A Real Estate Investment Trust (REIT) is a company that generally invests in real estate. These companies do not pay tax on their income, provided they distribute at least 90% of their profit to their shareholders as dividends. Depending on the type of REIT, this income is generated by rent payments, proceeds of the sale, and loan repayments.
What are Qualified Dividends?
A dividend is a distribution of a corporation’s earnings to its shareholders, and dividends can be either ordinary or qualified. Ordinary dividends are taxed at the state and federal income tax rates, and qualified dividends are taxed at 0%, 15%, or 20%, depending on an investor’s tax bracket.
According to the United States Internal Revenue Code, a dividend must:
- Have been paid by a U.S. corporation qualified foreign corporation
- Not be explicitly excluded from this category by the IRS
- Meet the required holding period
The holding period is defined as 60 days within a 121-day period at least 60 days before the ex-dividend date. The exception to this applies to preferred stock.
The category of qualified dividends first appeared in the Jobs and Growth Tax Relief Reconciliation Act of 2003. Before the passing of this act, there was no separation of dividends classes. All dividends were taxed at the same rate.
What are the Benefits of Being a Qualified Dividend?
A qualified dividend is taxed at a lower rate under capital gains tax rates. These tax rates typically range from 0%, 15%, or 20%, but vary by tax bracket. These rate differences mean there is a substantial opportunity for savings when paying taxes on qualified dividends versus ordinary dividends.
It’s necessary to retain your stocks for the designated holding periods, which some people view as a disadvantage. However, the potential difference in your capital gains rate may be an incentive to pursue qualified REIT dividends.
How Do I Qualify?
To be eligible for a qualified dividend tax rate, you must have owned stock during the qualifying period, usually 60 days for common stock and 90 days for preferred stock.
If it is preferred stock, then the stockholder must have held it for more than 90 days in the last 181 days. This period starts 90 days before the stock goes ex-dividend. This will only apply where dividends are due for a period exceeding 367 days.
If the dividends fail to meet the criteria set out in the Code, tax is levied by considering the date the dividend was paid and the taxpayer’s ordinary income bracket. The portion of a REIT dividend classified as income may be eligible for preferential tax treatment.
The Tax Cuts and Jobs Act (TCJA) provides a 20% deduction for pass-through business income, including a qualified REIT dividend. However, this deduction will end in 2025.
Non-U.S. residents may be subject to a 30% withholding tax on their REIT income. However, exemption or a reduced rate may be applicable if there is a tax treaty (such as a double taxation treaty) between the U.S. and their country of residence.
How Do I Report Qualified Dividends?
The Form 1099-DIV you receive from your broker will show the REIT dividends in box 1B. You will now have to obtain forms 1040 or 1040A and fill in line 9B to report the qualified dividends you earned in that tax year.
This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation. There is no guarantee that companies that can issue dividends will declare, continue to pay, or increase dividends. A REIT is a security that sells like a stock on the major exchanges and invests in real estate directly, either through properties or mortgages. REITs receive special tax considerations and typically offer investors high yields, as well as a highly liquid method of investing in real estate. There are risks associated with these types of investments and include but are not limited to the following: Typically no secondary market exists for the security listed above. Potential difficulty discerning between routine interest payments and principal repayment. Redemption price of a REIT may be worth more or less than the original price paid. Value of the shares in the trust will fluctuate with the portfolio of underlying real estate. There is no guarantee you will receive any income. Involves risks such as refinancing in the real estate industry, interest rates, availability of mortgage funds, operating expenses, cost of insurance, lease terminations, potential economic and regulatory changes. This is neither an offer to sell nor a solicitation or an offer to buy the securities described herein. The offering is made only by the Prospectus.