REITS in Taxable Brokerage Accounts: Good or Bad

[Dividend Watcher]

SIL,

I'm a little confused here. You have a Roth IRA but you can only invest in mutual funds? Is it in a fund family such as Vanguard or Fidelity? You can have any number of Roth (or conventional) IRAs in different institutions as long as you don't contribute more than the statutory limit in any calendar year. You can even spread your contributions between institutions.

Would it not make sense to open a Roth at a brokerage, as the Vanguard representative replied, and transfer your mutual funds that you do have into it using a custodian-to-custodian transfer? Most brokerages allow you to hold funds as well as individual securities. Maybe I'm confused.

Regardless, I think Kerim's thoughts were spot on ...

(07-10-2015, 01:13 PM)Kerim Wrote: People prefer to have their REITs in the tax-deferred accounts because (generally) REIT distributions are taxed at your normal income rate, rather than at the lower rate that applies (generally) to dividends from non-REITs. This dynamic is exacerbated by the generally higher yields that REITs provide.

The non-qualified vs. qualified (respectively) dividend frustration.

From Pub. 550 over at IRS.GOV:

Quote:Qualified dividends are the ordinary dividends subject to the same 0%, 15%, or 20% maximum tax rate that applies to net capital gain. They should be shown in box 1b of the Form 1099-DIV you receive.

The maximum rate of tax on qualified dividends is:

• 0% on any amount that otherwise would be taxed at a 10% or 15% rate.
  
• 15% on any amount that otherwise would be taxed at rates greater than 15% but less than 39.6%.
  
• 20% on any amount that otherwise would be taxed at a 39.6% rate.
  

To qualify for the maximum rate, all of the following requirements must be met.

1. The dividends must have been paid by a U.S. corporation or a qualified foreign corporation. (See Qualified foreign corporation , later.)
   
2. The dividends are not of the type listed later under Dividends that are not qualified dividends .
   
3. You meet the holding period (discussed next).
   

Holding period. You must have held the stock for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date. The ex-dividend date is the first date following the declaration of a dividend on which the buyer of a stock is not entitled to receive the next dividend payment. When counting the number of days you held the stock, include the day you disposed of the stock, but not the day you acquired it.

REITs are specifically mentioned as non-qualified since they do not pay corporate income taxes as long as they distribute 90% (I believe) of their net income to shareholders.

(07-10-2015, 01:13 PM)Kerim Wrote: BUT, all that said, in my humble opinion, you should not be put off from holding REITs in a taxable account just because the tax treatment is not as favorable as for other dividends. Current income and tax treatment are usually not the end of the inquiry. For example, you may believe that some REITs are well-priced right now, giving you a better prospect of capital appreciation than other alternatives.

I agree, don't let the "tax tail" wag the investment "dog". Just because REIT non-qualified dividends don't qualify for the favored tax treatment, the realized capital gains still are.

However, to see the damage, let's assume it's a REIT valued at US$100 with a 5% yield or $5.00/share. Using your marginal tax rate of 25%, for every share your own, you'll owe the government $1.25 dropping the amount you actually keep in your pocket to $3.75 or 3.75% after-tax yield. Still not a bad yield point.

T pays you $1.88/share in dividends but they are "qualified" dividends. At your marginal rate, you would get the 15% dividend tax rate and end up with $1.60/share net dividend. This would drop your yield from 5.4% to 4.6% after-tax yield at the current share price.

(07-10-2015, 05:16 PM)stewardinlife Wrote: Kerim,

Thanks for taking the time to explain. When you say "shares of T" are you meaning AT&T stock, or a class of shares -- Sorry to ask this noob question.

I believe Kerim was referring to AT&T (stick symbol: T). Their dividend yield is up there in REIT territory.