Tags: MLPs | bypass | dividend | taxes

Master Limited Partnerships Offer a Way to Bypass Higher Dividend Taxes

Friday, 30 Nov 2012 09:17 AM

By Dan Weil

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One way income-oriented investors can escape the pain of higher dividend taxes is with master limited partnerships (MLPs).

While the top rate for dividend taxes could rise to 39.6 percent next year from 15 percent currently, most of the distributions investors receive from MLPs count as return of capital rather than dividends.

MLPs must pay out 90 percent of their income to shareholders, which is taxed at preferential income tax rates. This means that, at a time when the overall market is paying less than 2 percent in dividends and money market accounts and bonds don’t pay squat, you can lock in yields of over 6 or 7 percent. MLPs also offer the chance for investors to offset their taxes with depreciation expenses.

Editor's Note: Unthinkable Haunts Investors: Evidence for Imminent 90% Stock Market Drop.

Most MLPs are in the energy sector, including many pipeline companies. And a lot of MLPs carry a yield of more than 6 percent.

"This is like a massive tax shelter," Michael Cohn, chief market strategist at Atlantis Asset Management, told CNBC.

There has been some talk that tax rules on MLPs will be tightened, but “that's an idiotic assumption," he says. The government would have to do too much work for too little revenue to make it worthwhile.

Many analysts like the pipeline MLPs, because they are essentially toll collectors on the nation’s oil and gas superhighway.

Some of analysts’ favorite MLPs include Enterprise Product Partners (EPD), Kinder Morgan Energy Partners (KMP) and Plains All American Pipeline (PAA).

If you buy individual MLPs be prepared to file cumbersome K-1 tax forms. To avoid that and gain diversity, you can invest in an MLP exchange-traded fund. One example is JPMorgan Alerian MLP Index ETN (AMJ).

Editor's Note: Unthinkable Haunts Investors: Evidence for Imminent 90% Stock Market Drop.

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