The Money Mustache Community
Learning, Sharing, and Teaching => Investor Alley => Topic started by: randomstring on March 21, 2014, 05:39:39 PM
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I am looking at getting some REITs for my next Roth IRA contribution (it will be a backdoor conversion, if this makes a difference). Googling various REIT things, it came up that I may be liable for taxes on
any some gains/dividends. Despite the fact that this is a Roth IRA account.
So: what is the actual tax liability of REITs in Roth IRA. How do I make sure I don't choose the one that's tax liable? Are they worth it at all or should I go with REIT ETF instead?
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All investment gains in Roth IRA's are non taxable if withdrawn at retirement age.
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I think this is the point of my confusion: if an investment (even in Roth IRA), generates UBTI (Unrelated Business Tax Income), it must be reported and considered a taxable event (true? IRS publication 598 is the doc that seems to cover this: http://www.irs.gov/publications/p598/index.html (http://www.irs.gov/publications/p598/index.html))
So, a more refined question: do REITs ever generate a UTBI, and if so which ones?
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Yeah this the big exemption. Most REITs don't generate UTBI. I would say non due but I am sure one does:) UTBI is mainly only an issue for MLP (master limited partnership).
I think this is the point of my confusion: if an investment (even in Roth IRA), generates UBTI (Unrelated Business Tax Income), it must be reported and considered a taxable event (true? IRS publication 598 is the doc that seems to cover this: http://www.irs.gov/publications/p598/index.html (http://www.irs.gov/publications/p598/index.html))
So, a more refined question: do REITs ever generate a UTBI, and if so which ones?
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Thanks for bringing this up. I wasn't aware of this potential problem, and I think I own some of this crap in my IRA.
I found a relevant article:
IRAs and 401(k)s are subject to taxes on a special type of income called unrelated business taxable income, or "UBTI." Generally speaking, the distributions paid by MLPs are likely to be considered UBTI. If an IRA or 401(k) earns more than $1,000 of UBTI annually, the UBTI income above $1,000 is subject to tax even if the securities are held in a retirement account.
Think about the implications of this tax rule. If your retirement account earns more than $1,000 per year in UBTI, you've essentially just eliminated the tax advantage (single taxation rather than double taxation) of your retirement account! For that reason, it is usually a good idea to hold MLP common units in a taxable account rather than a retirement account.
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We're getting into some real esoteric financial devices. If you're debating on investing in something that you are not sure if it qualifies as UBTI or not I would encourage a great deal of either education or hire someone. For most REIT investments in a Roth IRA you will not be paying taxes on the gains and dividends. Maybe keep it KISS until you know more.
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Yeah if you've ever bought MLPs before in a taxable account, you'll see that most of them don't generate very much 'income.' It's amazing the accounting wizardry they do to lower the investor's taxable income on the K-1.
As far as holding MLPs in a retirement account, it's true that the rules say UBTI over $1k is taxable. However, I'd like to know the number of investors that would actually have that much in MLPs to do it. A prudent investor that is not an industry expert would never hold more than 5-10% of their account in MLPs. If those MLPs on average are distributing 5%, you'd need a $20k investment to generate that kind of UBTI. If MLPs are 10% of your account, that means you'd need an account of $200k before worrying about UBTI.
Honestly I don't know if this is much of an issue for a lot of people on this board.
In reality, I'd be surprised if your broker/retirement account even keeps up with UBTI. And beyond that, good luck finding two people at the IRS that even knows what the acronyms MLP and UBTI mean. My grandfather, who spent his career as a tax accountant for oil and gas pipeline companies, finally realized he would never be audited by the IRS because nobody there understood it. He holds crazy amounts of MLPs in his IRAs and just pays the taxes when he takes out the money like normal.