Unpleasant Tax Surprise for Thousands of IRA Holders

Unpleasant Tax Surprise for Thousands of IRA Holders

Imagine getting a letter in the mail telling you that you owe more than $24,000 in taxes, with about a fourth of that total being because of late penalties. That’s the kind of surprise that nobody ever wants to get.

However, that’s exactly what happened to one unsuspecting investor thanks to shares that he held in a master limited partnership through his Roth IRA; and he is not alone. Thousands of taxpayers who hold shares of master limited partnerships, or MLPs, are receiving the same kinds of notices.

While the amounts may vary, the nasty extra tax bill is shocking nonetheless. So why is this happening? It usually comes down to complicated tax rules that many people aren’t aware of when they invest in MLPs.

MLPs Come With Risks and Traps

Master limited partnerships usually produce, refine, store and transport energy and they normally send the majority of their earnings to their shareholders. They sound like very appealing investments, but they have some possible traps that all investors should be aware of, including hidden fees and taxes.

These hidden fees aren’t just catching investors off guard either. Many brokerage firms, as well as advisors, have also been surprised by these traps. The problems occur because even though IRAs have several benefits they also have some limitations.

Thanks to an anti-abuse provision, owners of IRAs that use them to invest in partnerships rather than stocks or bonds must pay taxes on some of the annual income earned by the MLP. This is called UBIT, or Unrelated Business Income Tax, which carries a top tax rate of 39.6 percent that kicks in at around $12,000 of taxable income.

IRA Custodians Must File the Form

To make matters worse, when this tax comes due, the IRA trustee must file and even sign the IRS form to report the income. That means the IRA owner will actually receive a signed document informing them of the tax, without any other notification. The owner, of course, is usually responsible for actually paying the tax as well.

It’s because of these rules that many experts advise investors not to put partnerships that are publicly traded into their IRA accounts. Unfortunately, however, many investors never get this warning and end up learning the hard way.

Even when IRA custodians fail to inform investors of these rules, the IRS still requires them to file the Form 990-T for all IRAs that have at least $1,000 of gross unrelated business income.

Ask GROCO for Advice

This is just one of the many kinds of tax rules that can catch a taxpayer off guard. Unfortunately while it might not seem very fair, it is the law and in the end the taxpayer will almost certainly be the one that has to pay the bill. Fortunately, these are the kinds tax traps that GROCO can help you avoid.

We make sure that you understand all the taxes that you will be responsible for when you invest, as well as with all other kinds of income and revenue. If you need help with your investment taxes, then please contact GROCO today at 1-877-CPA-2006.

We hope you found this article about “Unpleasant Tax Surprise for Thousands of IRA Holders?” helpful.

If you have questions or need expert tax or family office advice that’s refreshingly objective (we never sell investments), please contact us or visit our Family office page  or our website at www.GROCO.com.  Unfortunately, we no longer give advice to other tax professionals gratis.

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Alan Olsen, is the Host of the American Dreams Show and the Managing Partner of GROCO.com.  GROCO is a premier family office and tax advisory firm located in the San Francisco Bay area serving clients all over the world.

 

Alan L. Olsen, CPA, Wikipedia Bio

 

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