Tax Type
Corporation Income Tax
Description
Real Estate Investment Trust
Topic
Computation of Income
Date Issued
03-30-1987
March 30, 1987
Re: Request for Ruling; Income Tax
ACRS modifications
Dear *****************
This is in response to your letter of October 31, 1984, and a conference held on April 9, 1985. I apologize for the delay in responding.
The taxpayer is a corporation which qualifies as a Real Estate Investment Trust (REIT) under I.R.C. §856. Under federal law a REIT is allowed a deduction for dividends paid to shareholders. Thus most REITs will have no federal taxable income because all income will have been distributed to the shareholders as dividends.
Virginia law requires corporations, including a REIT, to add back 30% of federal ACRS deductions and to subtract a portion of the ACRS additions in later years. The taxpayer points out that a REIT will usually not have any taxable income to be offset by the ACRS subtraction.
You state that the taxpayer and most other REITs elect straight line recovery over an extended period. Therefore, although the taxpayer is not receiving an "accelerated" cost recovery, it will be required to make the ACRS addition and will not receive any benefit from the ACRS subtraction.
The taxpayer requests a ruling to the effect that:
1. The REIT will not make the ACRS addition or subtraction specified in Virginia Code §58.1-323.
2. The REIT will report to the department and to its shareholders the proportionate shares of the ACRS modifications.
3. The shareholders of the REIT will be required to make the addition and claim the subtraction as reported by the REIT.
RULING
The REIT is essentially requesting that it be treated in the same manner as other conduit, or pass through, entities such as estates, trusts, partnerships and S corporations. Unfortunately there are very significant differences between REITs and the other conduit entities mentioned above.
Federal law provides that the beneficiaries, partners or shareholders of the conduit entities shall be taxed on the income of the conduit and also provides that the character of each item of income, gain, loss and deduction of the conduit shall retain the same character in the hands of the recipient. I.R.C. §§652 (beneficiaries of trusts), 662 (beneficiaries of estates and trusts), 671 (trust income attributable to grantor), 702 (partners) and 1366 (S corporation shareholders).
The pass through mechanism for a REIT is different. Under I.R.C. §857 a REIT deducts dividends paid to shareholders in computing its federal taxable income. The only pass through of the character of income allowed is that the REIT may designate a portion of the dividend as a capital gain dividend.
Virginia law follows the federal definitions of items of income, gain, loss and deduction. Thus Virginia law has specific provisions dealing with the modifications which individuals must make with respect to income from estates, trusts and partnerships. Virginia Code §§58.1-322 E., 58.1-325, 58.1-360 et seq. and 58.1-390.
There is no provision in federal law requiring or permitting a REIT shareholder to report the character of income as anything other than dividends and capital gain dividends. There is no provision in Virginia law requiring the REIT to report anything other than federal taxable income and capital gain income, subject to certain adjustments not relevant to the issue at hand. Most importantly, there is no Virginia provision requiring or permitting the shareholder of a REIT to make any ACRS modifications pertaining to REIT income.
Thus there is no provision in Virginia law which would allow the REIT to "pass through" the ACRS modification to its shareholders nor is there any provision which would require a shareholder to make any modifications based upon reports from a REIT.
The fact that a REIT may not actually receive an "accelerated" cost recovery due to elections under the accelerated cost recovery system has no effect on the ACRS modification required. See Report of the Attorney General 1982-1983 at page 503 (copy of opinion enclosed).
Accordingly, a REIT must make the ACRS addition even though it will probably never receive any benefit from the ACRS subtraction in later years. As you are probably already aware, The Virginia Tax Reform Act of 1987 (1987 Acts of Assembly, ch. 9, HB 1119) (copy enclosed) repeals the ACRS addition for taxable years beginning on and after January 1, 1988. Thus, the REIT will only have to make the ACRS addition for the taxable years 1982 through 1987.
Sincerely,
W. H. Forst
Tax Commissioner
Rulings of the Tax Commissioner