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A MLP ETF With a Catch

Stocks in this article: AMLP AMJ KMP

NEW YORK ( TheStreet) -- ALPS may have a hit on its hands with the launch of the ALPS Alerian MLP ETF (AMLP). This fund's introduction marks the first time investors can gain access to a basket of master limited partnerships in an ETF form.

ALPS' offering follows a growing trend within the exchange-traded product universe of firms that are launching products aimed at tracking companies responsible for transporting and storing natural gas and other fuels.

The energy sector has always a popular investing destination as players look for opportunities to bank on our insatiable appetite for power. Recently, master limited partnerships, which boast large distributions, have become particularly popular as sources of comfort during these turbulent times.

According to its factsheet, the dividend yield for the Alerian MLP Infrastructure Index which underlies AMLP was nearly 7% as of the end of June.

While attractive, the strong yields from MLPs come with a catch making them more complex than other asset classes when tax time comes around.

MLPs such as Kinder Morgan Energy Partners (KMP), Magellan Midstream Partners (MMP - Get Report)and Plains All American Pipeline (PAA - Get Report) pass through their income to investors which results in a K-1.

Traditionally, exchange traded products designed to track MLPs have been structured as exchange traded notes in order to avoid having to issue K-1s. Rather than tracking an actual basket of MLPs, JPMorgan Alerian MLP ETN (AMJ) and UBS E-TRACS Alerian MLP Infrastructure ETN (MLPI) are set up as unsecured debt obligations.

Any income payments from these funds are reported on the standard 1099 form. Although they skirt some confusion around tax time, ETNs carry added credit risk which may dissuade cautious investors from jumping aboard.

AMLP, on the other hand, is structured as an ETF. Because it tracks an index, one would expect that investors holding AMLP would be presented with a K-1. Interestingly, however, the fund promises to mimic its ETN competitors and avoid issuing a K-1.

AMLP's prospectus attempts to explain how it manages to avoid hassles at tax time. According to the paperwork, AMLP is taxed as a regular corporation. This means the fund is required to pay federal, state, and foreign corporate taxes on its taxable income. Currently the federal income tax rate applicable for corporations is 35%.

This is unlike most other investment companies, which are treated as regulated investment companies, allowing them to avoid paying state and federal taxes on their taxable income.

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