Saturday, August 10, 2013

QuickBooks Online vs Xero - Number of Users

Mike @ quickbooks-blog.com writes:   I recently wrote about QuickBooks Online (QBO) vs Xero.


I wrote from memory, about some fast changing facts, without confirming them, so some things I wrote were not true. I deeply apologize for this, especially to those who reposted what I wrote. Fortunately, the exact numbers lead to the same conclusion about Xero badly beating QuickBooks. 
The attached files show actual users of QuickBooks Online vs Xero:
               QBO
                Xero  
  users incr    users incr   Diff Mult
07/31/05 49,000 49,000
07/31/06 78,000 59% 78,000
07/31/07 117,000 50%  204116,796
07/31/08 133,000 14% 03/31/08 950 466%132,050 33.29
07/31/09 147,000 11% 03/31/09 6,000532%141,00048.36
07/31/10 201,000 37% 03/31/10 17,000183%184,0004.95
07/31/11 283,000 41% 03/31/11 36,000112%247,0002.73
07/31/12 380,000 34% 03/31/12 78,000117%302,0003.44
04/30/13 459,000 21% 03/31/13 157,000101% INT302,0004.81
07/31/13 486,000 28% 06/30/13 193,000147% Q EST293,0005.25
07/31/14 622,080 28% 06/30/14 476,710147% ESTIM145,3705.25
07/31/15 796,262 28% 06/30/15 1,177,474147% ESTIM-381,2115.25
The number of QuickBooks Online (QBO) users is from Intuit Investor Fact Sheets:
 The number of Xero users come from these documents:
For purposes of this comparison, I ignored a one month difference in compny year ends. I also estimated the July 31, 2013 QBO year end from its April 30, 2013 figures. I then used current growth to estimate users in 2014 and 2015. 
QuickBooks desktop lost 800,000 users (16.67%) while QBO was getting 486,000 users, so QBO got less than 61% of the users that QB desktop lost. Xero got 147% more users in the year ended 06/30/13, while QBO got 28% more users in the comparable year ended 07/31/13. As the last column shows, Xero started later, but always got new users many times faster than QBO. In the years ending in 2013, Xero got new users 5.25 times as fast. 
2013 was very important in the race between the products. For the first time, Xero got more new users than QBO (10,000). It also is important that the QBO growth rate dropped each year since 2011.
As we increasiingly switch to web accounting, the number of QuickBooks desktop users should keep dropping fast. Many new QBO users are former QuickBooks desktop users. However, as the number of QuickBooks desktop users keeps declining, there will keep being fewer QuickBooks desktop converting users to drive QBO growth. In addition, as Xero becomes increasingly well known, it will keep getting a larger share of such users.
Few seem to know how quickly the online revolution is killing the QuickBooks desktop program and other desktop accounting programs. There are now more than 10 times as many online accounting users as there are QB desktop users. Most of them are the approximately 40 million users of light-accounting products, from companies like Mint and Yodlee. These and smartphone apps increasingly make users want the fast growing more complete online accounting programs, like Xero and QBO. Intuit knows this, which is why it now spends 75% of development money on web apps, vs the 25% it spent in 2007. However, it obviously is not yet doing this as effectively as Xero.
There also is increasing integration and automation in online programs. These include programs for taxes, investments, calendars, milelage logs, scanned documents (including smart phone receipts), web stores, automated ordering and bill payment, outsourcing and MUCH MORE. As I will discuss in further posts, Xero is very quickly adding more of these add-ons, with its free industry-standard RESTful interface. The number of such QB add-ons is declining fast, partly due to an expensive, proprietary, limited inteface, which keeps changing, plus a badly split product line.
As the last two ESTIMATED lines in my table show, even if present trends simply continue, much faster Xero growth will give it almost 1.2 million users in only two years. This also will then give Xero almost 400,000 MORE USERS than QBO.
Tomorrow I will discuss even more reasons why this table probably understates the the number of Xero vs QuickBooks Online users.
Posted on 4:31 PM | Categories:

Xero Grows 129% a Year, Badly Beats QuickBooks

Mike at QuickBooks Blog writes: Headlines like Xero Revenue Loses Pace are nonsense, when Xero grows 129% a year.
Even financial analysts may not compound growth correctly. Xero had these paying customers:
                                                                         Increase      March 31, 2013        157,000    June 30               193,000     23%
Instead of multiplying 23% by four, for a 92% annual increase, project the 23%:
    September 30          237,000     23%
    December 31           292,000     23%
    March 31, 2014        359,000     23%
Now divide 359,000 by 157,000, for the 129% annual increase. Xero actually will have far more than 357,000 users by March, 2014. The June quarter is bad for users to change accounting programs. That is why Xero actually had a 147% increase in users for the year ended July 31, 2013 (193,000 vs 78,000).
Xero also said it would go from from 300 to 700 employees in a year (133%), but added 67% more in six months. This may be 178% more employees a year, if continued. These new employees will not get new customers right away, but Xero should have far more than 357,000 users by March.
I will write again soon about other reasons that will guarantee this.

Posted on 4:30 PM | Categories:

The Right Tax Adviser for the Times / Beware of flawed tax strategies from financial advisers who don't know what they're doing.

Arden Dale for the Wall St Journal writes: Recent changes to the tax code are a timely reminder to investors of a perennial risk: flawed tax maneuvers by tax and financial advisers that can lead to costly errors.
Jennifer Jones was rattled when she started getting audit letters from the Internal Revenue Service. The tax-preparation firm that did her return had misreported a rental property she owned as a business, according to Ms. Jones and her financial planner, Stephen W. DeFilippis.
After the 2009 audit, the 39-year-old Miami-based travel agent had to hire Mr. DeFilippis to resolve the issue and prevent her from incurring a $6,000 tax bill. Mr. DeFilippis, who is based in Wheaton, Ill., is an enrolled agent, a designation that requires passing special exams administered by the IRS.
"Once you get audited, you're burned forever," Ms. Jones says.
Other professionals can trip up investors, too. Last year, a New York couple lost a case in U.S. Tax Court and wound up owing $754,653 in additional taxes and a penalty of $150,930, after their insurance agent and financial adviser wrongly told them they didn't have to include business-related insurance policies in their reported income, according to court documents. The case is under appeal.
Comprehensive statistics on how many people get bad tax advice are hard to come by, but Tax Court cases show the kinds of issues that prompt an audit and how often people fight back against the IRS when they do occur.
New tax laws heighten the importance of having an adviser who is knowledgeable and current. A 3.8% federal surtax on investment income took effect in January, and investors need to know to which income it applies. Some New York financial advisers in are reaching out to tax professionals to help qualified spouses in same-sex marriages get a recently announced estate-tax refund.
The changes help put a premium on finding the right expert, and credentials alone are no guarantee. This year, a couple lost another fight in U.S. Tax Court over more than $5 million in deductions for a horse-breeding operation. A tax lawyer had assured them they could take the write-offs.
The American Institute of CPAs has a few tips for choosing an accountant. Besides getting a referral from someone you trust, the group suggests finding a tax pro with a proven record of dealing with related tax issues to help avoid disaster. Ask friends and associates to refer you to a tax adviser who has done a good job for them.
If you have a business, it is best to find someone who knows the ins and outs of tax returns or tax strategies for businesses.
"Bad tax advisers are going to be willing to say they know how to prepare taxes for businesses," says Jeffrey A. Porter, chairman of the tax executive committee at the American Institute of CPAs and the owner of Porter & Associates, an accounting firm in Huntington, W.Va.
Lauren Locker, chairwoman of the National Association of Personal Financial Advisors, recommends that anyone looking to hire a financial adviser should see how comfortable candidates feel talking about taxes. An adviser who doesn't hold tax credentials ought to be able to introduce clients to one or two good CPAs or tax lawyers.
"The credential is a baseline," Ms. Locker says. "We know you were able to learn this, but how you were able to apply it is a whole other thing."
You can get some limited help from financial planners and others who give general advice. These advisers might know enough about, say, selling shares of appreciated stock to reduce capital-gains taxes. Or they might suggest using a trust or partnership to reduce estate taxes. But good planners know when they are in over their heads.
It is easy to trip over the new 3.8% investment tax, for example, or make an error calculating the alternative minimum tax, given new income-tax thresholds and phased-out deductions.
Meredith Schneider, an adviser in Redwood Shores, Calif., whose firm manages $40 million, says she might offer clients questions to ask a tax expert but avoids getting into any details herself.
"I will never say anything definitively," she says.
Posted on 6:51 AM | Categories:

Reducing taxes on IRA payouts

Ray Martin for MoneyWatch writes: Earlier this week, I wrote about IRA required minimum distributions  (Below) and the rules people must follow for taking distributions when they are older and have money in retirement accounts.
These requirements specify when the distributions must commence, the payout period required, and the rate of distribution. These rules affect both lifetime and post-death distributions. The minimum amount that must be distributed each year is calculated by using a factor from the Uniform Lifetime Table which is specified in IRS Publication 590.
Generally, individuals who turn age 70 1/2 must commence distributions from their IRAs no later than April 1st of the following the year.
For example, if in 2013 you turned age 70 and a half, you would need to take your first minimum distribution from your IRA by April 1st 2014. Since these requirements apply to traditional and rollover IRAs (but do NOT apply to Roth IRAs), the amounts distributed are generally reported to the individual on form 1099 R and are taxable as income.
Receiving these distributions may create additional taxable income which often triggers other tax problems, such as causing more of your Social Security income to be taxable or the loss of itemized deductions due to phase-outs tied to your adjusted gross income.
But there are a few strategies people should consider to minimize the tax problems these required distributions can create, such as:
Take first required distribution early: Even if, as in the example above, you turn 70 1/2 in 2013 and can wait until April 1st of the following year to take your first distribution, it might be wise to take the first distribution in 2013 instead. The reason is that if you wait until 2014 you will also be required to take that year's distribution before year-end, causing you to take two distributions. Doing this can boost your taxable income and exacerbate the tax owed on Social Security and the loss of itemized deductions. Check with your tax or financial advisor to see which tax year is best for you to take the first required distribution.
Roll IRA into 401(k): People 70 and above who continue to work for an employer who sponsors a 401(k) or other retirement plan are not required to take taxable withdrawals from their retirement plans until they retire. To avoid taking required distributions from their IRAs at age 70, individuals who plan to continue working should consider rolling over their IRA into their employer's retirement plan before their 70th birthday. Doing this delays the requirement to take distributions from the IRA funds that are transferred into the 401(k) or other similar type of plan. This is especially advantageous when the individual does not need the IRA distributions for income and is in a higher tax bracket.
Tax Free IRA Distributions to Charity: IRA owners age 70 1/2 are allowed to distribute up to $100,000 from their IRAs tax free as long as it is sent directly to a charitable organization. This was also retroactively restored for 2012 and was extended again through 2013. For higher income earners who make donations to charity, this makes more sense than taking a required distribution from your IRA that is taxable as income and then donating cash to a charity and claiming an itemized deduction. The reason is that some of their itemized deductions will be lost because of the phase out of deductions due to higher adjusted gross income. But the IRA distribution to a charity would be tax free.
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When IRA distributions are required
People who own retirement accounts and are age 70 and older need to know that their retirement accounts are subject to special minimum distribution requirements. The Internal Revenue Code prescribes the requirements individuals must follow in regards to taking payments from their accounts in retirement plans and traditional, deductible individual retirement accounts (IRAs). Amounts owned in Roth type IRAs are not subject to these rules.
These requirements specify when the distributions must commence, the payout period required, and the rate of distribution. These rules affect both lifetime and post-death distributions.
Generally, individuals must commence distributions from their IRAs no later than April 1st of the year following the year they turn age 70 1/2.
The minimum amount that must be distributed each year is calculated by using a factor from the Uniform Lifetime Table which is specified in IRS Publication 590.
Generally the account value as of the most recent year-end is divided by the factor from the table that coincides with the current age of the individual. For example, the factor for individuals age 70 is 27.4. So, if you are age 70 in 2013, and have an IRA that had a value of $100,000 on December 31st 2012, the minimum amount you must withdraw from the IRA as your first annual required distribution would be $3,650.
These rules for accounts held in an employer's retirement plan are a little different. Folks with retirement plan accounts, such as 401(k) or 403(b) accounts, who are not a five percent owners of the business that maintains the plan (a "five percent owner"), can start receiving distributions no later than April 1st following the year in which he attains the age 70 1/2 OR retires, whichever is LATER. This date is referred to as the required beginning date, or RBD. This special rule allows folks who continue to work to put off distributions from their employers retirement plans.
The first time that the minimum distribution is required is known as the first distribution calendar year, and must be made by April 1st of the year following the year the participant attains the age of 70 1/2. Subsequent distributions  must be made by December 31 of each calendar year.
The RBD for traditional, deductible IRAs (not Roth IRAs) and 5 percent owners participating in an employer's retirement plan is April 1st following the year in which someone attains the age 70 1/2, even if the person has not yet retired.
Financial firms who serve as IRA trustees, custodians, and issuers are required to report to the IRS annually the amount of the minimum required distribution for the year it is required. So don't think you can fly under the radar, not take a distribution and have it go unnoticed by the IRS. If you do not follow these requirements it can cost you; failure to comply with the mandatory distribution amount and date requirements may result in the imposition of a hefty 50-percent excise tax on late or insufficient distributions.
If you have multiple IRAs, a minimum required distribution must be calculated separately for each IRA. However, these amounts may then be totaled and the total distribution taken from any one or more of the IRAs.
If you have a more than one account in an employer's retirement plan, you must calculate and withdraw a minimum required distribution from each plan. Aggregation is not permitted
Distributions from IRAs may not be aggregated with distributions from 401(k) and 403(b) accounts. Also, amounts in IRAs that an individual holds as beneficiary of the same decedent may be aggregated, but such amounts may not be aggregated with amounts held in IRAs that the individual holds as the IRA owner or beneficiary of another decedent.
Check back later this week when I'll write about a few smart move people can make to plan for these required distributions.
Posted on 6:51 AM | Categories:

Rule with self-directed IRAs: Investor really beware

Ilyce Glink and Samuel J. Tamkin for the Chicago Tribune write:   Q: My partner and I are considering rolling over his 401k into a self-directed IRA in order to purchase rental property. I was wondering if you have any information on how to vet this type of company. That being said, we have experience with rental properties, so we are not outside the realm of our experience.

Answer: Self-directed IRA companies started to become more popular more than a dozen years ago when investors began using them to help finance the purchase investment real estate.

And why not? When you use a self-directed IRA, you're essentially lending yourself the money to pay for the real estate. The proceeds from the investment property (that is, the income the property generates) go back into the account to repay the loan and any expenses. Over time, as the loan is paid down, profits will increase, but those must stay in the IRA as well until you withdraw them. At that time, you'll owe ordinary income on your withdrawals, just as you would for withdrawals from any other qualified retirement account.

Many investors who have pots of ordinary IRA cash and investments just sitting there, earning virtually nothing, have looked to roll over those funds into a self-directed IRA account, where they can use those funds in a different way. At a time when stock market and bond market returns were uncertain, many investors turned to real estate to scoop up foreclosures and short sales that seemed to be underpriced. As the housing market has increased in value, investors are finding that their IRAs are worth a lot more.

Of course, there are issues to think about when about using self-directed IRAs, including the high fees some companies charge and the many rules investors must follow in order not to run afoul of IRS regulations regarding IRAs and investing in real estate.

When it comes to vetting self-directed IRA companies, you need to be extremely cautious. The SEC's Office of Investor Education and Advocacy (OIEA) and the North American Securities Administrators Association (NASAA) issued an investor alert warning of the potential risks associated with self-directed IRAs. According to the alert, NASAA has noted a recent increase in reports or complaints of fraudulent investment schemes that utilized a self-directed IRA as a key feature. State securities regulators have investigated numerous cases where a self-directed IRA was used in an attempt to lend credibility to what turned out to be a fraudulent scheme. Similarly, the SEC has brought a number of cases in which promoters of fraudulent schemes steered investors to self-directed IRAs.

The SEC cautions investors to understand that the custodians and trustees of self-directed IRAs may have limited duties to investors, will generally not evaluate the quality or legitimacy of an investment or its promoters. In other words, when you buy a mutual fund on the recommendation of your registered investment advisor (RIA) or even an investment advisor at one of the big financial investment companies, there may be a duty to help you select the best investment for you and to investigate to make sure that the investment isn't a fraud or a fake. But with a self-directed IRA, there is less regulation, and the custodian or trustee of your accounts (you need a third-party to manage the investment for you to maintain it as an "arm's length" transaction to meet IRS guidelines) may not have to ascertain whether the investment is fraudulent or even a good idea. That's up to you.

The market for self-directed IRAs is small compared to traditional IRAs, but if it's your money, that doesn't matter. A 2011 study found that Americans have approximately $4.7 trillion in IRAs. About 2 percent, or $94 billion, is held in self-directed IRAs. The rebounding stock market might have changed those numbers somewhat, but you can see that it isn't a huge number relative to the total amount held in IRAs.

To check out a self-directed IRA company, we suggest running the company through a news search engine and a couple of regular search engines along with the word "complaint." That should bring up any issues or problems someone has faced. You can also check with your state regulator, and the SEC. For more information and resources on self-directed IRAs, visit Investor.gov. HereĆ¢€™s the link to the SEC Investor Alert we found. (http://www.sec.gov/investor/alerts/sdira.pdf)
Posted on 6:51 AM | Categories:

The Dark Side of Higher Yields / Income-hungry investors have flocked to energy-focused master limited partnerships and MLP funds this year. Yet risks are rising, and taxes can be hazardous.


Investors should proceed carefully, however, or they might get scorched.
Lured by generous quarterly cash payouts, investors poured nearly $8 billion into mutual funds and exchange-traded products specializing in MLPs in the first half of 2013, according toMorningstarMORN +0.09% the investment-research firm. More than one-quarter of the roughly $26 billion in the total assets at these funds has arrived since Dec. 31.
MLPs' returns have been strong. Over the decade ended July 31, MLPs generated an average total return, or income plus price changes, of 16% annually; U.S. stocks overall, as measured by the S&P 500, returned an annual average of 7.6%.
The Alerian MLP AMLP +0.23% index, a widely followed benchmark, has a yield (income divided by price) of 5.7%—more than double the interest income on 10-year U.S. Treasury debt and nearly triple the dividend on the S&P 500.
Many analysts expect those yields, already extraordinary in a world of rock-bottom interest rates, to rise steadily over time as the energy boom picks up speed.
MLPs also provide a regular stream of cash payments that have kept up well with inflation and often are largely exempt from current income tax. Historically, MLPs haven't moved in sync with the S&P 500—enabling investors in these firms to reduce the riskiness of an all-stock portfolio.
Yet even bullish analysts are worrying that risk has begun rising among MLPs as money pours in, driving up valuations and pushing down the quality of some offerings. An earlier generation of MLP investors lost most of their money in the mid- to late-1980s when oil prices collapsed, recalls James Murchie, founder and portfolio manager at Energy Income Partners in Westport, Conn., which manages $4 billion.
"If you wanted to launch an MLP in the 1990s, you had to be Albert Schweitzer wrapped up inside Albert Einstein," he says. "But now, so much money is flowing in that mistakes are easier for investors to make."
Expectations have climbed so high that small missteps can send an MLP tumbling. This past Wednesday, Southcross Energy PartnersSXE -0.57% a Dallas-based natural-gas MLP, plunged 5% when it reported lower-than-expected cash flow.
Mutual funds or exchange-traded funds holding a basket of MLPs also can cost you dearly; the average MLP mutual fund charges 1.44% in annual expenses, or $144 per $10,000 invested, while the average ETF charges 0.82%, according to Morningstar. Meanwhile, investors can own a conventional ETF holding energy stocks for as little as 0.14% annually.
MLPs' yield is vulnerable to rising interest rates, too. That is especially true at smaller firms that fund operations with debt and thus would be hurt as rising rates raised their borrowing costs, says Ethan Bellamy, an analyst specializing in MLPs at Robert W. Baird & Co., a Milwaukee-based brokerage and investment bank.
Above all, MLPs and funds specializing in them are riddled with tax complexities that can weigh on returns, especially for people with less than about $250,000 to invest in the sector.
The tax hazards of buying individual MLPs include large tax-preparation costs; the inability to deduct current losses against other income; and the risk of generating taxable income even within a tax-free individual retirement account or Roth IRA.
These issues are the drawbacks of MLPs' tax-favored status. Although they are publicly traded, MLPs are very different from the corporations that dominate the stock market. As partnerships, they "pass through" net income directly to their "limited partners," or investors, who owe tax at the individual level. Thus there isn't a corporate-level tax for individual MLPs.
Because the cash flow distributed to investors by MLPs often is largely sheltered by depreciation and other tax breaks they are allowed by law, investors often can defer paying income tax on the payouts almost until the position is sold. "The longer the holding period, the greater the tax benefits," says Simon Lack, managing partner of SL Advisors, an asset manager in Westfield, N.J.
But MLP payouts aren't tax-free—just tax-deferred. To keep track of what is deferred, partnership investors receive annual K-1 reports at tax time instead of fairly simple 1099 forms from a broker. These reports often require multiple state tax filings and expensive tax-preparation help.
Selling a holding sometimes triggers large unexpected payments to Uncle Sam involving arcane items such as depreciation recapture.
"We've had clients sell MLPs after their adviser told them they had no significant gain or loss," says Jim Oliver, a certified public accountant in San Antonio. "But the actual result was a large ordinary gain and a large capital loss"—a bad tax outcome.
In an effort to circumvent some of these issues and satisfy demand from smaller investors, many firms are offering MLP funds—but these present other hazards, including high fees, credit risk or an extra layer of tax.
"Some MLP funds severely compromise the tax efficiency they tout," says Robert Gordon, head of Twenty-First Securities in New York, a tax-strategy firm.
For example, many funds devoted to MLPs are unlike regular mutual funds and ETFs that pass through income. Because of their special holdings, they owe taxes as a C-corporation would—so they owe taxes of 35%, unlike individual MLPs. This means that "$1 of MLP income turns into 65 cents before investors receive it," he says.
Such taxes often are deferred until later, but they are subtracted from the fund's net asset value so that all investors in the fund will bear them equally.
As a result, the reported expense ratio of such MLP funds can vary widely as their returns go up and down. In a boom year, the funds will accrue a whopping deferred tax liability. Recently, for example, the charge—which is passed along to investors in addition to the fund's expenses—has been equal to 3.07% of assets at the Global X MLP MLPA -0.04% ETF and 4% at the Alerian MLP ETF AMLP +0.23% .
This added cost also means that the funds' returns can vary widely from those of their benchmarks, with Alerian underperforming by roughly nine percentage points so far this year and Global X trailing by approximately 10 points. Conversely, in a falling market the deferred taxes will be added back to returns, helping these funds beat their indexes.
"You're going to see these things perform so differently from their indexes that investors will mostly be disappointed," says Dave Nadig, president of ETF analytics at IndexUniverse, a fund-research firm in San Francisco.
Jeremy Held, director of research at ALPS Advisors, which distributes the Alerian MLP ETF, says that such ETFs open the market to investors who otherwise couldn't afford to buy a sufficient number of MLPs to build a safe portfolio.
"We're very explicit in trying to explain [a tax liability] that is complex," says Bruno del Ama, chief executive of Global X.
The upshot? "There's no perfect vehicle for owning MLPs," says Nathan Kubik, an adviser at Carnick & Kubik in Greenwood Village, Colo. Instead, investors should weigh the pros of cons of each option. (For a list of questions to ask before buying, see the box on this page.)
Here is a guide to five ways to invest in MLPs.
Individual MLP Units
There are more than 100 energy-related MLPs with a combined stock-market value of more than $400 billion, according to the National Association of Publicly Traded Partnerships.
These can be a highly tax-efficient structure for investors with taxable accounts, but they often require complex record keeping.
Mr. Oliver, the San Antonio accountant, estimates that each K-1 annual report "could easily" add $150 to $200 in tax-preparation costs per year, or double that amount if the holding is sold, because of possible multistate filings.
Examples of individual MLPs include such well-regarded firms as Enterprise Products PartnersEPD +0.18% Magellan Midstream Partners MMP +0.67% and Plains All American Pipeline PAA +0.18% . Unlike with other investments, putting individual MLPs in a tax-favored retirement plan such as an IRA or Roth IRA won't resolve tax issues. That is because MLPs typically have more than $1,000 of unrelated business taxable income, which generates taxable income within an IRA and requires complex record keeping.
MLP I-Units
These MLP investments can offer tax efficiency to individual holders willing to forgo what some consider the chief attraction of MLPs, which is cash payouts. Two firms offer them: Kinder Morgan KMI -0.40% Management and Enbridge ENB -0.90%Energy Management, allied with MLPs Kinder Morgan Energy Partners KMP +1.21%and Enbridge Energy PartnersEEP +0.03% respectively.
Originally designed to attract tax-exempt institutions such as pension funds, these publicly traded corporations hold MLP units and make distributions to investors in the form of more shares instead of cash.
According to Mr. Gordon, the tax strategist, the corporation issuing I-units pays little to no U.S. income tax, and the payouts to investors aren't taxable until shares are sold. Profits on shares held longer than a year count as long-term capital gains, which are taxed at favorable rates.
The tax reporting for MLP I-units also is relatively simple in that taxpayers get a 1099 form when they sell shares, instead of a K-1 tax report.
MLP Funds Taxed as C-Corporations
This category includes ETFs, mutual funds and closed-end funds. Such funds offer diversification, tax-deferred or qualified dividend payouts, and relatively easy record keeping in the form of annual 1099 forms. If shares are held in a retirement account, there is no issue with unrelated business taxable income.
As described earlier, however, such funds incur a corporate-level tax of 35% on net income. It is borne by investors and can greatly increase annual expenses and make costs hard to predict.
In addition to the ETFs mentioned above—Alerian MLP and Global X MLP—options include ALPS/Alerian MLP Infrastructure Index A, a mutual fund, and First Trust MLP and Energy Income Fund, a closed-end fund. The Alerian ETF charges annual management fees plus deferred taxes that total 4.85%, or $485 on a $10,000 investment; total costs for the Global X ETF are 3.52%, while ALPS/Alerian MLP Infrastructure charges up to 1.85% and the First Trust closed-end fund charges expenses of 1.37% and has a deferred tax expense of 15.7%.
MLP Funds That Aren't C-Corporations
These MLP funds are like conventional mutual funds, offering diversification and generating 1099 tax reporting forms instead of K-1 reports. But they also are tax-efficient because they don't owe corporate-level taxes, and they pay out income and gains to investors as mutual funds do.
To maintain this tax-favored status, however, no more than 25% of such funds' assets can consist of direct MLP holdings. Some funds in this category have dealt with this constraint by making further MLP investments through subsidiaries.
In early August the Internal Revenue Service challenged such indirect holdings. This past week the sponsor of one closed-end fund in this category, Salient MLP & Energy Infrastructure FundSMF +1.38% said that if the IRS's proposal is adopted, it will comply by changing its holdings. Other funds in this category include Tortoise MLP & Pipeline Investor and Famco MLP & Energy Income.
The Salient fund charges annual fees of 2.25%, while the Tortoise and Famco funds cost 1.35% and 1.50%, respectively.
MLP Exchange-Traded Notes
These products, which include JPMorgan Alerian MLP Index and Credit Suisse MLP Index, aren't MLP funds at all. Instead, they are unsecured debt instruments designed to replicate the return of an MLP index.
As such, they are a simple way to get MLP exposure, because they issue 1099 forms and pose no problems in retirement accounts. The caveat: They aren't tax-efficient. The payouts are all ordinary income, taxed at federal rates of 43.4% for top-bracket investors, plus state taxes.
The J.P. Morgan and Credit Suisse notes charge annual fees of approximately 0.85%.
In addition, ETNs can be expensive to buy or sell and differ from other MLP investments because they expose holders to the credit risk of the issuer. Although this may seem a remote concern, it is a real one—as holders of Lehman Brothers' structured notes discovered.
According to Craig McCann, an economist with SLCG in Fairfax, Va., a financial consulting firm, in the aftermath of Lehman's demise in 2008, $18.6 billion worth of such notes were worth pennies on the dollar.

Before You Leap

Questions to consider before buying a master limited partnership or MLP fund.
• How will annual payouts be taxed?
• What portion of payouts are expected to be tax-deferred until I sell?
• Will this investment raise my tax-preparation costs?
• Will this investment require multistate tax filings and payments?
• Will I receive an annual 1099 form or a K-1 report?
• Could this investment generate taxable income if it is held in a retirement account?
• What are the tax consequences of donating this holding to charity or giving it to another person or entity, such as a trust?
• What happens if I die owning this investment?
• Does this MLP fund owe corporate-level taxes, and if so, how can I estimate their impact?
• Will my investment return be subject to the 3.8% net investment income tax?
• Is this investment subject to a sponsor's credit risk?
Posted on 6:51 AM | Categories: