In today’s low yield environment, where a five year CD yields 1.5%, publicly traded partnerships (PTPs) have been proliferating. These are companies, usually associated with oil and gas, that are required to distribute their “distributable cash flow” and avoid the double taxation that is inherent to corporations. They usually have yields in excess of 5% with the biggest names in the sector such as Kinder Morgan yielding 6.8%, Energy Transfer Partners 6.7%, Linn Energy 9.4%, and Enbridge Energy Partners 6.6%, just to use a few as examples.
So what is the downfall of these high yields? – Cost. Owners of these PTP’s, no matter how small, receive a K1 for their share of the earnings. Having multiple K1s creates an inordinate of time for tax preparation. On these K1s there is usually ordinary income, interest, capital gains and losses, intangible drilling costs, and alternative minimum tax items that CPA’s have to contend with. And these are just some of the pass-through items.
Recently, Kinder Morgan decided to do away with their complex PTP and combine with their general partner to create a regular C Corporation. They did this to make a simpler structure and reduce their borrowing costs. This disclosure made their stock go up almost 20% in a day. But wait, there is a caveat. Upon this conversion, all holders of KMP units that are to be converted into this new company will have to pay capital gains taxes. This can be a complicated calculation with the distributions received over many years that weren’t taxable combined with income or losses that have accrued that may or may not have been deductible.
For PTPs, as with any investment decision, it is important to weigh the tax consequences and costs. This is an area where CPAs can come in handy; we aren’t here just for April 15!