Tax Efficiency

I figured a little reflection was the order of the day as we recently completed tax season in the US, and yes, I had to pay for the first time in years. My initial take was Trump’s tax law did no favors to those of us on fixed incomes – rather tilting the scales to benefit the wealthy and to a lesser degree the working class – though there were winners and losers across the board. In preparation for next year’s fiasco, I’ve been attempting to ascertain some of the intricacies of the changes. Previously, I opined on the foreign tax credit remaining in place. Today’s revelation potentially turns conventional wisdom on REITs on its’ head.

Sage advice has typically been – with a few exceptions – REITs are best held in tax advantaged accounts, like IRAs. The new tax law adds a few wrinkles to this concept, which Justin Law outlines nicely. The essence of his piece is that Section 199A distributions now have a 20% deduction which may warrant a review how tax advantageous REITs are in ones tax deferred versus taxable portfolio. DGI darling Realty Income (O), recently reviewed by Tom at Dividends Diversify, could well be a poster child for this type of analysis as last year’s payouts were 77.1% Section 199A and the remainder Return of Capital. The delay in this week’s post was due to some difficulty in completing a review of the fourteen REITs in my portfolio.

Two of my REITs were excluded from this analysis as I have them classified as probable sales, Uniti as their dividend cut was likely a debt covenant issue and Lamar as their IRS reporting is not straightforward (the corporate filings differ from the filings on the shareholders’ behalf). As all of my REITs are in taxable accounts, using Justin’s generic template, they were first ranked by the new Section 199A exclusion.

  1. American Tower (AMT) 99.68%
  2. EPR Properties (EPR) 95.94%
  3. Washington RE (WRE) 91.89%
  4. Outfront Media (OUT) 86.10%
  5. Iron Mountain (IRM) 83.04%

The next tier combined Qualified dividends and Cap Gains as their tax treatment is similar (and not onerous):

  1. Duke Realty (DRE) 22.59%
  2. Kimco Realty (KIM) 18.29%
  3. Prologis (PLD) 17.33%

The one tier I need to keep an eye on is the Return on Capital with Vereit (VER) 86.17% and Crown Castle (CCI) 34.39%. This part of their distribution is tax deferred until sold or the cost basis reaches 0.

The ugly tier is the Section 1250 gains with a 25% tax rate.

  1. Spirit Realty (SRC) 49.2%
  2. Spirit MTA REIT (SMTA) 21.2%

I consider this to be a one-off due to the spin of SMTA from SRC. Kimco (26.94%) could fit in this category as well although my sense is that their portfolio repositioning is the culprit, but there are opposing views to mine.

Bottom line, I’m willing – even eager – to pay taxes. Yet the rules of the game reward those able to minimize the government’s share. While the key resides in understanding the nuances of the rules, I say, “Seek the rewards and let the games begin!”

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