Master limited partnerships June 2014 Any U.S. tax advice contained herein was not intended or written to be used, and cannot be used, for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions.
MLP service leadership We understand the unique characteristics that drive accounting and tax matters for MLPs. We have assisted numerous companies in the strategic analysis of whether an MLP is right for them, as well as the domestic and international structuring and modeling aspects of doing so. We provide a range of audit and tax services to many MLPs, including: Financial statement audits Assessment of the adoption of new accounting standards (e.g., application of the two-class method of computing earnings per unit) Tax return/k-1 preparation Transactional consulting, including tax due diligence on acquisitions of MLP general partner interests We have assisted several MLPs in taking their limited partnership units public through IPOs. Our team approach means all team members not just partners have deep experience serving MLPs. Page 2
Thought leadership EY demonstrates its thought leadership in serving MLPs through partner bylined articles in tax professional journals and white papers such as: The MLP journey As MLPs continue to grow in popularity, many energy companies are considering the MLP structure for a variety of strategic reasons. This publication is used with our MLP road shows to help companies understand the multistep process and avoid the pitfalls in the journey to a successful MLP. Master Limited Partnership Accounting and Reporting Guide Covers a variety of common technical financial accounting and reporting considerations associated with the formation and ongoing operations of an MLP; used as a resource for understanding the issues associated with an MLP and the related authoritative financial guidance. Page 3
Master limited partnerships - generally MLP as an asset class An MLP is generally an investment term for a partnership that is both publicly traded and listed on a national securities exchange Partnership Partnership; or Limited liability company NYSE most common (some on NASDAQ) An MLP is not synonymous with a publicly traded partnership ( PTP ) MLP investment term for the general operating structure Could be taxed as a partnership or a corporation for U.S. federal income tax purposes PTP is a partnership for U.S. federal income tax purposes What does an MLP look like? Typically a two-tiered structure, where the MLP owns an operating partnership (a wholly owned LLC or a wholly owned limited partnership (for tax purposes)) Operating company will own the MLP s assets Considerations Strategic direction / reasons for an MLP Page 4
What is an MLP and its positive attributes? An MLP is a publicly traded limited partnership, or a limited liability company, that pairs the tax benefits of a partnership with the fundraising ability and liquidity of a public company MLPs usually consist of 1 a general partner (GP), who manages the operations of the partnership and typically holds a small percentage (commonly two percent) of the outstanding partnership units and may own incentive distribution rights (IDRs), and 2 limited partners (LPs), who provide capital and may hold most of the ownership of, but have limited influence over, the operations MLPs offer positive attributes that spur their attractiveness to the markets, namely: Tax advantages MLPs do not pay federal income taxes; each partner includes its distributive share of income when computing its federal income tax MLPs avoid the double taxation generally applied to traditional corporations and their shareholders To qualify for the tax benefits, 90% of an MLP s income must be derived from certain activities in natural resources, real estate or commodities ( qualifying income, as discussed in more detail herein) Stable cash flows Lower cost of capital potential Attractive risk profile of yield-oriented investments in a low interest rate environment Page 5
At least 90% of an MLP s gross income must be Qualifying income Qualifying Income generally includes: Natural Resources Interest (exception for interest earned in financial or insurance business) Dividends Real property rents (overlap with REIT rules) Gain from the sale or other disposition of real property Income and gains derived from the exploration, development, mining or production, processing, refining, transportation (including pipelines transporting oil, gas, or products thereof), or the marketing of any mineral or natural resource (including fertilizer, geothermal energy, and timber), industrial source carbon dioxide, or the transportation or storage of any fuel described in Section 6426(b)-(e), or any alcohol fuel defined in Section 6426(b)(4)(A), or any biodiesel fuel defined in Section 40A(d)(1) Gains from sale of capital assets held for production of qualifying income For certain partnerships, income and gains from certain commodities or futures, forwards, and options with respect to commodities Qualifying Activities: Exploration Development Mining Production Processing Refining Transportation (including pipelines transporting oil, gas, or products thereof) Storage, Marketing, Distribution Qualifying Products: Mineral and Natural Resources (including oil & gas, coal, and other depletable resources) Fertilizer Geothermal Energy Timber Certain other qualifying income as described in Treas. Reg. 1.7704-3 Industrial Source CO 2 Alcohol Fuel or Biodiesel Fuel (transportation or storage only) Page 6
Update - IRS moratorium on MLP PLRs Over the last few years, the IRS has ruled on a number of activities that may be perceived as having expanded the scope of qualifying income for MLPs. With the pace of ruling activity and the number of rulings for new sub-activities within the energy space, in late February, the IRS placed a moratorium on issuing certain new qualifying income PLRs. Initially, it was understood that the moratorium applied (in part) to all qualifying income rulings under the natural resource exception (Internal Revenue Code section 7704(d)(1)(E)), with the sole exception being rulings on middle of the fairway activities that are directly described in the statute (e.g., exploration, development, mining or production, etc.). UPDATE - On May 1, it was reported that a senior IRS attorney said that the IRS will continue to issue PLRs for MLPs operating outside of the oil and gas exploration industry. It is unknown when, or if, the IRS will lift the MLP moratorium for oil and gas exploration and/or services companies. Aside from an informal statements by IRS representatives/officials, the IRS has not made a formal, written announcement regarding the moratorium, although it may do so in the near future. Page 7
Structuring an MLP Stability (or lack thereof) of cash flow, maturity of assets, size of asset base, growth potential in the market, and a variety of other factors can dictate or play a significant role in the structure of an MLP. Careful analysis and modeling is recommended to properly structure an MLP: Traditional MLP Variable Pay MLP Synthetic MLP Baseload MLP Page 8