – 6 MLPs to buy Now
- Fool.com – Master Limited Partnerships