Have you invested in a PTP or are considering doing so? If so, read on…
What is a Publicly Traded Partnership (PTP)?
A publicly traded partnership (PTP) is any partnership that is either traded on an established securities market or readily tradeable on a secondary market. PTP investments appear as a stock within a brokerage account but are taxed as a pass-through entity and issue a K-1 to investors. Sometimes your broker will include a separate list summarizing PTP investments. A majority of PTPs engage in oil, gas and other energy-related ventures.
One of the largest advantages of investing in a PTP is that the partnership can avoid corporate tax treatment if 90 percent or more of the income is qualifying income. This makes the income from the partnership subject to only one level of tax at the investor level, whereas, if this were a normal stock, it would be taxed at the corporation level and again at the investor level as a dividend.
Another advantage of investing in a PTP is the liquidity of owning publicly traded stock. An investor in a PTP has the benefit of selling interests very quickly through the market. When you sell your PTP units, your taxable gain is the difference between the sales price and your adjusted basis. Cash distributions decrease your basis and are commonly dispersed quarterly. Cash distributions from a PTP are considered a return of capital (you are getting back money you paid in) and are not taxed as dividends. The money you may think you are earning from a PTP may be a return of the money you put in.
Net losses attributable to a PTP are not allowed to net against your other income. When a PTP incurs a loss, that loss can offset only future earnings from that same PTP. This is very different from non-PTP passive activities where allocated losses can be used to offset earnings for any other passive activity. These losses can only be realized upon either income from the PTP or a sale of all units of the PTP.
Further complications can occur upon the sale of PTP units. If PTP units are sold at a gain, some of the gain is taxed at the lower capital gain rate and some as ordinary income. If PTP units are sold at a loss, some of the loss may be disallowed depending upon how much income has been recognized previously within that PTP or how many PTP units are disposed.
Investment brokers rarely track your true basis for PTP investments. That leaves the tracking up to you or your accountant.
A PTP may also operate in a number of states. Because a PTP is a pass-through entity, you could be subject to filing tax returns and paying taxes in those states. These potential income taxes and additional tax return costs should be carefully considered when evaluating the economics of the PTP.
Tax planning for PTPs can be challenging because the income from PTPs is often not estimated or communicated with investors before the Schedule K-1 release after year end. Additionally, if there is a sale of interest, the split between capital gain and ordinary income will be unknown since that is also provided as an attachment to the K-1.
While a publicly traded partnership can be a great investment, it pays to know how this type of investment might affect your tax bill. There are K-1 tax forms to include on your personal tax return, additional record keeping requirements, and potential state income tax returns to file. Be advised to understand the tax issues and costs regarding this investment option!