K-1 Basis Tracker for MLP Investors

When you buy shares of Apple or Microsoft, your broker tracks your cost basis accurately. When you sell, the 1099-B matches reality. Simple.

MLP units don't work that way.

Every year, your MLP sends you a Schedule K-1 instead of a 1099-DIV. That K-1 contains income, losses, deductions, and distribution data that adjusts your cost basis — but your broker never sees the K-1. The broker only knows what you originally paid.

Here's what that looks like over time:

After five years, your actual IRS-compliant adjusted basis is approximately $2,920. Your broker's 1099-B still shows $6,000.

If you sold at $18/unit ($9,000 proceeds), your broker would report a gain of $3,000. The IRS would expect you to report a gain of approximately $6,080. That's a roughly $3,000 discrepancy — and part of that gain gets taxed at ordinary income rates up to 37%, not the 15–20% capital gains rate you might expect (see Section 3 on §751 recapture).

This isn't a bug. It's how MLPs are designed. The IRS Partner's Instructions for Schedule K-1 (Form 1065) state that partners must maintain their own basis records. No one does this for you — not your broker, not TurboTax (which tracks suspended losses but not basis), and not the MLP itself.

This tool exists to help you track the number the IRS actually cares about.

MLP distributions are not dividends. This is the single most important thing to understand about MLP taxation, and the thing most investors get wrong.

When Apple pays you a $0.96 dividend, it's a distribution of company profits. You pay tax on it that year. Your cost basis doesn't change.

When an MLP pays you a quarterly distribution, it's cash from the partnership. Here's what actually happens at the IRS level:

Two separate things hit your tax return each year:

First, the K-1 allocates taxable income and deductions to you. Box 1 shows your share of partnership ordinary income or loss. Other boxes show interest, dividends, capital gains, rental income, deductions, and credits. If you have net income, it increases your basis. If you have net losses and deductions (typical for midstream MLPs because of large depreciation deductions), it decreases your basis.

Second, the partnership pays you cash distributions. Box 19A on your K-1 shows what you received. These distributions reduce your basis dollar for dollar (IRC §733), but are not themselves taxable as long as they don't exceed your remaining basis.

The basis erosion happens because distributions almost always exceed net income for midstream MLPs. The MLP earns enough cash to pay distributions, but its taxable income is much lower than its cash flow because of large depreciation and depletion deductions. You receive more cash than is offset by income allocation, so your basis declines each year.

There is no separate "return of capital" line item on the K-1 or on the IRS basis worksheet. "Return of capital" is simply the common name for the net effect of distributions exceeding taxable income.

What happens at zero basis

Under IRC §731, if the partnership distributes cash exceeding your remaining basis, the excess is recognized as capital gain in that year — even though you haven't sold anything. Your distributions shift from tax-deferred to immediately taxable.

When you sell shares of stock, the gain is capital gain — taxed at 0%, 15%, or 20%. Straightforward.

When you sell MLP units, the gain is split into two pieces under IRC §751:

Piece 1: Ordinary income from "hot assets." The MLP owns physical infrastructure — pipelines, storage tanks, processing plants. These assets are depreciated, and that depreciation flows through to you as deductions. When you sell, the IRS "recaptures" that depreciation. The portion of your gain attributable to cumulative depreciation is recharacterized as ordinary income — taxed at your regular rate, up to 37%.

Piece 2: Capital gain on the remainder. Whatever remains after the §751 ordinary income is capital gain, taxed at the preferential long-term rates (assuming held longer than one year).

Critical detail most investors miss: You can owe §751 ordinary income even when you have an overall capital loss on the sale. If the unit price dropped but you still have depreciation recapture, the Sales Schedule may show ordinary income alongside a capital loss.

The §199A Deduction: A Partial Offset

The Section 199A qualified business income (QBI) deduction allows a 20% deduction on qualified PTP income. This can meaningfully reduce the tax bite on §751 ordinary income and on ordinary K-1 income each year you hold.

The One Big Beautiful Bill Act (OBBBA), signed July 4, 2025, made the §199A deduction permanent. For 2026 and beyond, the deduction rate remains at 20%. Income phase-out thresholds have been expanded (approximately $200,000 single / $400,000 MFJ for 2026). Since midstream MLPs are not "specified service trades or businesses," MLP investors below the phase-out get the full 20% deduction.

Your K-1 reports §199A information in Box 20 Code Z (qualified PTP income, with W-2 wages and UBIA broken out on the supplemental statement that accompanies code Z). The actual deduction calculation happens on your personal return (Form 8995 or 8995-A). Note: Box 20 Code AE is a separate §163(j) framework (Excess Taxable Income flowing to Form 8990), not §199A. See Section 7 for how to enter Code Z in TurboTax and H&R Block.

If you own Energy Transfer (ET), you receive one K-1 package. But inside that package, buried in the supplemental information, is data for three separate publicly traded partnerships:

1. Energy Transfer LP — the parent
2. USA Compression Partners (USAC) — a compression services MLP that ET controls
3. Sunoco LP (SUN) — a fuel distribution MLP that ET controls

The IRS treats each PTP as a completely separate "canister" for passive activity purposes under §469(k). That means:

• A loss from ET parent cannot offset income from USAC
• Suspended losses from SUN cannot be released by selling ET units alone
• Income and losses cannot be netted across entities — they are separate activities on your return

When entering your ET K-1 in tax software, each sub-entity must be entered as a separate K-1 with its own EIN. The supplemental schedules break out each entity's values. Use those breakdowns, not the combined totals page.

MPLX, EPD, PAA, and WES are typically single-entity K-1s. But always check the supplemental information to confirm.

Every K-1 package includes a State Schedule showing income allocated to each state where the MLP operates. For Energy Transfer, this can mean allocations in 15–20+ states.

How state thresholds work

States fall into roughly three categories:

Composite returns — the potential shortcut

Some MLPs file composite returns in certain states on behalf of all limited partners. If included, the MLP pays state tax on your behalf. Whether your MLP files composite returns varies by MLP, state, and sometimes position size. Check your K-1 package or call Tax Package Support.

Practical advice

For most retail MLP investors with positions under $50,000, state-level allocations are typically very small. Focus on: your home state (always file), any state where allocation exceeds $1,000, and the year you sell — when gain is allocated across states and amounts become much larger.

TurboTax (Premier or higher required)

1. Navigate to Federal → Wages & Income → S-corps, Partnerships, and Trusts
2. Select Schedule K-1 (Form 1065) as the type
3. Enter partnership details from Part I of K-1: name, EIN, address
4. Check "This partnership is a Publicly Traded Partnership (PTP)" — critical for §469(k) rules
5. Select all boxes that have amounts (typically Box 1, 19, 20, and others)
6. Enter each value as shown on your K-1
7. For Box 20: Select Code Z (§199A QBI) and AE (PTP). Enter values from K-1 supplemental — this is how you claim the 20% §199A deduction
8. For Energy Transfer: Repeat for each of the three sub-entities using each entity's separate EIN

H&R Block (Premium & Business or Self-Employed)

Navigate to Federal → Income → Partnerships and S Corporations → Schedule K-1 (Form 1065). The entry flow is similar to TurboTax: enter partnership details, check PTP status, then enter box-by-box values.

General Principles (Any Software)

• Form 8949 basis override: When selling, your broker's 1099-B shows the wrong basis. Use Code B (short-term) or Code E (long-term, basis not reported) and enter your correct adjusted basis.
• §751 on Form 4797: The Sales Schedule from your K-1 shows the §751 ordinary income amount. This goes on Form 4797 (Sales of Business Property), not Schedule D.
• Suspended losses on Form 8582: If you dispose of your entire PTP interest, all suspended losses release. TurboTax handles this automatically if you've entered K-1s consistently each year.

1. Wait for the final K-1. Do not file until you receive the K-1 for the year of sale. It includes a Sales Schedule with your §751 breakdown.
2. Total gain. Sale proceeds ($45,000) minus adjusted basis ($14,200) = $30,800.
3. §751 ordinary income. From the Sales Schedule: $12,500 of ordinary income. Report on Form 4797.
4. Capital gain. Total gain ($30,800) minus §751 ($12,500) = $18,300 LTCG. Report on Form 8949 with Code E, using $14,200 adjusted basis.
5. Release suspended losses. Full disposition triggers §469(g) release of all $3,800 in suspended passive losses.
6. §199A deduction. If below the income phase-out, claim the 20% QBI deduction on qualified PTP income from your final K-1.

Some MLPs provide sale estimate calculators on taxpackagesupport.com. Those use the partnership's unified basis and give a single-number estimate. This tool adds: multi-year tracking, what-if scenarios, §751 range estimates (conservative/moderate/aggressive), and lot-level history. Use both as a sanity check.

If you purchased MLP units at different times, each purchase has a different starting basis and holding period. When you sell less than your full position, which units you sell matters.

What the partnership does (unified basis)

Under Revenue Ruling 84-53, a partner has a single "unified" basis in their total partnership interest. When the MLP calculates your Sales Schedule (including the §751 split), it uses this unified, per-unit approach. The §751 ordinary income is the same per-unit amount regardless of which lots you selected.

What you control (basis allocation)

Two approaches practitioners use:

• Unified per-unit basis: Divide total adjusted basis by total units. Simpler, consistent with the partnership's Sales Schedule.
• Lot-level basis: Track each purchase lot separately. More complex but may produce different capital gain amounts because lots purchased at different prices have different per-unit adjusted bases.

Practical steps

1. Tell your broker which specific lots to sell before placing the order
2. Get written confirmation of the lot selection
3. Keep this confirmation for IRS documentation
4. Recognize that the §751 amount on your Sales Schedule won't change based on lot selection
5. Consult a tax professional if the basis difference between lots is large

Holding until death: the basis step-up

Under current law (IRC §1014), when a unitholder dies, MLP units receive a step-up in basis to fair market value at the date of death. This eliminates all built-in capital gain — the years of basis erosion effectively disappear. However, suspended passive losses in excess of the step-up are deductible on the decedent's final return. For investors with large unrealized gains and low basis, holding until death can be the most tax-efficient approach.

MLPs in IRAs: the UBTI problem

If you hold MLP units in an IRA, the MLP's operating income can generate Unrelated Business Taxable Income (UBTI). If UBTI across all your retirement accounts exceeds $1,000, the IRA trustee must file Form 990-T and pay tax from the IRA. UBTI information appears in K-1 Box 20 Code V. Most midstream MLPs generate negative UBTI in normal operating years, but a major asset sale or merger can cause a UBTI spike.

Partnership mergers and conversions

MLPs occasionally merge or convert to C-corporation structures. Most MLP mergers are taxable events for unitholders, potentially creating a large tax bill even without cash proceeds. When a merger or conversion happens, the K-1 package for that year will include specific instructions. Follow those instructions carefully and consider consulting a tax professional for the transition year.

Every year when your K-1 arrives (typically mid-March for most MLPs), follow these steps:

1. Check the date. K-1s cover the calendar year. Make sure you're looking at the right tax year.
2. Check Part II. Verify your name, address, and SSN/TIN are correct. If wrong, contact Tax Package Support immediately.
3. Check Item K (liabilities). Note beginning and ending totals for each category. You need these for Lines 3 and 9 of the worksheet.
4. Check Box 1. This is your ordinary income or loss. For midstream MLPs, this is typically negative (a loss), driven by depreciation.
5. Check Box 19A. This is your cash distributions. Confirm it matches what you received in your brokerage account.
6. Check Box 20 for §199A data. Look for Codes Z, AB, and AE. These are the ingredients for your QBI deduction. If missing, contact Tax Package Support.
7. Check supplemental information. For ET: look for sub-entity breakdowns (ET, USAC, SUN). For all MLPs: look for the state allocation schedule.
8. Enter the data into the K-1 Basis Tracker. Use Quick Mode (4 fields) or Detailed Mode. Confirm your ending basis.
9. Export your data. Download a backup JSON file. Store it with your tax records.
10. File your taxes. Enter K-1 data in your tax software (see Section 7). Remember: each PTP sub-entity is a separate K-1 entry.

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