Distributions from a zero basis MLP are taxable. Is this the basis of the MLP which has been reduced by losses most of which I have received no tax benefit because they are suspended?
Or is this the basis for my account reflecting only those losses for which I have received a tax benefit?
Good timing; I have a similar question. I am doing a 10 yr after-tax discounted cash flow comparison of an MLP (like KMP, which routinely reports tax losses) vs. a 3.5% dividend-paying stock. Looking at the tax explanations on various investor websites, I'm still uncertain about a couple of things.
First, when exactly do the cash distributions become taxable as ordinary income? Logically, it would seem to be as soon as the cumulative distributions exceed the total invested since it is only at this point that the distributions are no longer returns of capital. But I read that it's when the "cost basis" or "tax basis" hits zero. Well, this is a different answer since the ending K-1's capital account for KMP reflects reductions by annual tax losses as well as distributions.
Second, when you go to sell is the gain (= proceeds - tax basis) reduced by that 10 yr-long string of tax losses?
They don't become taxable as ordinary income.
Once the 'basis' hits zero they become taxable as LTCG.
I'm not addressing the definition of basis as I believe it is complicated and I am not fully sure (however search on the Investor Village MLP board, especially for posts by rock'n'rent).
But I can tell you for sure it becomes taxable as LTCG not ordinary income.
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?
Donedealer, you say that you have received a tax benefit from SOME of the losses allocated to you? What losses are those? As with all losses from passive investments, I'd think that none of them are deductible until your tax basis is zeroed out. Interest, dividend and capital gain income would be currently taxable each year, and would thus increase your tax basis each year, but I'm thinking that there are no deductible losses, absent a sale of some of your MLP units during the year at an actual loss.
You have only one basis to keep track of and that's your taxs basis. When you sell some or all of your MLP units, you do have to determine what portion of the gain is taxed at capital gain rates, and what portion is ordinary income due to depreciation recapture. The K-1 will give you that info SOMEHOW.
If your tax basis has been reduced to ZERO than your distributions are taxed as long term capital gains. But what MLP has had $10,000 in losses and NO distributions?
I bought 200 shs of KMP in Dec 2008 and have unallowed losses of $5000,(not counting 2012 losses) distribtions of $3300 (thru Aug) and unless I purchase additional shs of KMP will then have to report the distributions as LT Cap Gains when taxes are done next year for 2012.
You are wrong. Read IRC Reg. 1.704, on partnership distributive share, and IRC section 731, extent of gain or loss on distribution. Then read Intructions to Form 1965, page 2 worksheet for determining basis, line 3: increase basis for your SHARE OF OR assumption (probably haven't assumed any) partnership liabilities as shown on item K of your K-1.
If you can't handle this then speak with a qualified CPA or tax attorney, one who has filed tax returns with zero basis and handled IRS audits.
Donedealer, I can't find a post I made much earlier this morning, but I read a post by Rock n Rent at Investor Village and he confirms that the limited partner's share of N/R debt is includible in the partner's basis and avaliable to offset further cash distributions. So I stand corrected. Rock said that there is a requirement to track suspended losses if one includes N/R debt for basis, and there are some tricky consequences upon disposition of the MLP interest.
Thank you Liza for pointing out the Rock Rent post.
Donedealer, reading the narative of others who cite applicable authority enables me to read the same authority myself. Otherwise I'd be taking a stab at reading hundreds of pages of regulations.
And don't worry about me, I live quite well off of interest and dividends.
I think I learned the most out of this whole process. With the yahoo message thread format for this company, it is very difficult to see if one has read every posting.
Ideally, someone should sumerise the consensus conclusions of this thread, but I think the anger and annoyance level is so high that such action is probably unthinkable.
But here goes: N/R debt is includible in basis, but with resulting filing complications.
Distributions in excess of basis are taxed and capital gains, not ordinary income.
Suspended losses do not reduce a limited partner's tax basis. They can only be applied against current and future allocations of ordinary income. Possibly these losses are deductible upon disposition, but it would be a wash since basis would be reduced and gain would be larger. I'm not so clear about this matter. Was there anything else?
with all the discussion I see in this thread ... would it not be easier when Your Basis becomes close to Zero to reinvest some of the distributions so that you can take advantage of any capital losses and avoid paying capital gains taxes? I'm hitting this point with LINE after a string purchases in 2009, and am looking for a dip to get some more.
As far as KMP, I am in KMR for the long term auto DRIP thats non taxable until sale. Unless you need all of the cash income right away, KMR seems to be the ticket.
Adjusted basis is the sum of both your capital acconut and debt (which is non-recourse), both of which are per your K-1. Basis is reduced by losses, such as excess of depletion & IDC over income reported, in the case of LINE, distributions. At zero basis, in order to avoid taxable income you will need to purchase enough stock to cover future distributions but, also, any losses in excess of income in the capital account and any net decreases in your share of the non-recourse debt.
Yes, this a complicated area and, apparently, most posters on these board don't understand it.
There are about four levels of sophistication by posters:
1. Lowest level - they either expect a Form 1099 or believe their basis is their cost.
2. This level expects a K-1 but thinks his basis is his cost less distributions.
3. This more advanced level thinks his basis is per the capital account on K-1 (although some may think there are adjusments for suspended losses).
4. This level is fully tuned into the law which includes debt as explaied above.
Donedealer, I wanted to let you know that my first MLP investment was three years ago, and I am nowhere near zeroing out my tax basis in any of my MLPs. So it would be premature for me to pay for tax advice regarding a situation that would not arise for me until many years from now. By then, more and more investors will have reached the zero basis situation and the tax manuevers using N/R debt in basis or buying more units will have been thoroughly discussed on these message boards. These tax aspects of zero basis will become more widely known and common knowledge.