Jeff Glickman and Jennifer Weiss were quoted in an article featured on taxanalysts.com discussing practical tax considerations for working with REITs.
When discussing federal taxations of REITS, Weiss explained, “For federal tax purposes, REITs are taxed as corporations. That technically means that REITs are taxed first at the entity level and then at the shareholder level.” “However,” she said, “REITs function as hybrid entities in that they are taxed as pass-through entities as long as they comply with the requirements to maintain their REIT status.”
Weiss explained further, “To enable them to avoid corporate-level taxation, REITs are permitted to deduct dividends paid to shareholders from their corporate taxable income, and because REITs are required by law to distribute at least 90 percent of their taxable income to their shareholders each year, with most REITs distributing 100 percent of their taxable income, this means that REITs effectively avoid federal income tax.”
“REITs will, however, be subject to corporate-level tax on what is left after their annual distributions,” she noted. “That is, if a REIT chooses to distribute 90 percent of its taxable income, it will become subject to corporate-level tax only on the remaining 10 percent.”
When discussing taxation on the state level, “some states deviate from the federal rules,” said Glickman. “Some states have chosen to limit or modify the DPD. For example, New Hampshire imposes an entity-level tax on REITs without subtracting the dividends paid,” he explained. “It is also important to note that even if the DPD is allowed, some states require that the REIT and any qualified REIT subsidiaries (QRS) file income tax returns. There also are states, such as Mississippi, where the DPD is allowed only if the REIT is publicly traded.”
According to the article, another concern for REITs is the variety of alternative taxes being imposed by states. Even though REITs may not pay federal or state income tax at the entity level because of the DPD, states may impose franchise, gross receipts or net worth taxes on the REIT and the QRS.
Glickman explained, “…more and more states are using alternative taxes such as gross receipt taxes. In these states, REITs will be a part of the taxpaying structure like any other corporation.”
“For example,” Glickman said, “the commercial activity tax in Ohio does not provide a DPD for REITs.”