IRS: REIT consolidated for SEC reporting is publicly offered

Tax Hot Topics newsletterThe IRS issued a private letter ruling (PLR 201924003) on June 14 ruling that a real estate investment trust (REIT) that is consolidated with a parent REIT for purposes of SEC reporting requirements is a publicly offered REIT, and thus did not distribute a preferential dividend under Section 562(c)(1).

The taxpayer in the PLR was a corporation that has made an election to be taxed as a REIT. A publicly offered REIT, within the meaning of Section 562(c)(2), had a controlling interest in the taxpayer.

The parent and taxpayer were consolidated under Generally Accepted Accounting Principles (GAAP) for purposes of the annual and periodic reports that the parent was required to file with the SEC. For purposes of the consolidated financial statements that the parent filed with the SEC, the taxpayer was disregarded as a separate entity.

The taxpayer made a pro rata distribution to its common stock holders at a time when its new management team believed the common stock was its only outstanding stock. However, management later learned that there was preferred stock that was outstanding at the time of the distribution. According to the terms of the preferred stock, the accrued but unpaid dividends were required to be paid first or simultaneously with any distribution on the common stock. On a subsequent date, the taxpayer made a distribution on its preferred stock.

Section 857(b)(2)(B) general allows REITs a deduction for dividends paid during a tax year. Section 561(a) defines the deduction for dividends paid to include dividends paid during the taxable year. Section 561(b) applies the rules of Section 562 to identify dividends eligible for the Section 561(a) dividends paid deduction.

Except in the case of a publicly offered REIT, Section 562(c) provides that: (i) the amount of a distribution will not be considered in computing the dividends paid deduction unless the distribution is pro rata; (ii) the distribution must not prefer any shares of stock of a class over other shares of stock of that same class; and (iii) the distribution must not prefer one class of stock over another class except to the extent that one class is entitled to that preference.

Treas. Reg. Sec. 1.562-2(a) further provides that a preference exists if any rights to preference inherent in any class of stock are violated, and that the disallowance of the dividends-paid deduction extends to the entire amount of the distribution. Therefore, unless the taxpayer was considered a publicly offered REIT, it would not have been allowed the dividends-paid deduction because the distribution to common-stock holders would have violated the preference inherent in the preferred shares.

Section 562(a)(2) defines a publicly offered REIT as a one that is required to file annual and periodic reports with the SEC. Due to the fact that the taxpayer was consolidated with the parent for purposes of annual and periodic reporting requirements with the SEC, its assets, income, loss and other activities were reported to the SEC. Therefore, the IRS ruled that it was a publicly offered REIT and the distribution was not a preferential dividend under Section 562(c)(1).

Jeff Borghino
Washington National Tax Office
T +1 202 521 1532

Jack Stringfield
Senior Associate
Washington National Tax Office
T +1 202 521 1518

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