It’s amazing what can happen when a corporation has a slew of professionals that do nothing but make sure that their tax bill is very low- zero would be ideal.  Oh, I know, we all want to pay the lowest amount of taxes- but companies like GE have managed to pay no taxes, in spite of their profits.

But, GE is just an amateur when compared with other firms.  Because of a vagary in the regulations, signed into law by President Eisenhower. Knowing as we do how things get ‘slipped’ into bills, it should not surprise you that the section I will take about is contained in the Cigar Excise Tax Extension of 1960.

A Real Estate Investment Trust (REIT) lets folks invest in real estate the same way they invest in conventional companies.  The REIT pays dividends (90+% of their taxable income) to its investors before paying any income taxes- and the dividends reduce the income of the entity, so typically no income tax is due.

Any firm that owns real estate that produces income can become a REIT by filing Form 1120-REIT– and, voila, no corporate income tax.  For about 3 1/2 decades, these entities really were just that- real estate companies that rented their buildings and created income for the investors.   REITS (there are about 1000 of them right now) were primarily office buildings, hotels, apartments, and retail landlords.

But, that is no longer the case.  For example, CBS (the media conglomerate) plans to spin off its billboard entity (CBS Outdoor).   This entity, which rents its billboards, will then file 1120-REIT, distribute its profits at dividends to the stockholders and cease paying income tax. They are not the first- Lamar Advertising, another billboard owning company has done this already.

But, how about a prison company?  Yes, the  Corrections Corporation of America, with its 44 prisons and $ 77 million to be saved in taxes, claims that it “rents” the prison cells and is, therefore, allowed to reformulate as a REIT.  As is Penn National Gaming Inc- which owns the casinos that rents out the games. (Actually, they formed a tax-paying firm that runs the games and pays rent to the parent that is a REIT- leaving little profits in the gaming firm, after expenses and paying rents.)  These non-conventional REIT’s are being joined by cell-tower firms, self-storage facilities, and timber (lumber) companies- and maybe firms like McDonalds.

These entities are highly desired by those top 5% of Americans that are at or near retirement age.  The dividends the REIT’s provide yield a return on equity of some 20% (at least that’s what they did in 2012)- and have been besting the Standard & Poor’s Index for about four years now.

Except, now they have garnered the attention of the House Ways and Means committee.  These REIT’s are about to become the primary target of tax reform.  Because collecting the tax revenues that have been avoided (or about to be avoided) by these firms will reduce the tax burden on the middle class and help reduce the deficit.  (And, now that Max Baucus has announced he is not running for re-election, he decided to focus his efforts- and his committee’s- on fixing the tax code, too.)

Of course, REIT industry professionals claim that the dividends are already highly taxed at 39.6% (2013 and beyond), for the wealthy stockholders.  Yet, if these firms really paid corporate taxes, those individual rates would be 20%- 35% (assuming we really close the tax loopholes) AND the dividends would also be taxed at 20% or higher.

This won’t be the first time that Congress slammed a tax haven shut.  30 years ago, a slew of companies claimed they were master limited partnerships (and, therefore, tax exempt).  But, with a flick of the pen, Congress changed the law and the Sahara (gaming and resort company) and the Boston Celtics were no longer MLP’s.  (About a decade later, the hotels found out that this didn’t work any more, either.)

Stay tuned…

Share this: