Master limited partnerships (“MLP’s”) are limited partnership interests in businesses which trade publicly on an exchange, similar to a stock. Unlike stocks, which are typically structured as corporations under state law and therefore subject to double taxation, master limited partnerships avoid double taxation by directly passing their profits through to limited partners.
Master limited partnerships typically involve businesses in the energy sector, such as oil and natural gas production, storage, transportation and distribution. Because they are contractually required to make distributions to limited partners on a periodic basis, they usually consist of businesses with predictable revenue streams and long term contracts.
As an asset class, MLP’s tend to be less volatile than stocks, although this is not always the case. Because a reasonable portion of the distributions which are paid to unit holders are return of capital rather than income, limited partners can defer taxes on their distributions until their units are sold. When the units are finally disposed of by the limited partners, the proceeds will be taxed at the capital gains rate.
Taxation and reporting of MLP’s is complex and can cause an administrative burden for many individual investors. Many of these issues can be avoided by holding these units in retirement accounts such as IRA and 401K accounts, where such reporting is in many cases not required.