A Real Estate Investment Trust (REIT) is a SEC-Registered Investment Company that primarily invests in, and in most cases operates, income-producing real estate –
such as apartment buildings, shopping centers, commercial offices, hotels and
warehouses for shareholders. Some REITs also engage in financing real estate.
To qualify as a REIT, the investment company (organized under the Investment
Company Act of 1940) must have most of its assets and income tied to real estate
and must distribute at least 90% of taxable income to shareholders at least once
each year. A REIT is permitted to deduct dividends paid to shareholders from crporate taxable income. As a result, most REITs pay taxable income to sareholders to avoid owing corporate tax. Taxes are paid by shareholders on dividends received and any capital gains. Most states honor this federal tax treatment and do not require REITs to pay state income tax. Like other businesses, but unlike partnerships, a REIT cannot pass tax losses to shareholders.
For tax purposes, dividend distributions are allocated to ordinary income, capital
gain and return of capital, each may be taxed at a different rate. Like all publicly-traded investment companies, REITs are required early in the year to provide shareholders with information clarifying how prior year dividends are allocated for tax purposes. This information is distributed by each investment company to its shareholders on IRS Form 1099-DIV.
A return of capital is part of the dividend exceeding the REIT’s taxable income. A return of capital is not taxed as ordinary income. Rather, shareholder’s cost basis in the investment company is reduced by the distribution. When shares are sold, the excess of net sales price over the reduced tax basis is treated as a capital gain for tax purposes. A historical record of allocation of REIT distributions between ordinary income, return of capital, and capital gains is found in the prospectus, annual report, and other filings with the U.S. Securities and Exchange Commission. It’s important to analyze REITs in the context of a globally diversified portfolio. For more information about personal finance, contact Bryant Wealth Management, Inc.
Chris Bryant, MBA, RFC® is founder & CEO of Bryant Wealth Management, Inc., a Washington-State Registered Investment Adviser. Bryant provides independent, fee-only, financial planning services, investment supervisory services, and educational resources for individuals and small organizations. Chris is an award-winning speaker and author of the new book, Personal Financial Planning. Since 1999,
Chris has devoted his professional practice to helping people make money, save
money, protect money, have convenience, and peace of mind. Connect with Chris.
Chris Bryant is an American financial advisor.