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REITs, WHFITs and LPs — Oh, My!

These Investments May Cause Treasurers to Reach for Aspirin

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All the acronyms in the headline as well as royalty trusts are investments that can give a club treasurer headaches. The cause may be work-arounds in the accounting entries or special tax treatment, but consider the extra work for the treasurer before buying these investments.

Real estate investment trusts, or REITs, make distributions throughout the year. These payments consist of long-term capital gains, short-term capital gains and return of capital. The actual amount of each type is generally unknown until the club receives a 1099 form showing the amount of each. A stand-in entry is made until the full information is available. 
Clubs may not have the necessary information until early March, however, when REITs complete sending corrected 1099s. In addition, part of the long-term capital gain is the unrecaptured Section 1250 gain. This must be reported separately, adding another step to tax reporting, even with tax software.
Widely held fixed-income trusts, or WHFITs, probably aren’t well-known vehicles but include some exchange-traded funds. ETFs holding mortgages or precious metals are some ETFs that are WHFITs. The tax treatment of gains may not be the same as for stocks. For funds holding precious metals, the maximum rate is 28 percent, not the 15 percent for long-term capital gains on stocks. Current tax software doesn’t differentiate the gains on these investments. In addition, multiple transactions each month to account for fund expenses may be required.
Next are limited partnerships, which also include master limited partnerships. There are multiple headaches here. First, the partnership cost basis is handled differently than for stocks, so special work-arounds are needed to accomplish the accounting entries.
Second, as partnerships, LPs and MLPs aren’t required to issue a K-1 form until April 15. Finally, in a worst-case scenario, the club and all its members may be required to file tax returns in every state in which the limited or master limited partnership does business.
Royalty trusts are the final treasurer headache to consider. Some of the expenses of royalty trusts are depletion and depreciation. These cannot be entered directly into the accounting software. Depletion also reduces your cost basis.
When the trust is sold, however, any gain due to depletion basis reduction is treated as ordinary income. The accounting software currently cannot calculate the two types of gain from the sale of a royalty trust.

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