Who says that the ending capital account balance on the K-1 represents your tax basis? If your MLP reports taxable interest income, dividend, or gain income each year throughout the period that you held your investment, and you reported that income on your 1040 each year, then your taxs basis in the MLP is increased by those amounts. Were those income items included in the yearly distributions? I don't know, but you paid tax on those income items.
When you sell the investment that 10 year long string of tax losses that you never got the benefit of (assuming that you never got any benefit from them) are irrelevant.
I intend to keep track of my MLP investments on a personal cash in, cash out basis. I know how much I cash paid for the units, I know how much cash I received in distributions over the period of ownership, I know what portion of those distributions were taxable (none), and I know how much interest, divident, and gain income was allocated to me each year that was treated as currently taxable portfolio income and which I paid taxes on currently.
For example, assume that I paid $10,000 for my units and received $5,000 in nontaxable distributions over the years from those units, and I was allocated $1,000 of interest income over those years. If I sold all the units for $10,000, I'd expect that my gain is $4,000, since I would expect to be getting basis for $1,000 of interest income that I already paid tax on.
I would intend to reconcile to the K-1 info for the year of my sale, but its got to tie to the the cash in, cash out analysis doesn't it?
When you sell the MLP after 10 years all those " tax losses" a/k/a "unallowed losses" you were unable to claim are then eligible to be claimed. These figures are aside from your capital gains and ordinary income which will be reported on your FINAL K-1.
You or your tax software should have been keeping track of the unallowed losses, as the MLP does not have those figures.
The issue here is not with the tax effect on sale but the tax effects when your basis reaches zero. Here the tax code appears inconsistent in that it appears to call for your capital balance per the K-1 which has been increased by income of the partnership and reduced for losses of the partnership. Yet on your tax return you have paid taxes on any income but HAVE RECEIVED NO TAX BENEFIT FROM ANY LOSSES WHICH HAVE BEEN SUSPENDED. Therefore you are required to pay taxes on distributions even though they have been very low because your capital account was wiped out by losses that have never been deducted by you.
My concern is not with the tax situation on sale but the tax situation when distributions exceed tax basis. Simple example: $10,000 invested in an MLP which reports $10,000 of losses and no distributions. My K-1 reflects these losses and my K-1 capital account is zero. A reading of the instructions to the K-1 (and more specifically Section 704 of the IRC) appear to lead to the conclusion that the zero capital account balance inf the partnerhip is governing and that any future distributions are taxable. Yet, all $10,000 of losses are suspended in my tax account and if the shares were sold for $10,000 there would be no capital gain and no ordinary income (suspended losses of $10,000 eliminating $10,000 of income recapture).
Donedealer, doesn't your example prove my point? You bought the MLP for $10,000 and sold it for $10,000, and received no distributions in the interum. Of course there is no gain or loss. Cash accounting always tells the whole story (capital vs ordinary gain notwithstanding).
There are three types of MLP investors: The kind that trust the numbers that come out of the software black box, whatever they are. The kind that get all tangled up tracking every item listed on the K-1. And the kind that take to heart the K-1 instruction that says if you are a passive investor, just pay tax on the portfolio income (interest, dividends, etc.) each year, and reduce your tax basis by the non-taxable distributions out of capital that you receive each year. Pay tax on the distributions once your basis is zeroed out, unless the distribution is classified as taxable on the K-1 at some earlier time. Suspended lossses are of no concern for the 3rd kind of (passive) MLP investsor.