I complete a number of tax returns for people every year, not because I love taxes, but because I think taxes are an important part of any person’s financial life. Every year I learn something new, and what I learn can often help my investment clients.
One of my tax clients has an investment manager who invested part of her portfolio in limited partnerships. Apparently he saw an opportunity to make some money for her with these oil-related investments. What I think he never considered is that each of those partnerships generates a Schedule K-1 to report taxable income or loss. This poor woman with a modest investment portfolio had more than 10 K-1s to report on her tax return, an unnecessary complication for someone with her resources.
Then I noticed an article in the Wall Street Journal that described a woman who owned a chunk of a Kinder Morgan limited partnership in her IRA. When Kinder Morgan changed its business status from a limited partnership to a corporation, that change in status resulted in capital gains for owners of the limited partnership. What surprised most people, including the woman who owned the limited partnership in her IRA, was that she had to pay tax on the capital gain, even though the investment was in her IRA, due to something called unrelated business income.
I don’t love taxes, but it sure is useful to know the tax consequences of any investment. That’s why I’m highly unlikely to invest in anything that generates a Schedule K-1. It would be a needless complication in your life.