Explaination of the REIT distribution requirements

Explaination of the REIT distribution requirements

What goes on When a REIT Fails to Meet Its Distribution Requirement?

To be able to maintain its status, a real estate investment trust (REIT) should distribute 90 percent of its taxable income (excluding internet capital gain and income from foreclosures but reduced by noncash earnings). Generally, only dividends actually paid during the taxable year are thought when performing this calculation. Certain events, such as the receipt of the large prepaid rent amount near the end of the taxes year, can cause a REIT to fail to meet the actual distribution requirement.

There are two provisions available to a REIT that does not meet its distribution requirement. These provisions result in the payment of what are commonly known as either year-end dividends or subsequent-year dividends (dividends paid in the following tax year but treated as distributed in the present year).

Section 857(b)(9) of the interior Revenue Code allows a REIT to treat dividends declared within October, November, or December, and payable to shareholders of record on the specified date within such months, to be deemed paid through the REIT on December 31 of the tax year. In purchase to qualify, these dividends must be paid during January from the following tax year. While this provision does not allow the REIT to change the quantity of the dividend, which has already been declared, it does allow a dividend paid in January to become considered as paid by December 31st of the prior 12 months.

Section 858 of the Internal Revenue Code provides even much more flexibility, allowing the REIT to elect a specified dollar amount of the dividend declared in the following year to be treated as having been paid in the present year. This is permitted provided that the dividend is paid prior to the due date of the REIT’s tax return, including extensions, and just before its first regular dividend made after such declaration for which subsequent year. These dividends are commonly referred to as “subsequent year” or even “spill-over dividends. ” The REIT shareholders would report these dividends in the year that they’re received by the shareholders.


Due to the fact that the REIT can reduce its taxable income in the current year by a dividend that won’t be recognized as income by the shareholder until the subsequent tax year, an interest charge will be assessed on the income reduction caused by the subsequent year dividend.

Dividends – Why Three Special Business Types Bring High Yields

In your search for solid dividend-paying businesses, you will frequently encounter three special kinds of corporations. They’ve chosen to organize themselves under federal laws that allow these phones avoid corporate taxation provided that they pay out, or deliver, the bulk of their profits to shareholders. For this cause, these companies appear frequently in lists of high-yielding dividend-payers. All three special types of companies have ticker symbols, and their stocks trade just as others trade.

Here is a primer on these three special business forms

Real Estate Investment Trusts (REITs)

REITs were developed by Congress in 1960. They come in two flavors: Most REITs tend to be essentially landlords, holding properties from office parks to apartments to departmental stores. A far smaller number of REITs are “mortgage REITs, ” involved with real estate financing.

To qualify as a REIT, a company must distribute at least 90 percent of its taxable income as dividends. Historically, most of the return from REITs has originate from these dividends, although many have delivered attractive price returns as well.

REITs are the only practical way for most individuals to purchase residential and commercial real estate developments. Real estate is often regarded as a distinct asset class (beyond the “big three” associated with stocks, bonds, and cash), so REITs offer the buyer some diversification benefits. Current dividend yields often are 5 to 8 percent or even more, right out of the gate for new buyers.

Note, REIT dividends don’t qualify for the 15 percent federal income tax rate of all dividends. They are taxed to the shareholder as ordinary earnings. That is because the earnings were not taxed at the actual corporation’s level.

Master Limited Partnerships (MLPs)

MLPs will also be a special form of structure. In fact, they are not corporations whatsoever, but partnerships. By law, their activities are limited to the actual production, processing, and transport of natural resources, plus some operations in property.

MLPs appear mostly in the oil and gas industry. They provide small investors a method to participate in pipeline partnerships and other oil and gas operations that otherwise wouldn’t be possible. Because the shares trade, beyond the partnership distributions addititionally there is the usual potential for capital gain or loss.

Every MLP includes a general partner which manages and controls the partnership. Shareholders in MLPs (technically “unit holders”) are limited partners within the enterprise. They own an interest in the assets of the company, which in turn entitles them to dividends and other distributions, and to benefit from depreciation of the assets of the business.

Taxation associated with MLPs was established in 1987 by Congress. The partnership doesn’t pay taxes itself, so the distributions sent to unit holders don’t qualify for the federal 15 percent cap on dividend earnings. However, not all of the distribution sent each quarter to unit holders is really a “dividend. ” Some of it is a return of the initial capital invested. The returned capital, in effect, reduces the cost basis of the investment (as if the shareholder had spent less per share to begin with). Returned capital is not taxed in the year it’s distributed, but it is taxed when the unit holder offers the shares. That is because there will appear to become more profit on the sale of the shares, since the returned capital through the years reduced the cost basis. So the returned capital is not really, as is sometimes stated, non-taxable; rather the taxation is deferred. Whenever you finally sell those shares, the taxation catches up to the administrative centre returned over time.

Because of their unique structure and taxes situation, MLPs must mail an IRS Schedule K-1 to each unit holder each year. This reports the unit holder’s share of the partnership’s taxable as well as non-taxable income, gain, loss, deduction, and credits. It is really not that difficult to cope with, and any competent tax preparer is familiar with K-1’s.

Company Development Companies (BDCs)

BDC’s were created by Congress in 1980 to assist provide capital to small businesses. They have been much within the news lately, usually under the term “private equity, ” as there has been dozens of recent deals in which companies have been “taken personal. ” That means that public companies-some of them quite large-have been bought within their entirety by private equity companies with huge amounts of funds at their disposal.

Many of these private equity deals happen to be made by companies which are truly private, but some of the private equity firms have themselves went public, becoming BDCs. (Never mind that the size and nature from the resulting entity and its investments may be far outside the initial purpose and spirit of the law. )#) When a personal equity firm is itself public, that means that the individual investor has an opportunity to participate in “big deals” that would otherwise not be feasible.

The law requires BDCs to at least annually distribute the majority of their net investment income and capital gains to shareholders. Thus they frequently have attractive dividend yields. As with REITs, these dividends aren’t subject to the 15% cap on dividend tax rates for his or her recipients. And since the shares of BDCs trade, there may be the potential for capital gain or loss associated with any open public company.

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