According to the National Association of Publicly Traded Partnerships (NAPTP), there are seven publicly traded partnerships engaged in marine transportation. Five of the seven carry the following footnote: “Organized and headquartered outside the US. Although organized as a partnership, has elected to be taxed as a corporation in the US and will furnish 1099s rather than K-1s.  Some income will be treated as a currently taxable dividend, some as return of capital.”

Table 1. Marine transportation partnerships.

Given the tax advantages of organizing as an MLP, why might a partnership choose to be taxed as a C corporation?

An MLP is required to satisfy the “qualifying income test,” which generally requires that 90 percent of gross income be derived from natural resource activities. A decision to be treated as a corporation for US federal income tax purposes eliminates the “qualifying income test,” so that an offshore partnership taxed as a corporation could have assets that would not ordinarily meet the applicable US tax rules for an MLP.

Why not simply organize as a corporation then?

Many of the offshore partnerships are organized as Marshall Islands LPs or LLCs. Marshall Islands laws for limited partnerships and limited liability companies are similar to the laws of Delaware, and the Marshall Islands exempts nonresident companies from taxes.

Offshore partnerships are generally given the status of foreign private issuers (FPIs) for purposes of the US securities laws. An FPI is an entity (other than a foreign government) incorporated/organized outside the jurisdiction of US law, unless over 50 percent of its outstanding voting securities are owned by US residents, and either 1) A majority of the executive officers or directors are US citizens or residents; 2) More than 50 percent of its assets are located in the US; or 3) Its business is administered principally in the US. FPI status is tested annually at the end of the second fiscal quarter.

Offshore partnerships that are FPIs are entitled to certain accommodations that are not available to domestic MLPs. These include:

• Exemption from some aspects of Sarbanes-Oxley

• No requirement to file quarterly reports (i.e., Form 10-Q)

• No requirement for current reports on Form 8-K

• Additional time to file annual reports on Form 20-F

• The ability to use US generally accepted accounting procedures (GAAP)

• Ability to make confidential submissions

• Exemption from proxy rules, Regulation FD and Section 16 (short swing profit rules)

An offshore partnership that elects to be taxed as a corporation doesn’t pass through its income to investors. Instead unitholders receive distributions that are dividends and/or a return of capital. Tax reporting is on a Form 1099 instead of a K-1.

Note that the partnerships that have chosen to pay taxes as corporations are almost exclusively engaged in marine transportation. Outside of this category, the only publicly traded partnership that has chosen corporate taxation is Plains GP Holding (NYSE: PGP), the general partner for Plains All American Pipeline (NYSE: PAA).

One might expect that the need to pay at least some taxes at the corporate level would result in a lower yield from a comparable partnership with MLP tax status. While the data set is too small to make firm conclusions, the marine transportation partnerships that have opted for corporate taxation yield 7.7 percent on average, versus 6.7 percent for the two that have opted to be taxed as an MLP. However this may be more a reflection of where these partnerships have chosen to incorporate.

In any case, for those seeking income from a partnership but not wanting the hassle of dealing with K-1s, one of these marine transportation partnerships could be just the ticket.

(Follow Robert Rapier on Twitter, LinkedIn, or Facebook.)

Portfolio Update

MarkWest’s Expensive Growth   

The good news for MarkWest Energy Partners (NYSE: MWE) is that it has a huge growth runway as it builds out the midstream gas processing infrastructure to meet the needs of customers in the Marcellus and the Utica. And that’s also the bad news, as elevated capital spending needs for these projects will sap distribution growth, with increases of only a penny per unit per quarter now likely through the end of next year, management confirmed on the recent conference call.

At that point, MarkWest hopes to get back to the double-digit per-unit distribution growth rate it had maintained in the decade since its IPO until quite recently. But that will depend on its big capital investments earning adequate returns, which will in turn require customers in the Marcellus and the Utica to come through on the expected rapid growth in production.

For many analysts, that was a lot of ifs to get through before seeing the rewards two years down the road, and following MarkWest’s results it was downgraded to the equivalent of a Neutral rating by former fans at Wells Fargo, Morgan Stanley, UBS, RBC Capital Markets and Wunderlich; Jefferies had already hopped off the bandwagon ahead of the numbers.

But MarkWest is very different from recent MLP disasters Boardwalk Pipeline Partners (NYSE: BWP) and El Paso Pipeline Partners (NYSE: EPB) in that its underlying business continues to thrive and grow fast; only the growth in immediate returns has been compromised.

We’re encouraged by the fact that, despite the multitude of downgrades, shares are so far holding their December lows, and by the fact that MarkWest remains in the sweet spot of the growth in Northeast energy production. This is a desirable, strategic region for big national MLPs, and if MarkWest were ever to really fall into the market’s doghouse, it would be an attractive takeover target. For the moment, though, expect the bulk of the returns to come via the 5.4 percent annual distribution yield. With that in mind, we’re lowering the buy below target on MWE to $70.         

  — Igor Greenwald

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