Accordingly, they do not, as an entity, pay federal income taxes. This allows for a higher potential cash flow payout to unitholders. Unitholder's are required to report their share of MLP's income, gains, losses and deductions on their federal income tax returns even if cash distributions are not made. As a consequence, a unitholder's share of taxable income of an MLP, and possibly the income tax payable by the unitholder with respect to that income, may exceed the cash actually distributed to a unitholder. Cash distributions from MLPs reduce a unitholder's tax basis in the investment and are not taxable to a unitholder as long as the unitholder's tax basis in the MLP exceeds zero.
Distributions are taxable to the extent they exceed a unitholder's tax basis in the investment.
A unitholder's share of the MLP's taxable income is taxable to the unitholder and increases the unitholder's tax basis in the investment. This taxable income amount is reported to the unitholder in the individualized Schedule K-1 that is mailed annually to each unitholder in late February. Unitholders may also be subject to income tax reporting requirements in states in which the MLP has operations. Since MLPs generally pay more cash distributions than the amount of taxable income allocated, the tax basis of the unitholder is decreased by the difference between total cash received and taxable income reported. Cash distributions will become taxable if the unitholder's cost basis is reduced to zero.