When you are paid a dividend from an income-producing security, this income will be taxed at one of two different tax rates. The income will either be taxed at ordinary income rates or qualified income rates. It is important to understand the difference between ordinary and qualified rates because the tax rates differ substantially. For example, if you receive a $500 income distribution, you will pay more tax and therefore incur a greater loss if the tax rate on the income received is 37% (ordinary income) vs. 20% (qualified income).
There are two factors investors need to understand when determining whether their tax loss will be considered ordinary or qualified:
1) The type of security and what type of assets the security holds.
2) How long the security was held before being sold.
Ordinary Income: Income will be considered ordinary if one or more of the following conditions are met, and you receive an income distribution:
1) You are using DistributionRisk Analytics to analyze individual REITs or MLPs or an investment fund (mutual fund, ETF, etc.) that holds individual fixed-income securities, REITs, or MLPs. Any income generated from holding these types of securities will be considered “ordinary” for income tax purposes. It is important that you do your own research to determine the character of the income distributed by a security to determine whether the income should be classified as ordinary or qualified.
2) You are using DistributionRisk Analytics to analyze a corporate issue equity (like IBM, Apple, etc.), or you are analyzing an investment fund ( mutual funds, ETFs, etc.) that holds corporate issue equities, and you plan on holding this security for 60 days or less. If your holding period is 60 days or less, the income generated from this security will be treated as ordinary income for tax purposes.
Qualified Income: Income will be considered qualified income if the following condition is met and you receive an income distribution:
1) You are using DistributionRisk Analytics to analyze either a 1) corporate issue equity or 2) an investment fund that holds corporate issue equities, AND you plan on holding this security for 61 days or longer. If your holding period is 61 days or longer, the income generated from this security will be treated as qualified income.
Since DistributionRisk Analytics cannot determine how long you will own a security, it is important for you to understand your potential holding period so that you can determine your estimated tax loss.