Rev. Rul. 64-292

Advice has been requested whether amounts of a real estate investment trust's income, which are used to pay the amortization of mortgages and amounts required by Federal Housing Administration regulations to be kept in cash reserves to replace depreciable equipment reduce real estate investment trust taxable income for purposes of determining the 90 percent distribution requirement of section 857(a)(1) of the Internal Revenue Code of 1954. If not, advice is requested whether the distribution requirement can be met by distributing a nontaxable stock dividend equivalent to the amounts paid on amortization of mortgages and into cash reserves.

Section 857(a)(1) of the Code and section 1.857-1 of the Income Tax Regulations provide, in effect, that a real estate investment trust will be taxed as an ordinary corporation unless, during the taxable year, it pays to its shareholders, in the form of dividends, at least 90 percent of its real estate investment trust taxable income.

The term dividend, as defined in section 316 of the Code, means any distribution of property made by a corporation to its shareholders out of earnings and profits accumulated after February 28, 1913, or out of its earnings and profits of the taxable year. As used in section 316 of the Code, the term property means money, securities and any other property, except that the term does not include stock in the corporation making the distribution. See section 317 of the Code.

However, section 316 of the Code further provides that, to the extent that any distribution is treated as a distribution to which section 301 of the Code applies, such distribution will be treated as a distribution of property. Stock dividends are treated as distributions to which section 301 of the Code applies only if they come within one of the categories described in section 305(b) of the Code. Nontaxable stock dividends coming within the provisions of section 305(a) of the Code are not treated as distributions of property.

Section 857(a)(1) of the Code is unequivocal in its requirement that 90 percent of a trust's real estate investment trust taxable income must be distributed to shareholders during the taxable year. Since the Code does not provide for a deduction for amounts paid to amortize mortgages or amounts set aside to meet cash reserve requirements, such amounts do not reduce the ordinary taxable income of the real estate investment trust.

Accordingly, it is held that amounts of a real estate investment trust's taxable income which are used to meet cash reserve requirements and amortize mortgages do not reduce the trust's taxable income for purposes of determining the amount which must be distributed in order to meet the 90 percent distribution requirement of section 857(a)(1) of the Code.

Thus, if more than 10 percent of a real estate investment trust's ordinary taxable income were not distributed to shareholders during the taxable year, the trust would be taxed as a corporation and not as a real estate investment trust.

It is further held that, since a nontaxable stock dividend paid by an issuing organization does not qualify as a distribution of property for purposes of section 316 of the Code (relating to the definition of dividends), the distribution of such a nontaxable stock dividend by a real estate investment trust will not qualify as a dividend distribution for purposes of section 857(a)(1) of the Code.