And yet, most people don’t think about this enough when building long-term portfolios. We’re far from it. The MLP space has spent over a decade being misunderstood, written off, or mislabeled as “outdated.” But scratch the surface and you’ll find something surprising: resilience, yield, and a structure that still makes sense in the right context.
Understanding the MLP Structure: More Than Just a Name
The term "master limited partnership" sounds like a corporate gimmick. It isn’t. At its core, an MLP is a legal framework that allows companies—mostly in energy infrastructure—to avoid corporate income tax. That’s right: no double taxation. Instead, profits flow through to investors, who report their share on personal tax returns. This is what makes them attractive. High yields—often 6% to 9%—aren’t magic. They’re structural.
But—and this is critical—not just anyone can form an MLP. By IRS rules, at least 90% of an MLP’s income must come from qualifying transportation, processing, storage of natural resources, or minerals. That’s why you won’t see tech or retail MLPs. It’s a niche by design.
MLPs have two types of partners. The general partner (GP) runs the show. They usually hold incentive distribution rights (IDRs), which let them take a growing share of cash as distributions increase. Then there are the limited partners (LPs)—that’s you, the public investor. You own units, not shares. Subtle difference. Legally and tax-wise, it matters.
And that’s exactly where things get messy for the average investor. K-1 tax forms instead of 1099s. Potential for unrelated business taxable income (UBTI) in retirement accounts. Complexity. But because the payout is often higher than a typical stock dividend, many accept the hassle. Is it worth it? Depends. We’ll come back to that.
How MLPs Avoid Corporate Taxes
The magic trick? Pass-through taxation. Unlike a C-corporation—say, ExxonMobil or Apple—an MLP doesn’t pay federal income tax at the entity level. Instead, income, deductions, and credits pass directly to unit holders. The MLP files an informational return (Form 1065), and each investor gets a Schedule K-1 detailing their portion. This reduces the tax drag significantly.
Which explains why MLPs can afford to distribute so much. A regular corporation might earn $100 million, pay $21 million in taxes (21% federal rate), and then distribute $79 million. The MLP keeps all $100 million and sends most of it out the door—minus interest, maintenance, and growth capex, of course.
The Role of Incentive Distribution Rights (IDRs)
IDRs are controversial. They give the general partner a disproportionately large cut as distributions rise. For example, once quarterly payouts exceed certain thresholds—say, $0.45—GP ownership of cash flows could jump from 2% to 50%. That’s not a typo. This structure was meant to align GP and LP interests. In practice, it often created resentment.
And that’s why, since 2016, over 30 MLPs have eliminated or restructured their IDRs. Energy Transfer LP did it in 2018. MPLX followed. The trend continues. As a result, the model is evolving—becoming fairer, arguably more sustainable. But not every MLP has made the switch.
Why MLPs Thrive in Energy Infrastructure (And Probably Nowhere Else)
Let’s be clear about this: MLPs aren’t built for innovation-driven sectors. You won’t find venture-backed biotech firms using this model. It’s a capital-intensive, cash-flow-predictable business that benefits from stable demand. Pipelines move oil and gas. Storage tanks hold it. Processing plants separate it. These aren’t flashy. They’re boring. And that’s the point.
The business model is a bit like toll roads. You charge a fee to move something across your network. Volume fluctuates, yes—but long-term contracts (often 5 to 15 years) smooth out the bumps. A pipeline from the Permian Basin to Houston doesn’t care if oil prices are $50 or $90. As long as barrels keep flowing, revenue rolls in.
Take Enterprise Products Partners (EPD). Founded in 1998. Operates over 50,000 miles of pipelines. Handles everything from ethane to crude oil. Distributed $3.5 billion in cash to investors in 2023 alone. And has raised its payout for 25 straight years. That’s not luck. That’s engineering.
But—and here’s the rub—this stability depends on consistent throughput. A sharp drop in U.S. oil production would hurt. So would federal policies restricting fossil fuel infrastructure. The issue remains: MLPs are tied to an industry under political and environmental pressure. Yet, despite the noise, energy demand hasn’t collapsed. In fact, the EIA projects U.S. natural gas consumption will rise 1.2% annually through 2030.
Cash Flow Stability vs. Commodity Price Volatility
People don’t realize this enough: MLPs typically don’t profit from oil or gas prices. They profit from moving it. Enterprise Products doesn’t benefit if crude spikes. It benefits if more crude moves. That insulates them from commodity swings. A 40% drop in oil prices in 2020 hurt exploration companies—ConocoPhillips, Devon Energy—but most large MLPs held up. Distributions stayed intact.
There are exceptions. MLPs with significant exposure to processing margins—like Targa Resources—face more volatility. But even then, hedging and long-term contracts reduce risk.
MLPs vs. REITs: A Tale of Two Tax-Advantaged Structures
On the surface, MLPs and REITs look similar. Both are pass-through entities. Both pay high distributions. Both appeal to income seekers. But structurally, they’re worlds apart. REITs must distribute 90% of taxable income. MLPs have no such rule—but market expectations pressure them to maintain or grow payouts.
Tax treatment differs too. REIT dividends go on a 1099. MLP distributions come with a K-1, which can be a pain. But MLP payouts are often tax-deferred—at least initially. A portion is considered a return of capital, reducing your cost basis. You don’t pay tax until you sell.
As a result: REITs fit neatly in IRAs. MLPs? Not so much. UBTI risks triggering tax liabilities in tax-deferred accounts. A position in a Roth IRA could get complicated fast.
Yield Comparison: MLPs, REITs, and Dividend Stocks
Let’s look at numbers. As of Q4 2023:
- Average MLP yield: 7.4%
- Average REIT yield: 4.1%
- S&P 500 average dividend yield: 1.6%
That’s not a typo. MLPs still offer significantly higher income. But yield isn’t everything. Total return matters. Over the past decade, the Alerian MLP Index returned 5.8% annually—beating REITs (4.9%) and the S&P (9.2%). We’re not talking home runs. We’re talking steady singles.
Frequently Asked Questions
Are MLP Distributions Taxable?
Yes—but not all at once. Most distributions are tax-deferred because they’re treated as a return of capital. You reduce your cost basis by that amount. When you sell, the difference between your adjusted basis and sale price becomes a capital gain (or loss). But if your basis hits zero, further returns of capital become taxable immediately. And foreign investors? They face withholding taxes. It’s complicated. You’ll need a good CPA.
Can I Hold MLPs in an IRA?
You can. But you should ask: should you? If your MLP generates more than $1,000 in UBTI annually, the IRA must file Form 990-T and pay taxes. That defeats the purpose of tax deferral. Some investors use MLPs in taxable accounts for this reason. Strange, right? But that’s how the system works.
Why Have MLPs Underperformed Since 2014?
Simple answer: energy crash, IDR disputes, and fear of obsolescence. The crude oil plunge from $100 to under $30 in 2014–2015 scared investors. Many MLPs had taken on debt to fund growth. When cash flow slowed, distributions were cut. Over 20% of MLPs reduced payouts between 2015 and 2017. Confidence eroded. And that’s exactly where nuance matters: not all MLPs were reckless. The strong ones survived. Some even thrived.
The Bottom Line: Are MLPs Still Worth It in 2024?
I am convinced that MLPs aren’t dead. But they’re not for everyone. The yields are tempting—especially in a 5% interest rate world. But the complexity is real. The sector is concentrated. The political risk lingers. And honestly, it is unclear how they’ll adapt long-term to a decarbonizing economy.
Yet, we can’t ignore reality: the U.S. still runs on oil and gas. Infrastructure still needs maintenance. Demand still exists. And MLPs still generate reliable cash flow.
My take? Allocate small. Think 3% to 5% of a diversified portfolio. Focus on large, IDR-free MLPs with strong balance sheets—Enterprise Products, Magellan Midstream, maybe MPLX. Avoid the tiny, leveraged ones chasing growth. They’re ticking clocks.
And if you hate K-1s? Fine. Skip them. There are ETFs like AMLP or AMU that hold MLPs and issue 1099s. You lose some tax efficiency. But you gain simplicity. Suffice to say, the model isn’t perfect. But it’s not obsolete either.