In May the U.S. Treasury and the Internal Revenue Service (IRS) proposed new rules clarifying the range of activities that qualify for the favorable tax treatment accorded to publicly traded partnerships. The proposal followed a request for private letter rulings (PLRs) from at least one paper and packaging company hoping to spinning off its containerboard operations into a master limited partnership (MLP).

After the total number of requests for such advance IRS blessing jumped from 20 in 2012 to 37 in 2013, the IRS suspended the issuance of PLRs in April 2014 pending an internal review of prior rulings. The new IRS rules proposed in May would restrict the growth of nontraditional MLPs.


The proposed new IRS rules might even revoke the status for some activities that had qualified under previous private letter rulings. One of the MLPs at risk is Westlake Chemical Partners (NYSE: WLKP), which went public last summer after receiving a favorable ruling from the IRS that its business constitutes “qualifying income” for MLP status. Westlake manufactures petrochemicals, vinyls, polymers and building products, and following the release of the new IRS proposal WLKP units lost about 30% in three days.

But the IRS may be having a change of heart. Last week, IRS associate chief counsel Curtis Wilson said the agency is reconsidering the rules it proposed in May, which would have disallowed MLP status for petrochemical companies like Westlake Chemical Partners. (WLKP units jumped about 10% on the news.)

Earlier this month the IRS released the first new PLRs addressing MLP qualifying income since its self-imposed moratorium on such rulings. These two new PLRs are also the first to be issued since the new regulations were proposed.

PLR 201537007 responded to a petitioner requesting a ruling on the processing, regasification, liquefaction, and storage of natural gas. Liquefaction and regasification are not explicitly identified as qualifying activities under the proposed regulations, but the IRS had previously ruled that such activities generate qualifying income. In PLR 201537007, the IRS confirmed that income from processing, regasification, liquefaction and storage of natural gas constitutes qualifying income.  

PLR 201537014 was a response to a petitioner seeking to become a publicly traded partnership engaged in gathering, transporting, processing, treating and disposing of saltwater produced in the exploration and production of oil and natural gas (produced water). The primary asset of the partnership would be ownership interests in the saltwater disposal wells and associated assets including pipelines, rights of way and the equipment necessary to operate the saltwater disposal wells. Another partnership, Cypress Energy Partners (NYSE: CELP) already engages in the disposal of saltwater, and the IRS had previously ruled that this constitutes qualifying income.

The proposed IRS regulations define qualifying activities to include not only the list of core activities such as exploration, production, processing, refining, transportation and marketing of natural resources, but also limited support activities that are intrinsic to such core activities (e.g., hydraulic fracturing sand providers).  The IRS ruled in PLR 201537014 that saltwater disposal service businesses are consistent with the requirements provided under the proposed regulations and therefore give rise to qualifying income.

Given these two favorable rulings, we may finally begin to see some new MLP IPOs once market conditions turn more favorable.

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

Portfolio Update

An Own Goal for CPLP’s Sponsor   

While our most tanker picks have outperformed this year in a weak equity market and a terrible tape for energy, one has not: Capital Products Partners (NASDAQ: CPLP) is now down 8% since the Dec. 16 recommendation, squandering its significant springtime gains despite a primary concentration in the resurgent fuel and crude oil tanker markets.

Some of the weakness likely stems from CPLP’s exposure to the ailing container trade: 8 of its 33 vessels are containerships, and this shipping sector continues to feel the pain of  China’s growth slowdown. Traffic on a key Far East-to-Europe route has dropped off noticeably of late amid alongside Chinese exports, even as deliveries of supersized containerships ordered in better times are set to accelerate.

The partnership, while sanguine about the longer-term outlook for containers, has acknowledged the slowdown on the China-to-Europe route and the concurrent slide in containership charter rates this summer. Meanwhile, Reuters reports that the coming “megaships” will exacerbate “massive overcapacity in the market.”

This is not an immediate risk, as all but one of CPLP’s containerships are under charter at least through 2019, and mostly through 2025. But we’ll know more about the extent of the current market weakness once the partnership recharters the one containership coming off its current charter at the end of this month.

Another, less obvious drag on CPLP’s performance may be related to the considerable current legal difficulties of Evangelos Marinakis, the CEO and de-facto owner of Greece-based Capital Maritime & Trading Corp., CPLP’s sponsor and general partner.

Marinakis has been accused of directing a criminal organization, as well as aiding and abetting extortion, bribery and fraud in his capacity as head of Greece’s leading soccer club and former league official, in a case currently under investigation by a Greek judge.

He proclaimed his innocence after being questioned in June, remains free on bail of 200,000 euros and must check in with authorities every 15 days.

The allegations stem from a huge match-fixing scandal. Marinakis and his alleged co-conspirators have been accused of communicating using anonymous burner cell phones, which were nevertheless taped by Greece’s intelligence agency.

The natural temptation is to dismiss this case as so much noise that should have no bearing on the ultimate value of CPLP’s tankers. But it’s clear that the partnership’s value would be impaired without a viable sponsor and that Marinakis is, de-facto, that sponsor. His alleged role as the corrupt godfather of Greek soccer could prove costly under a strengthened leftist government that has pledged to root out corruption and to tackle the abuses of the Greek business oligarchy.

The soccer scandal and the container trade slump are not sufficient, even in combination, for us to recommend selling CPLP shares at the current lows. As we’ve seen elsewhere, CPLP’s 14% yield is hardly protection enough against future declines, but it does indicate the high degree of skepticism already priced in. These risks, however, warrant the downgrade of CPLP to a Hold. There are simpler stories out there and more attractive destinations for new money.           

— Igor Greenwald