Consequently, MLP ETF investors may be double-taxed. While it is not an explicit cost, ETF investors would see the results of the corporate tax liabilities through wider tracking error versus the performance of the underlying MLPs.
In contrast, ETNs, unlike ETFs, do not hold physical shares of the underlying companies of the index. ETNs are an unsecured debt security that promises to pay out the value of the index at its maturity, along with any distributions. However, since the note is a debt security, it is exposed to the default risk of the underwriting bank.
Both MLP ETFs and ETN investors are issued a 1099 form instead of the traditional K-1s associated with MLP stocks during tax season. Additionally, MLP ETFs and ETNs can be used in individual retirement accounts without negative consequences, whereas MLP units held in an IRA may be required to pay distributions from unrelated business taxable income in the year it is realized.
For more information on master limited partnerships, visit our MLPs category.
Max Chen contributed to this article.