A REIT can be a great investment that can provide reliable earnings. However, taxation of your profits can be complex due to the unique business structure of REIT corporations. Using the calculator on this page, you can determine the best source of your REIT investment. You can decide if it will make more financial sense to invest with your retirement savings or use ordinary capital. All you have to do is add few details about your REIT returns and tax filings. Then, you can estimate the tax equivalent distributions between taxable and non-taxable accounts. You can even see how your returns are impacted by a return of capital and how to report it on your tax return.
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What is a Real Estate Investment Trust?
Real Estate Investment Trust
is a company that purchases real estate to make a regular income. REITs give small investors access to income producing property assets. Much like mutual funds that deliver access to diversified stocks. In the same way, REITs must provide distributions to their investors.
REITs offer diverse portfolios that consist of many different types of real estate. This makes them appeal to more conservative investors. Typically, portfolios can include private and commercial properties such as:
malls or retail spaces
The investment firm can profit from their property assets in many ways. As an example, they can make an income through occupancy rates or financing repayments. They can rent, lease, or sell their properties. Then, the company distributes their earnings to investors. Due to the broad range of funds sourced by the REIT, estimating the tax liability from the distributions can be complicated. The type of account the earnings go into, whether taxable or tax-deferred, can further influence your tax implications, along with your annual income.
Using this calculator on this page, you can quickly evaluate the tax equivalent distributions (TED) between a taxable portfolio and retirement account, so you can make a reasonable decision about your investment.
REITs and retirement plans
Due to growing rental prices and the appreciation of real estate in many regions, these types of investments tend to be more insulated from market fluctuations. The variables that may impact stocks usually don’t affect REITs. This can be attractive to individuals that want to use their retirement savings for their investment.
There are many tax advantages to owning REITs inside retirement accounts such as
. These types of account offset the rules surrounding REITs in taxable accounts because of the way these accounts are structured.
Using this calculator you can examine the tax equivalent distributions of investments from qualified pension plan.
REITs and taxable accounts
Given the tax liabilities, REITs tend to receive more advantages in retirement accounts. However, REITs can still provide a good investment opportunity for investors using an ordinary savings plan. The returns would be limited, when compared to tax-deferred plans, but could be good option to diversify your portfolio. Individuals producing less income or with simpler taxation affairs may benefit more from using a taxable investment, than high income producing investors.
How are REITs taxed?
REITS source their income from many different sources. Due to this, earnings can be subject to
varying levels of taxation
. Tax is highly dependent on the structure of the investment and how the distributions are declared.
Legally, REITs have to pay out 90% of their taxable income to their investors in the form of dividends. REITs are given a special tax designation to reduce their corporate taxes and are not treated in the same way as stocks, which also pay out dividends. Since REITs are not taxed at the corporate level, much of the burden falls on the shareholder.
Distributions are typically a mix of ordinary income, capital gains, and a return of capital. Each type of distribution is taxed differently. Each year, investors will receive a tax form (1099-DIV) that puts their distributions into different categories. Let us review how to complete this form together.
: marked in box 1a of the 1099-DIV tax form. As mentioned before, REITs pass much of their tax obligation on to their investors. The majority of dividends will be treated as ordinary income. This part of the earnings will be taxed at your
marginal income rate
, minus any qualified dividends.
: marked in box 1b of the 1099-DIV tax form. When the remainder of earnings from a REIT are taxed, an after-tax portion can get distributed to its shareholders as a qualified dividend. This profit needs to be subtracted from your ordinary income to estimate taxes accurately. Qualified dividends are given a preferential tax rate of
As an example, box 1a reports $500 while box 1b reports $300. The $300 is taxed at 15%, but the remaining $200 ($500-$300 equals $200) is taxed at your marginal rate.
: marked in box 2b of the 1099-DIV tax form. When you decide to sell your shares, any profits you gained from the sale will be listed here. The tax rate of your earnings depends on how long you held the asset with the REIT. Securities held for less than a year are taxed at your
regular income tax rate
. Meanwhile, assets held longer than a year receive a tax break at
15% or 23.8%
depending on your annual income.
Return of capital
: marked on box 3 of the 1099-DIV tax form. A REIT can sell an asset, for instance, a medical complex. When this happens, they can reinvest your capital in another property or return part of your investment. Proceeds that are returned lessen the cost basis of your shares and are
For example, box 3 shows a return on capital of $2 per share. It reduces the initial cost basis of your shares by that amount. If you had paid 8$ per share, your new cost basis would be 6$ per share. When you eventually sell your shares, you have to pay capital gains on your profits.
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How to use the calculator
The REIT tax equivalent calculator is very easy to use. It is made up of two parts: an information section, and a results section. The accuracy of your results can vary based on the information you provide. Let’s go over this together, starting with your distributions.
: On the first line of the calculator you should document your REIT distribution before taxes. This is your annual rate of return on your investment.
: Then, identify what portion of your distribution is a return of capital. You can use the arrow functions to make even this easier.
: On the next line of the calculator you should add your estimated taxable annual income. This is your income after any deductions to get your marginal tax rate.
: Finally, please select your federal tax filing status from the choices provided.
: Please proceed to your results.
Once your information is added to the calculator, the system will generate a report for you. There are different smart prompts and graphs to show you the tax equivalent distributions.
To the right of the information, fields is a prompt highlighting your income tax rate. A significant portion of your investment can be taxed at this rate when the REIT is in a taxable account.
Below the data inputs, is another prompt comparing the distributions. Here we illustrate the difference between a taxable and non-taxable account. You can view what rate of return will provide equal benefit between the accounts. For example, if you receive a 6% return to a taxable account, the profits would be comparable to making a 7.25% return using taxable capital.
There is a graph displaying your tax equivalent distributions as well. You can see your distribution before taxes in green, next to the value after taxes in blue. The red shows you what return is required from a fully taxable investment. This means receiving a 7.25% return on a taxable account can result in 5.5% net profits when your annual income is $100,000.
With this information you can decide which source of capital is a better investment based on your current taxation affairs.