Updated on May 5th, 2022 by Bob Ciura
Spreadsheet data updated daily
Master Limited Partnerships – or MLPs, for short – are some of the most misunderstood investment vehicles in the public markets. And that’s a shame, because the typical MLP offers:
- Tax-advantaged income
- High yields well in excess of market averages
- The bulk of corporate cash flows returned to shareholders through distributions
An example of a ‘normal’ MLP is an organization involved in the midstream energy industry. Midstream energy companies are in the business of transporting oil, primarily though pipelines. Pipeline companies make up the vast majority of MLPs.
Since MLPs widely offer high yields, they are naturally appealing for income investors. With this in mind, we created a full downloadable list of nearly 100 MLPs in our coverage universe.
You can download the Excel spreadsheet (along with relevant financial metrics like dividend yield and payout ratios) by clicking on the link below:
This comprehensive article covers MLPs in depth, including the history of MLPs, unique tax consequences and risk factors of MLPs, as well as our 7 top-ranked MLPs today.
The table of contents below allows for easy navigation of the article:
Table of Contents
- The History of Master Limited Partnerships
- MLP Tax Consequences
- Advantages & Disadvantages of Investing in MLPs
- The 7 Best MLPs Today
#7: NextEra Energy Partners LP (NEP)
#6: Enterprise Products Partners LP (EPD)
#5: Sunoco LP (SUN)
#4: MPLX LP (MPLX)
#3: Brookfield Infrastructure Partners LP (BIP)
#2: Magellan Midstream Partners (MMP)
#1: Lazard Ltd. (LAZ)
- MLP ETFs, ETNs, & Mutual Funds
- Final Thoughts
The History of Master Limited Partnerships
MLPs were created in 1981 to allow certain business partnerships to issue publicly traded ownership interests.
The first MLP was Apache Oil Company, which was quickly followed by other energy MLPs, and then real estate MLPs.
The MLP space expanded rapidly until a great many companies from diverse industries operated as MLPs – including the Boston Celtics basketball team.
One important trend over the years, is that energy MLPs have grown from being roughly one-third of the total MLP universe to containing the vast majority of these securities.
Moreover, the energy MLP universe has evolved to be focused on midstream energy operations. Midstream partnerships have grown to be roughly half of the total number of energy MLPs.
MLP Tax Consequences
Master limited partnerships are tax-advantaged investment vehicles. They are taxed differently than corporations. MLPs are pass-through entities. They are not taxed at the entity level.
Instead, all money distributed from the MLP to unit holders is taxed at the individual level.
Distributions are ‘passed through’ because MLP investors are actually limited partners in the MLP, not shareholders. Because of this, MLP investors are called unit holders, not shareholders.
And, the money MLPs pay out to unit holders is called a distribution (not a dividend).
The money passed through from the MLP to unit holders is classified as either:
- Return of Capital
- Ordinary Income
MLPs tend to have lots of depreciation and other non-cash charges. This means they often have income that is far lower than the amount of cash they can actually distribute. The cash distributed less the MLPs income is a return of capital.
A return of capital is not technically income, from an accounting and tax perspective. Instead, it is considered as the MLP actually returning a portion of its assets to unit holders.
Now here’s the interesting part… Returns of capital reduce your cost basis. That means taxes for returns of capital are only due when you sell your MLP units. Returns of capital are tax-deferred.
Note: Return of capital taxes are also due in the event that your cost basis is less than $0. This only happens for very long-term holding, typically around 10 years or more.
Each individual MLP is different, but on average an MLPs distribution is usually around 80% to 90% a return of capital, and 10% to 20% ordinary income.
This works out very well from a tax perspective. The images below compare what happens when a corporation and an MLP each have the same amount of cash to send to investors.
Note 1: Taxes are never simple. Some reasonable assumptions had to be made to simplify the table above. These are listed below:
- Corporate federal income tax rate of 21%
- Corporate state income tax rate of 5%
- Qualified dividend tax rate of 20%
- Distributable cash is 80% a return of capital, 20% ordinary income
- Personal federal tax rate of 22% less 20% for passive entity tax break
(19.6% total instead of 22%)
- Personal state tax rate of 5% less 20% for passive entity tax break
(4% total instead of 5%)
- Long-term capital gains tax rate of 20% less 20% for passive entity tax break
(16% total instead of 20%)
Note 2: The 20% passive income entity tax break will expire in 2025.
Note 3: In the MLP example, if the maximum personal tax rate of 37% is used, the distribution after all taxes is $8.05.
Note 4: In the MLP example, the accrued cost basis reduction tax is due when the MLP is sold, not annually come tax time.
As the tables above show, MLPs are far more efficient vehicles for returning cash to shareholders relative to corporations. Additionally, in the example above $9.57 out of $10.00 distribution would be kept by the MLP investor until they sold because the bulk of taxes are from returns of capital and not due until the MLP is sold.
Return of capital and other issues discussed above do not matter when MLPs are held in a retirement account.
There is a different issue with holding MLPs in a retirement account, however. This includes 401(k), IRA, and Roth IRA accounts, among others.
When retirement plans conduct or invest in a business activity, they must file separate tax forms to report Unrelated Business Income (UBI) and may owe Unrelated Business Taxable Income (UBTI). UBTI tax brackets go up to 37% (the top personal rate).
MLPs issue K-1 forms for tax reporting. K-1s report business income, expense, and loss to owners. Therefore, MLPs held in retirement accounts may still qualify for taxes.
If UBI for all holdings in your retirement account is over $1,000, you must have your retirement account provider (typically, your brokerage) file Form 990-T.
You will want to file form 990-T as well if you have a UBI loss to get a loss carryforward for subsequent tax years. Failure to file form 990-T and pay UBIT can lead to severe penalties.
Fortunately, UBIs are often negative. It is a fairly rare occurrence to owe taxes on UBI.
The subject of MLP taxation can be complicated and confusing. Hiring a tax professional to aid in preparing taxes is a viable option for dealing with the complexity.
The bottom line is this: MLPs are tax-advantaged vehicles that are suited for investors looking for current income. It is fine to hold them in either taxable or non-taxable (retirement) accounts.
4 Advantages & 6 Disadvantages of Investing in MLPs
MLPs are a unique asset class. As a result, there are several advantages and disadvantages to investing in MLPs. Many of these advantages and disadvantages are unique specifically to MLPs.
Advantages of MLPs
Advantage #1: Lower taxes
MLPs are tax-advantaged securities, as discussed in the “Tax Consequences” section above. Depending on your individual tax bracket, MLPs are able to generate around 40% more after-tax income for every pre-tax dollar they decide to distribute, versus Corporations.
Advantage #2: Tax-deferred income through returns of capital
In addition to lower taxes in general, 80% to 90% of the typical MLPs distributions are classified as returns of capital. Taxes are not 0wed (unless cost basis falls below 0) on return of capital distributions until the MLP is sold.
This creates the favorable situation of tax-deferred income.
Tax-deferred income is especially beneficial for retirees as return on capital taxes may not need to be paid throughout retirement.
Advantage #3: Diversification from other asset classes
Investing in MLPs provides added diversification in a balanced portfolio. Diversification can be measured by the correlation in return series between asset classes.
MLPs are excellent diversifiers, having either a near zero or negative correlation to corporate bonds, government bonds, and gold.
Additionally, they have a correlation coefficient of less than 0.5 to both REITs and the S&P 500. This makes MLPs an excellent addition to a diversified portfolio.
Advantage #4: Typically very high yields
MLPs tend to have high yields far in excess of the broader market. As of this writing, the S&P 500 yields ~2.1%, while the Alerian MLP ETF (AMLP) yields over 25%. Many individual MLPs have yields above 10%.
Disadvantages of MLPs
Disadvantage #1: Complicated tax situation
MLPs can create a headache come tax season. MLPs issue K-1’s and are generally more time-consuming and complicated to correctly calculate taxes than ‘normal’ stocks.
Disadvantage #2: Potential additional paperwork if held in a retirement account
In addition, MLPs create extra paperwork and complications when invested through a retirement account because they potentially create unrelated business income (UBI). See the “Tax Consequences” section above for more on this.
Disadvantage #3: Little diversification within the MLP asset class
While MLPs provide significant diversification versus other asset classes, there is little diversification within the MLP structure.
The vast majority of publicly traded MLPs are oil and gas pipeline businesses. There are some exceptions, but in general MLP investors are investing in energy pipelines and not much else.
Because of this, it would be unwise to allocate all or a majority of one’s portfolio to this asset class.
Disadvantage #4: Incentive Distribution Rights (IDRs)
MLP investors are limited partners in the partnership. The MLP form also has a general partner.
The general partner is usually the management and ownership group that controls the MLP, even if they own a very small percentage of the actual MLP.
Incentive Distribution Rights, or IDRs, are used to ‘incentivize’ the general partner to grow the MLP.
IDRs typically allocate greater percentages of cash flows to go to the general partner (and not to the limited partners) as the MLP grows its cash flows.
This reduces the MLPs ability to grow its distributions, putting a handicap on distribution increases.
It should be noted that not all MLPs have IDRs, but the majority do.
Disadvantage #5: Elevated risk of distribution cuts due to high payout ratios
One of the big advantages of investing in MLPs is their high yields. Unfortunately, high yields very often come with high payout ratios.
Most MLPs distribute nearly all of the cash flows they make to unit holders. In general, this is a positive.
However, it creates very little room for error.
The pipeline business is generally stable, but if cash flows decline unexpectedly, there is almost no margin of safety at many MLPs. Even a short-term disturbance in business results can necessitate a reduction in the distribution.
Disadvantage #6: Growth Through Debt & Share Issuances
Since MLPs typically distribute virtually all of their cash flows as distributions, there is very little money left over to actually grow the partnership.
And most MLPs strive to grow both the partnership, and distributions, over time. To do this, the MLP’s management must tap capital markets by either issuing new units or taking on additional debt.
When new units are issued, existing unit holders are diluted; their percentage of ownership in the MLP is reduced.
When new debt is issued, more cash flows must be used to cover interest payments instead of going into the pockets of limited partners through distributions.
The 7 Best MLPs Today
- Return from change in valuation multiple
- Return from distribution yield
- Return from growth on a per-unit basis
The top MLPs list was screened further on a qualitative assessment of a company’s dividend risk.
Specifically, MLPs with a Dividend Risk score of ‘F’ or ‘D’ according to the Sure Analysis Research Database were omitted from the list.
Additionally, MLPs with current distribution yields below 2% were not considered. This screen makes the list more attractive to income investors.
Continue reading for detailed analysis on each of our top MLPs, ranked according to expected 5-year annual returns, but also ranked further by debt levels and strength of assets.
MLP #7: NextEra Energy Partners (NEP)
- 5-year expected annual returns: 6.0%
NextEra Energy Partners was formed in 2014 as Delaware Limited Partnership by NextEra Energy to own, operate, and acquire contracted clean energy projects with stable, long-term cash flows.
The company’s strategy is to capitalize on the energy industry’s favorable trends in North America of clean energy projects replacing uneconomic projects.
NextEra Energy Partners operates over 30 contracted renewable generation assets consisting of wind and solar projects in 12 states across the United States. The company also operates contracted natural gas pipelines in Texas which accounts for about a fifth of NextEra Energy Partners’ income.
Source: Investor Presentation
On April 21st, 2022 NextEra Energy released Q1 results. GAAP earnings per share stood at $1.72. Net income attributable to NextEra Energy Partners came in at $144 million. Adjusted EBITDA increased to $412 million from $354 million year-over-year. Cash available for distribution stood at $169 million from $184 million in the year-ago period. The partnership’s revenue increased by 14.2% to $281 million year-over-year.
Meanwhile, the partnership continues to expect for Dec. 31. 2022 run rate for adjusted EBITDA of $1.775B to $1.975B, CAFD of $675 million to $765 million, and annualized rate of $3.17 to $3.25 by year-end. NextEra Energy also continues to expect 12% to 15% per year growth through 2024.
Click here to download our most recent Sure Analysis report on NEP (preview of page 1 of 3 shown below):
MLP #6: Enterprise Products Partners (EPD)
- 5-year expected annual returns: 6.5%
Enterprise Products Partners was founded in 1968. It operates as an oil and gas storage and transportation company.
Enterprise Products has a tremendous asset base which consists of nearly 50,000 miles of natural gas, natural gas liquids, crude oil, and refined products pipelines. It also has storage capacity of more than 250 million barrels.
Continued growth is likely over the next several years. The company has over $4 billion in capital projects under construction.
Source: Investor Presentation
Enterprise has positive growth potential moving forward, thanks to new projects and exports. The company expects most of these projects to come online no later than the end of 2023.
Exports are also a key growth catalyst. Demand for liquefied petroleum gas and liquefied natural gas, or LPG and LNG respectively, is growing at a high rate across the world, particularly in Asia.
We expect 6.5% annual returns for EPD, based on ~1.9% annual DCF-per-unit growth, the 7.0% yield, and a small reduction in the valuation multiple.
Click here to download our most recent Sure Analysis report on Enterprise Products Partners (preview of page 1 of 3 shown below):
MLP #5: Sunoco LP (SUN)
- 5-year expected annual returns: 7.6%
Sunoco distributes fuel products through its wholesale and retail business units. The wholesale unit purchases fuel products from refiners and sells those products to both its own and independently-owned dealers.
The retail unit operates stores where fuel products as well as other products such as convenience products and food are sold to customers.
Source: Investor Presentation
Click here to download our most recent Sure Analysis report on Sunoco (preview of page 1 of 3 shown below):
MLP #4: MPLX LP (MPLX)
- 5-year expected annual returns: 9.0%
MPLX, LP was formed by the Marathon Petroleum Corporation (MPC) in 2012. The business operates in two segments: Logistics and Storage – which relates to crude oil and refined petroleum products – and Gathering and Processing – which relates to natural gas and natural gas liquids (NGLs).
The company’s Logistics and Storage segment has pipeline capacity of 4.7 million barrels per day.
You can see highlights of the company’s first-quarter report in the image below:
Source: Investor Presentation
With MPLX in particular we are encouraged by the company self-funding on the equity side and getting rid of the IDRs. In the last five years MPLX has had distribution coverage ratios of 1.28x, 1.36x, 1.51x, 1.46x and 1.64x.
Meanwhile, the company’s total debt to adjusted EBITDA has been 3.7x, 3.9x, 4.1x, 3.9x and 3.7x during the same time period (generally MLP’s are shooting for a ratio under 5x). In addition, the revenues of MPLX are reliable thanks to the long-term contracts with parent company Marathon.
We expect 9.0% annual returns for MPLX, consisting mostly of the 8.7% yield. We also expect 2% annual DCF growth, but we view the units as slightly overvalued right now.
Click here to download our most recent Sure Analysis report on MPLX (preview of page 1 of 3 shown below):
MLP #3: Brookfield Infrastructure Partners (BIP)
- 5-year expected annual returns: 9.0%
Brookfield Infrastructure Partners is one of our top infrastructure stocks.
Brookfield Infrastructure Partners is one of the largest global owners and operators of infrastructure networks, which includes operations in sectors such as energy, water, freight, passengers, and data.
It is one of four publicly-traded listed partnerships that is operated by Brookfield Asset Management (BAM).
You can see an overview of the company’s first-quarter operating highlights in the image below:
Source: Investor Presentation
Going forward, management aims for an FFO payout ratio of 60% to 70%. BIP’s FFOPS remains stable even through recessions because of the essential services provided by its diversified infrastructure portfolio. Stable FFO and a sustainable payout ratio leads to a secure dividend.
BIP benefits from the qualitative competitive advantages of the Brookfield family of companies, which includes access to large-scale capital, vast experience owning and operating real assets, and a truly global operating presence. These factors allow BIP to invest in the most compelling global infrastructure opportunities.
We expect 7% annual FFO-per-unit growth, while the MLP also offers a 3.5% yield. However, units appear somewhat overvalued right now. Total returns are estimated at 9% per year.
Click here to download our most recent Sure Analysis report on BIP (preview of page 1 of 3 shown below):
MLP #2: Magellan Midstream Partners (MMP)
- 5-year expected annual returns: 12.9%
Magellan Midstream Partners has the longest pipeline system of refined products in the U.S., which is linked to nearly half of the total U.S. refining capacity.
Its network of assets includes 9,800 miles of pipeline, 54 storage terminals, and 47 million barrels of storage capacity. Refined products generate approximately 60% of its total operating income while crude oil and marine storage represents the remaining 40%.
MMP has a fee-based model; only ~10% of its operating income depends on commodity prices.
MMP has a long history of steady distributions:
Source: Investor Presentation
The competitive advantage of MMP comes from its fee-based model, its great scale and its discipline to invest only in high-return projects. MMP grew its dividend for 70 consecutive quarters before the freeze in 2020 and has raised its annual dividend at an 11% average annual rate since 2001. This record is a testament to the strength of the business model and the great discipline of management.
We expect 12.9% annual returns for MMP, driven by the 8.4% yield, as well as 3% annual DCF-per-unit growth and a ~1.5% boost from an expanding valuation multiple.
Click here to download our most recent Sure Analysis report on MMP (preview of page 1 of 3 shown below):
MLP #1: Lazard Ltd. (LAZ)
- 5-year expected annual returns: 16.6%
Lazard is one of the few MLPs that does not operate in the energy sector. Instead, is an international investment advisory company that traces its history to 1848.
The company has two business segments that are Financial Advisory and Asset Management. The Financial Advisory business includes M&A, debt restructuring, capital raising, and other advisory business. The Asset Management business is about 80% equities and focuses primarily on institutional clients.
You can see the highlights of the company’s first-quarter performance in the image below:
Source: Investor Presentation
Lazard’s competitive advantage is derived from its reputation for excellence and integrity, worldwide reach, diversity in asset management, long-term relationships, and ability to advise on complex transactions. The company is often the go to firm for complex global M&A transactions and restructuring. The company’s reputation also permits it to attract top talent, which is important in the advisory business. Notably its managing directors have on average over 25 years of experience.
Lazard’s top and bottom lines and thus stock price is sensitive to the economic cycle and markets. Lazard is a relatively small player in the asset management business, which is undergoing consolidation. Scale is important in asset management for profitability. Earnings per share declined significantly during the last recession but rapidly recovered.
We expect annual returns of 16.6% per year for Lazard, due to a combination of 5% EPS growth, the 5.5% yield, and a ~6.1% boost from an expanding valuation multiple.
Click here to download our most recent Sure Analysis report on Lazard (preview of page 1 of 3 shown below):
MLP ETFs, ETNs, & Mutual Funds
There are 3 primary ways to invest in MLPs:
- By investing in units of individual publicly traded MLPs
- By investing in a MLP ETF or mutual fund
- By investing in a MLP ETN
Note: ETN stands for ‘exchange traded note’
The difference between investing directly in a company (normal stock investing) versus investing in a mutual fund or ETF is very clear. It is simply investing in one security versus a group of securities.
ETNs are different. Unlike mutual funds or ETFs, ETNs don’t actually own any underlying shares or units of real businesses. Instead, ETNs are financial instruments backed by the financial institution (typically a large bank) that issued them. They perfectly track the value of an index. The disadvantage to ETNs is that they expose investors to the possibility of a total loss if the backing institution were to go bankrupt.
The advantage to investing in a MLP ETN is that distribution income is tracked, but paid via a 1099. This eliminates the tax disadvantages of MLPs (no K-1s, UBTI, etc.). This unique feature may appeal to investors who don’t want to hassle with a more complicated tax situation. The J.P. Morgan Alerian MLP ETN makes a good choice in this case.
Purchasing individual securities is preferable for many, as it allows investors to concentrate on their best ideas. But ETFs have their place as well, especially for investors looking for diversification benefits.
Master Limited Partnerships are a misunderstood asset class. They offer diversification, tax-advantaged and tax-deferred income, high yields, and have historically generated excellent total returns. You can download your free copy of all MLPs by clicking on the link below:
The asset class is likely under-appreciated because of its more complicated tax status.
MLPs are generally attractive for income investors, due to their high yields.
As always, investors need to conduct their own due diligence regarding the unique tax effects and risk factors before purchasing MLPs.
The MLPs on this list could be a good place to find long-term buying opportunities among the beaten-down MLPs. To see the highest-yielding MLPs, click here.
Additionally, MLPs are not the only way to find high levels of income. The following lists contain many more stocks that regularly pay rising dividends.
- The Dividend Aristocrats List: 66 stocks in the S&P 500 Index with 25+ years of consecutive dividend increases.
- The High Yield Dividend Aristocrats List is comprised of the Dividend Aristocrats with the highest current yields.
- The High Dividend Stocks List: stocks that appeal to investors interested in the highest yields of 5% or more.
- The Monthly Dividend Stocks List: stocks that pay dividends every month, for 12 dividend payments per year.
- The Dividend Champions List: stocks that have increased their dividends for 25+ consecutive years.
Note: Not all Dividend Champions are Dividend Aristocrats because Dividend Aristocrats have additional requirements like being in The S&P 500.
- The Dividend Contenders List: 10-24 consecutive years of dividend increases.
- The Dividend Challengers List: 5-9 consecutive years of dividend increases.