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Two Ways to Foil the Taxman

11/18/2010 1:00 pm EST


Neil George

Editor, Profitable Investing

Neil George, editor of By George, recommends two income plays shielded from corporate taxes.

Taxes are a certainty and continue to be part of the investment gauntlet. While many might hope that hikes in federal tax rates for income, qualified dividends, and capital gains will be nixed, don’t completely rely on it.

And even if we do get lucky and sidestep any federal tax hikes, there’s still plenty of damage coming from the state and local level. Tax receipts for state and local authorities are strongly on the rise. In fact, just in 2010, 29 states have hiked tax rates, amounting to more than $24 billion. And nationwide, with states’ budget gap estimated to be running at over $136 billion, increased taxes and fees are almost a bankable certainty.

So, let’s talk about some prudent and profitable trades that will not only perform but also counter higher taxes.

Pass-through securities come in various flavors and acronyms including master limited partnerships (MLPs), limited partnerships (LPs), general partnerships (GPs), limited liability companies (LLCs), and other structures.

But what they all have in common is that they avoid double taxation of dividends. All profits are paid out and thus passed through to shareholders—who then are liable for taxes.

In addition to the profits passed through are many of the write-downs—including depreciation costs—which are referred to as “return of capital.” This means that for just about all pass-throughs, the dividends are sheltered either fully or in part when it comes to investors’ tax liabilities.

The market for these stocks has continued to crush the Standard and Poor's 500. During the past five years, the Alerian MLP Index is up nearly 100%, while the S&P has [dropped] in price.

There [is] a growing collection of ETFs and funds beginning to take notice of various sectors within this group. But they tend to underperform the group—even those supposedly tracking the index.

That doesn’t mean that there aren’t some easy individual pass-throughs to buy to help pay for your retirement. I’ll mention [a couple] that not only perform but outgun the index and every pass-through ETF, while also paying well enough to deliver high returns with or without probable higher tax rates.

Linn Energy (Nasdaq: LINE) is a quality liability-averse pass-through paying 7.3%. [The oil and gas producer] focuses on established fields in the south-central US, as well as in Southern California. Its return since coming to the market in 2006 is more than 130%.

One newer pass-through to buy is a dry-bulk shipping company focusing on high-contract demand routes in the Pacific. Navios Maritime (NYSE: NMM) pays nearly 9% and, since coming to the market in late 2007, has delivered a return in excess of 40%.

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