First in Simplified MLPs Arrives, With Tradeoffs

NEW YORK (TheStreet) -- Master Limited Partnerships have long been investor favorites for their high yields and relatively stable price appreciation. They have also been complicated investments due to a partnership structure that creates a favorable tax status for the companies, causes payouts to be treated as unrelated business taxable income and triggers a K-1 tax form, even for tax-deferred accounts, instead of the more typical 1099 form.

The exchange-traded product industry has tried to offer access to the MLP space, thus far only having offered exchange-traded notes -- not actually baskets of stocks, but instead unsecured debt instruments that promise to track the targeted index. The debt structure of ETNs is not ideal for many investors, but now investors interested in the space but who would rather not pick an individual name can buy the Alerian MLP ETF(AMLP).

The fund does several things, including eliminating the K-1 form, sending out a 1099 instead. Per the Alerian website: "All K-1s are received and processed by the Alerian MLP ETF. The Alerian MLP ETF distributes a single Form 1099 to its shareholders." I would note that in an Aug. 25 interview on CNBC, CEO Kenny Feng disclosed not having an IRS ruling on this process.

There is one more point on the taxation issue: Individual MLPs get tax benefits that do not easily fit into an exchange-traded fund. The Alerian MLP ETF provides easier reporting by being able to issue a 1099, as mentioned above, but the tradeoff is that "to achieve ETF status, AMLP had to give up its 'pass-through status' and be taxed as a corporation," according to Ron Rowland of investwithanedge.com. This means the fund will have to pay taxes on the income from the underlying MLPs, which Rowland notes will be a drag on performance. Anyone interested in the fund will need to weigh the benefit of not having to select one stock to invest in versus as-yet unknown drag from the tax consequences.

Looking under the hood, the fund has 25 holdings and allocates large percentages to some of the better-known companies in the space. Enterprise Products Partners(EPD) weighs in at 9.5% of the fund, Kinder Morgan Energy Partners(KMP) at 9.3%, and four other companies have close to 7% weightings.