MLP Parity Act and Renewables

Introduction to MLPS

A Master Limited Partnership (MLP) is a publicly traded partnership with a tax structure that enables it to attract low-cost capital. The main attraction of an MLP from an investor’s point of view is that MLPs don’t pay corporate income tax. Profits are passed directly to unitholders via regular distributions. Profits from conventional corporations are taxed at the corporate level, then a second time via the personal income tax on distributed dividends. In contrast, MLP distributions are taxed just once, at the individual level.

But MLP distributions aren’t immediately fully taxed either. In fact most of the distribution — typically 80 to 90 percent — is classified as a return of capital under the depreciation allowance, which subtracts capital depreciation from net income to account for the fact that assets like pipelines and wells lose value over time.

The depreciation allowance lowers the immediate tax bill but also the cost basis of the MLP investment, resulting in a larger capital gain when the MLP is sold. Over time the tax-deferred income can be invested elsewhere, allowing investors to compound returns that would have otherwise been taxed, while also earning a steady stream of income. This has made MLPs an extremely popular income investment.

The partnerships, in turn, gain access to a broader pool of stable capital to finance projects. There are currently more than 100 publicly traded MLPs representing some $445 billion in capital. Approximately $400 billion has gone into qualifying energy and natural resource projects, and much of that — perhaps 80 percent — into midstream projects such as oil and gas pipelines. These midstream MLPs usually derive most of their income from fee-based businesses, insulating them from the volatility of the commodity markets and allowing them to maintain a predictable income stream.

Master Limited Partnerships Parity Act

A little over a year ago, legislation was introduced to expand the universe of MLPs to include a number of renewable energy technologies. The Master Limited Partnerships Parity Act (MLPPA) was sponsored in the Senate by Sen. Chris Coons (D-DE) and in the House by US Rep. Ted Poe (R-TX).

The summary of the MLPPA (S.795, H.R.1696) reads:

Master Limited Partnerships Parity Act – Amends the Internal Revenue Code, with respect to the tax treatment of publicly traded partnerships as corporations, to expand the definition of “qualifying income” for such partnerships to include income and gains from renewable and alternative fuels (in addition to fossil fuels), including energy derived from thermal resources, waste, renewable fuels and chemicals, energy efficient buildings, gasification, and carbon capture in secure geological storage.

The bill seeks the same tax treatment for renewable energy partnerships as that given to fossil fuel partnerships. When Congress legislated the rules for publicly traded partnerships in 1987 it required that at least 90 percent of an MLP’s income must come from qualified sources, such as real estate or natural resources. Section 613 of the tax code requires qualifying energy sources to be depletable resources or their derivatives such as crude oil, petroleum products, natural gas and coal.

Recent case-by-case Internal Revenue Service rulings have expanded the range of activities qualifying for MLP treatment. The MLP Parity Act would further expand the definition of “qualified” sources to projects involving wind and solar power, as well as closed and open loop biomass, geothermal, municipal solid waste, hydropower, marine, fuel cells, and combined heat and power.

The bill has bipartisan support, but some Republicans have indicated they would only support the MLPPA if certain renewable energy subsidies — namely the current Production Tax Credit (PTC) and the solar Investment Tax Credit (ITC) — are eliminated. The ITC is a 30 percent federal tax credit for solar systems on residential and commercial properties, in effect through the end of 2016. The PTC is a tax credit paid for each kilowatt-hour (kWh) of renewable electricity produced. The PTC provides 2.3 cents per kilowatt-hour (¢/kWh) for wind, geothermal, and closed-loop biomass systems, and 1.1¢/kWh for other eligible technologies (typically through the first 10 years of operation).

Republicans argued that the MLPPA would merely place another layer of subsidy on top of these tax breaks. Senator Coons opposed eliminating the PTC and ITC in exchange for support on the MLPPA, and the bill has been stuck in committee since (which is where the previous incarnation of this bill died after being introduced in the 112th Congress).

MLPPA Benefits

Now the Union of Concerned Scientists (UCS) — one of the 235 groups urging passage of the MLPP — has weighed in with an analysis that estimates the bill would expand the investor base for renewable energy and lower the cost of financing projects by 40 percent or more. The analysis further estimates that lower financing costs would reduce the all-in cost of generating electricity from wind projects by 1.2 cents per kilowatt-hour, or about 40 percent of the value of the PTC for wind power.

Citing a 2012 study by the National Renewable Energy Laboratory (NREL) that estimates that $50 billion to $70 billion per year in capital investment would be required to increase non-hydro renewables to 30 percent of US electricity generation by 2025, UCS estimates that this level of funding could be achieved with a shift of 0.7 to 1 percent of the total portfolio of the $15 trillion US mutual fund market and the $11 trillion U.S. defined-benefit pension market.

Projects with attractive, long-term power purchase agreements (PPA) could work well as MLPs, similar to a midstream pipeline operator with long-term fee-based contracts. Solar, wind, geothermal, biomass combustion — all of the current commercially available renewable power production options — could benefit greatly from MLP status.

Under the scenario modeled by the UCS, if approximately 20 percent of all MLPs were renewable energy MLPs, that would provide the estimated capital needed to make the shift to 30 percent renewable US electricity generation over the next decade. This is an ambitious target to be sure, but an approach that is preferable in my view to the current system of arbitrary and inconsistent subsidies.

Conclusions

While this bill would seem to be a no-brainer, the prognosis for passage isn’t good. The odds of passage got even longer when Sen. Coons left the Senate Energy and Natural Resources Committee for the Senate Appropriations Committee. The bill still has a champion in Senate Finance Chairman Ron Wyden (D-Ore.), but he has to weave together a compromise between those who want existing subsidies to be removed, as well as with those who want to eliminate the MLP structure altogether.

But it’s going to require Congress to come together and compromise. One obvious compromise is to phase out the PTC and ITC over the next decade, or reduce them in exchange for support for the act. Allowing this bill to die in committee — as the previous Congress did — isn’t an acceptable outcome. This is a simple way, that already has bipartisan support, to give renewable energy projects the same access to cheap capital that some fossil fuel companies enjoy. Democrats should love the renewable piece of this, while Republicans should love the fact that it is being paid for by lowering taxes.

It is a no-brainer. If you agree, express your support for this bill to your representatives.

Link to Original Article: The MLP Parity Act is a No-Brainer

Photo Credit: Renewables and MLP Parity/shutterstock