REAL ESTATE INVESTMENT TRUSTS

S 6 T H CONGRESS

2d Session

) HOUSE OF REPRESENTATIVES J j 1

REPORT

No. 2020

REAL ESTATE INVESTMENT TRUSTS

JUNE 28, 1960.—Committed to the Committee of the Whole House on the State of the Union and ordered to be printed

Mr.

MILLS,

from the Committee on Ways and Means, submitted the following

REPORT
[To accompany H.R. 12559] The Committee on Ways and Means, to whom was referred the bill (H.R. 12559) to amend the Internal Revenue Code of 1954 to provide a special method of taxation for real estate investment trusts, having considered the same, report favorably thereon with amendments and recommend that the bill as amended do pass. The amendments are as follows: Page 1, strike out lines 3 and 4. Page 1, line 7, after "chapter 1" insert "of the Internal Revenue Code of 1954". Page 4, line 16, strike out "share" and insert "shares". Page 5, line 3, after "years;" insert "and". Page 7, line 12, strike out " ( b ) , " and insert "(c),". Page 7, line 15, after "accrued" insert ", directly or indirectly,". Page 8, line 9, strike out "person." and insert "person; and". Page 8, lines 11 and 12, strike out "trust or association" and insert "real estate investment trust". Page 8, line 15, strike out "or association". Page 9, strike out lines 6 to 11, inclusive, and insert: For purposes of paragraphs (2) and (3), the rules prescribed by section 318(a) for determining the ownership of stock shall apply in determining the ownership of stock, assets, or net profits of any person; except that '10 percent' shall be substituted for '50 percent' in subparagraph (C) of section 318(a)(2).

49006—60

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Page 13, strike out line 23 and all that follows through line 18 on page 14, and insert: '
"(c) RESTRICTIONS APPLICABLE TO DIVIDENDS R E C E I V E D

F R O M R E A L ESTATE INVESTMENT TRUSTS.—For purposes of

section 34(a) (relating to credit for dividends received by individuals), section 116 (relating to an exclusion for dividends received by individuals), and section 243 (relating to deductions, for dividends received by corporations), a dividend received from a real estate investment trust which meets the requirements of this part shall not be considered as a dividend. "(d) E A R N I N G S AND P R O F I T S . — T h e earnings and profits of a real estate investment trust for any taxable year (but not its accumulated earnings and profits) shall not be reduced by any amount which is not allowable as a deduction in computing its taxable income for such taxable year. For purposes of this subsection, the term 'real estate investment trust' includes a domestic unincorporated trust or association which is a real estate investment trust determined without regard to the requirements of subsection (a). Page 16, line 2, after "chapter 1" insert "of the Internal Revenue Code of 1954". Page 16, line 15, after "chapter 1" insert "of such Code". Page 16, strike out lines 16 and 17 and insert: by inserting—
and real estate investment trusts

after—•
Regulated investment companies.

Page Page Page Page Page Page Page

16, line 18, after "Section 11(d)(3)" insert "of such Code". 16, line 21, after "Section 34(c)" insert "of such Code". 17, line 8, after "Section 116(b)" insert "of such Code". 17, line 18, after "Section 243(c)" insert "of such Code". 17, line 21, strike out "any" and insert "Any". 18, line 1, after "Section 318(b)" insert "of such Code". 18, strike out lines 7, 8, and 9, and insert:
(6) section 856(d) (relating to definition of rents from real propererty in the case of real estate investment trusts).

Page 18; line 10, after "Section 443(d)" insert "of such Code". Page 18, strike out lines 13 and 14, and insert:
(5) The taxable income of a real estate investment trust, see section 857(b)(2)(D).

;

Page 18, line 15, after "Section 1504(b)(6)" insert "of such Code". Page 18, strike out lines 18 and 19, and insert:
SEC. 3. E F F E C T I V E D A T E .

The amendments made by sections Land 2 of this Act shall apply with respect to I. SUMMARY STATEMENT H.R. 12559 provides substantially the same tax treatment for real estate investment trusts as present law provides for regulated investment companies. Real estate trusts are organizations -specializing

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in investments hi real estate and real estate mortgages, while the regulated investment companies specialize in investments in stocks and securities. Under present law regulated investment companies , which distribute 90 percent or more of their ordinary income are taxed only on their retained earnings. Thus, the distributed earnings of these companies are taxed only to the shareholders. This same type of tax treatment is accorded by this bill to real estate investment * trusts. This bill restricts this "pass through" of the income for tax purposes to what is clearly passive income from real estate investments, as contrasted to income from the active operation of businesses involving real estate. This bill has been reported unanimously by your committee and the Treasury Department has indicated that it has no objection to the assage of this bill. II. REASONS FOR THE BILL In the case of regulated investment companies, individuals desiring to invest in stocks and securities pool their funds by buying shares in investment companies, which in turn invest these resources in stocks and securities of operating companies. These companies investing in stock and securities are known as regulated investment companies if they meet various requirements with respect to asset diversification, capital structure, and operations. Such companies if they distribute at least 90 percent of their ordinary income are taxed only on then- undistributed income. Dividends paid by such companies generally are taxed in the usual manner to shareholders, except that dividends arising from capital gains realized by the company receive capital gains treatment in the hands of the recipient and dividends, which to an important degree are attributable to interest or other nondividend income, are, to the extent of that portion of the distribution by the regulated investment company, not eligible for the dividends received credit, exclusion, or deduction. The omission of the corporate income tax in the case of distributed earnings, which present law provides for regulated investment companies, secures for investors in these companies essentially the same tax treatment as they would have received if they had invested directly in the operating companies. H.R. 12559 extends this same type of tax treatment to real estate investment trusts specializing in investments in real estate equities and mortgages as distinct from the stock and security holdings of regulated investment companies. - Thus this secures for the trust beneficiaries the same type of tax treatment, they would receive if they held the real estate equities and mortgages directly and, therefore, equates their treatment with t h a t .accorded investors in regulated investment companies. Your committee believes that the equality of tax treatment between the beneficiaries of real estate investment trusts and the shareholders of regulated investment companies is desirable since in both cases the methods of investment constitute pooling arrangements whereby small investors can secure advantages normally available only to those with larger resources. These advantages include the spreading of the risk of loss by the greater diversification of investment which can be secured through the pooling arrangements; the opportunity to * secure the benefits of expert investment counsel; and the means of

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collectively financing projects which the investors could not undertake singly. In addition to providing equality of tax treatment between the trust beneficiaries and the investment company shareholders, your committee believes it is also desirable to remove taxation to the extent possible as a factor in determining the relative size of investments in stocks and securities on one hand, and real estate equities and mortgages on the other. This is particularly important at the present time because of the shortage of private capital and mortgage money for individual homes, apartment houses, office buildings, factories, and hotels. At the present time the financing of these real estate equities and mortgages is dependent largely on Government-guaranteed money, and investments b y special groups, such as insurance companies and pension trusts I t has sometimes been argued that real estate investment trusts differ from regulated investment companies in that the income of the latter already has been subjected to income tax while the income of the former has not. This refers to the fact t h a t the dividend income of the regulated investment company already has been taxed as a p a r t of a corporation's income before it was received by the regulated iavestment company while the rental income received by the real •estate trust has not. This overlooks the fact that the interest income of regulated investm e n t companies, as well as their capital gain income, has not previously been subjected to the corporate income tax. Moreover, this interest income is an important element in the portfolios of these companies. This absence of a prior tax in the case of a significant portion of the income of regulated investment companies demonstrates that the concept of a regulated investment company is not to impose, or retain, any specified number of taxes with respect to income, b u t rather, to accord individuals of small means an opportunity to pool their investments in one of these companies, yet receive the same treatment as those of greater wealth can obtain by direct investments. As is pointed out in the next part of this report, H.R. 12559, to the full extent feasible, makes the requirements and conditions now applicable to regulated investment trusts, applicable to the real estate investment trusts. In addition, your committee has also taken care to draw a sharp line between passive investments and the active operation of business, and has extended the regulated investment company type of tax treatment only to income from the passive investments of real estate investment trusts. Your committee believes t h a t any real estate trust engaging in active business operations should continue to be subject to the corporate tax in the same manner as is true in the case of similar operations carried on by other comparable enterprises. III. GENERAL EXPLANATION OF THE BILL A. Definition of Real Estate Investment Trust 1. General requirements.—In general terms, real estate investment trusts are defined as unincorporated trusts or associations meeting certain general requirements and, in addition, meeting a series of requirements as to amounts of various types of gross income and as to types of investments.' Most of these requirements are similar to

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requirements now applying in the case of regulated investment companies but are adapted to real estate, rather than stock, investments. The general requirements include provisions that the trusts be managed by trustees, have transferable shares or certificates of beneficial interest, and that they be a type of organization which would be taxed as an ordinary domestic corporation in the absence of the provisions of this bill. These are the commonly accepted characteristics of real estate trusts. The bill also provides t h a t : the beneficial ownership of qualifying real estate trusts must be held by 100 or more persons; the trust, apart from the nature of its gross income, must not be a personal holding company (i.e., no five individuals may directly or indirectly own more than 50 percent of the trust); it must elect to be treated as a real estate investment trust; and it may not hold any property primarily for sale to customers in the ordinary course of its trade or business. Three of the above requirements are similar to conditions which must be met by regulated investment companies. The 100-or-more ownership test, is substantially the equivalent of a requirement which regulated investment companies must meet in complying with the Investment Company Act of 1940. The test which requires the trust not to be a personal holding company, apart from the gross income requirement, also is derived from the requirement that a regulated investment company may not be a personal holding company. I n addition, the provision as to the election is substantially the same as a provision applying at present to regulated investment companies. The requirement that the trust not hold property primarily for sale to customers in the ordinary course of its trade or business is designed to make sure that the trust does not engage in an active business enterprise. Another provision of this type is discussed further below. 2. Income requirements.—The income requirements, all of which must be met by a qualifying real estate trust, are divided into three categories. The first of these tests provides that 90 percent or more of a trust's gross income must be of the type specified if it is to qualify. The types of income which qualify for the 90-percent test are dividends; interest; rents from real property; gains from the sale of stock, securities, and real property; and abatements and refunds of taxes on real property. This provision is substantially the same as the present 90-percent test provided for regulated investment companies, except for the addition of the various types of income derived from real property. The second income test provided for real estate trusts is entirely new; there is no corresponding provision for the regulated investment companies. Under this test at least 75 percent of the trust's income must, in one manner or another, be derived from real property. The types of income within the 75 percent category include rents from real property, interest on obligations secured by mortgages on real property, gain from the sale of real propert} 7 , dividends and other distributions from other real estate trusts qualifying under this bill, and abatements and refunds of taxes on real property. The interaction of the 90-percent and 75-percent tests requires a t least 75 percent of the trust's income to be derived from real property; another 15 percent must be derived either from real property or from

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sources from which a regulated investment company would be required to derive most of its income. The third income requirement is concerned with relatively shortterm gains from the sale of property. This test provides that short-term gains on security sales and gains on the sale of real property held for less than 4 years (apart from involuntary conversions) must represent less than 30 percent of the trust's gross income. This • provision is somewhat similar to a provision in present law applying to regulated investment companies. The 30 percent in the case of the trust applies to sales of real property held for less than 4 years and to sales of securities held for less than 6 months, while that for regulated investment companies in present law applies only to sales of securities held for less than 3 months. The application of the 30 percent limitation in the case of gross income which may be derived from the sale of real property held for less than 4 years, in conjunction with the general requirement t h a t the trust must not hold any property primarily for sale to customers in the ordinary course of its' trade or business, will give assurance of qualifying little, if any, income from trading in real property, thus substantially restricting these transactions to sales of investment property. 3. Investment requirements.—Two tests as to the nature of their investments must also be met by qualifying real estate investment trusts. Both of these tests are somewhat similar to tests which must be met by regulated investment companies. The first test is designed to give assurance that the bulk of the trusts' investments are in real estate: this requires that 75 percent of the value of its assets be in real estate assets, cash and cash items and Government securities. The second test is designed to provide diversification in any of the trust investments other than the real estate assets (or cash, cash items, or Government securities): this test requires that not more than 25 percent of the value of the trusts' assets may be represented b y securities (other than those described above) of any one issuer in an amount greater in value than 5 percent of the trusts' total assets and not more than 10 percent of the voting securities of the issuer. Rules are provided to make sure that a real estate trust does not become disqualified under these investment tests because of changes in values of property after acquisitions. The rules also provide that where disqualification otherwise would occur because of the purchase of property this disqualification can be overcome if the investment tests are met within 30 days after the close of the calendar quarter in question. 4-. Definition of rents from real property.—One of the principal purposes of your committee in imposing restrictions on types of income of a qualifjang real estate investment trust is to be sure that the bulk j of its income is from passive income sources and not from the active conduct of a trade or business. This, for example, accounted for the limitation in the general provisions providing that the trust must not hold any property primarily for sale to customers in the ordinary course of its trade or business. This interest in restricting the income of the trust to that of a passive nature also accounts for two of the restrictions provided in the definition of "rents from real property." This definition is important because such rents are one of the principal types of income allowed under the 90-percent and 75-percent gross income tests.

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One of the restrictions provided to limit this income to that of a passive nature, specifies that rental income from real property does not include amounts received from such property where the determination of this amount depends in whole or in part on the income or profits derived from the property. This gives assurance that no profitsharing arrangement WTII in effect make the trust an active participant in the operation of the property. An exception to the general rule is provided for amounts based on a fixed percentage or percentages of receipts or sales since these are customary types of rental contracts and are not generally considered related to the profit or loss of the lessee. Generally speaking, therefore, rents received from real property would not be disqualified solely by reason of the fact that the rent is based on a fixed percentage of total receipts or sales of the lessee. A second restriction, intended to limit the definition of rents from real property to those of a passive nature, excludes from the definition amounts where the trust directly furnishes or renders services to the tenants or manages or operates the property. However, the bill permits these services, or management or operation of the property to be provided through an independent contractor. The independence of the contractor is assured by providing t h a t : The trust may not receive any income from the contractor; the contractor may not own more than a 35 percent interest in the trust; and not more than 35 percent of the stock (or voting power) of a corporate contractor (or interest in the assets and profits if not a corporation) can be held by a person or persons holding a 35 percent or greater interest in the trust. Still a third restriction provided in the case of rents from real property excludes from the definition of rents amounts received from any person if the trust has an interest of 10 percent or more in the assets or profits of that person. This prevents the avoidance of the restrictions described above with respect to rents from real property through the device of setting up a related organization. I t also forecloses the opportunity of any substantial relationship between the trust and the business of any tenant. B. Taxation of Real Estate Investment Trusts and Their Beneficiaries As has been previously indicated, this bill provides the regulated investment company type of tax treatment in the case of real estate investment trusts which distribute 90 percent or more of their ordinary taxable income (exclusive of net long-term and short-term capital gains). Any amount in excess of the 90 percent which the trust retains, however, is to be subject to the regular corporate income tax. The real estate investment trust taxable income which is distributed will be taxable to the beneficiaries as ordinary income. No dividend received deductions, credits or exclusions will be allowed even for the portion of the trust income receiyed as dividends, since the purpose of these provisions is to encourage* the investment in rental real estate and real estate mortgages. Capital gains of the trust, however, to the extent they are distributed, are to be taxed at the beneficiary level as long-term capital gains rather than as ordinary income. No provision is made, however, to extend to real estate investment trusts the procedure, presently available for regulated investment companies, whereby capital gains which are not distributed can be taxed to the beneficiaries rather than to the trust-..

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As is similarity provided in the case of regulated investment companies, where a share or interest in a real estate investment trust is held for 30 days or less any loss on the sale or exchange of the share or interest, to the extent of any capital gain dividend received in the 30-day period, is to be a long-term capital loss. The treatment outlined above for real estate investment trusts is substantially that now provided in the case of regulated investment companies although there are several differences, such as the variations noted above in the treatment of dividend income and undistributed capital gains, and also the absence of any provision permitting companies specializing in foreign investments to pass on the benefits of any foreign tax credit to their shareholders. The provisions of this bill are to apply as of taxable years beginning after December 31, 1960. IV. TECHNICAL EXPLANATION OF T H E BILL This bill amends subchapter M of chapter 1 of the code by adding a part I I thereto which provides a special method of taxation for real estate investment trusts. New section 856(a) defines a real estate investment trust as an unincorporated trust or association (1) which is managed by one or more trustees, (2) the beneficial ownership of which is evidenced by transferable shares, or by transferable certificates of beneficial interest, (3) which (but for the provisions of this new pt. II) would be taxable as a domestic corporation, (4) which does not hold any property primarily for sale to customers in the ordinary course of its trade or business, (5) the beneficial ownership of which is held by 100 or more persons, (6) which would not be a personal holding company (a& defined in sec. 542) if all of its gross income constituted personal holding company income (as defined in sec. 543) and (7) which meets certain specified gross income and other requirements. Subsection (b) of section 856 provides that to qualify under subchapter M, the trust must meet the conditions described in items (1) through (4) above during the entire taxable year of the trust, while the condition described in item (5) must be met during a t least 335 days of a taxable year of 12 months, or during a proportionate part of a taxable year of less than 12 months. Under section 856(c)(1) the provisions of the bill will not apply unless the trust elects to be treated as a real estate investment trust. I t must also meet the gross income, diversification, and distribution requirements under section 856(c). The gross income requirements of section 856(c) are divided into three categories. First, under section 856(c)(2), at least 90 percent of the trust's gross income must be derived from dividends, interest, rents from real propertj^, gains from the sale or other disposition of stock, securities, and real property (including interests in real property and interests in mortgages on real property), and abatements and refunds of taxes on real property. This corresponds to the 90 percent income test provided for regulated investment companies. Under the second gross income test (provided by sec. 856(c)(3)) at least 75 percent of the trust's gross income must be derived from real property; that is, from rents from real property, from interest on obligations secured by mortgages on real property or on interests

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in real property, gain from the sale or other disposition of real property {including interests in real propert} 7 and interests in mortgages on real property), dividends or other distributions on and gain from the sale or other disposition of, transferrable shares in other qualifying real estate investment trusts, and abatements and refunds of taxes on real property. The third gross income requirement (provided by sec. 856(c)(4)) relates to the sale or other disposition of stock, securities, and real property. Under this requirement, the aggregate of the gains from the sale or other disposition of stock or securities held for less than 6 months and gains on the sale or other disposition of real property (including interests in real property) held for less than 4 years (and not involuntarily converted within the meaning of sec. 1033) must represent less than 30 percent of the trust's gross income. For the purpose of this test losses are not netted with gains. Under section 856(c)(5) at the close of each quarter of the taxable year a t least 75 percent of the value of the trust's total assets must be represented by real estate assets, cash and cash items (including receivables), and Government securities. Further, at the close of each quarter of the taxable year not more than 25 percent of the value of the trust's total assets may be represented by securities of other corporation's limited in respect of any one issuer to an amount not greater in value than 5 percent of the value of the trust's total assets and to not more than 10 percent of the outstanding voting securities of the issuer. Paragraph (5) also provides that variations from the required percentages resulting from mere fluctuations in the value of any security or other property shall not result in the loss of status of a real estate investment trust. Also, failure to meet these asset requirements at the end of any quarter by reason of acquisitions of any security or other property during such quarter shall not cause the trust to lose its status as a real estate investment trust if such discrepany is eliminated within 30 days after the close of such quarter. This provision is similar to that in section 851(d) relating to regulated investment companies. Section 856(c)(6) defines the terms "value," "real estate assets," and "interest in real property." The definition of "value" is consistent with the definition of the same terra in section 851(c)(4) (relating to regulated investment companies) with such changes as are necessary to adapt it to the conditions laid down with respect to real estate investment trusts. "Real estate assets" are defined as including not only real property but interests in real property and interests in mortgages on real property as well as shares (or transferable certificates of beneficial interest) in other real estate investment trusts which meet the requirements of the new part I I . The term "interest in real prope r t y " is defined to include fee ownership and coownership of land or improvements thereon and leaseholds of land or improvements thereon, b u t does not include mineral, oil, or gas royalty interests. All other terms are to have the same meaning as when used in the Investment Company Act of 1940, as amended. Section 856(d) defines "rents from real property." Restrictions and limitations are provided in the definition to prevent income from active business operations from being included therein. This is designed to insure that active business income is not to be given "conduit" tax treatment. Specifically, under section 856(d)(3), the term "rents
H. Kept 2020, 8 6 - 2 2

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from real property" does not include amounts received with respect to real property if the trust furnishes or renders services to the tenants of the property or manages or operates the property, other than through an independent contractor from whom the trust itself does not derive or receive any income. If any services are performed for tenants, or if management fees are received therefor, these services must be performed and these fees must be received by an independent contractor rather than by the real estate investment trust itself. This provision is not intended to require the trustees to delegate or contract out their fiduciary duty to manage the trust, as distinguished from the servicing and the operation of the building, or buildings, owned by the trust. The requirement that the trust not receive any income from the independent contractor requires that the relationship between the two be an arm's length relationship. In furtherance of this objective, the term "independent contractor" is specifically defined in section 856(d)(3). Under that definition, the independent contractor can not own more than 35 percent of the shares, or certificates of beneficial interest, in the trust; and one or more persons owning more than 35 percent or more of the trust cannot own more than 35 percent of the stock, assets, or net profits of the "independent contractor." Section 856(d)(2) prevents any substantial relationship between the trust and the business of any tenant by excluding from the definition of rents from real property amounts received from any person if the trust has an interest of 10 percent or more in the stock, assets, or net profits of that person. The rules prescribed by section 318(a) are made applicable in determining ownership of stock, assets, or net profits for purposes of section 856(d) (2) and (3), except that "10 percent" is substituted for the "50 percent" in section 318(a)(2)(C). Furthermore, section 856(d)(1) excludes from the definition of "rents from real property" any amount derived from real property if the determination of such amount depends in whole or in part on the income or profits derived by any person from such property. An exception is provided for amounts based on a fixed percentage or percentages of receipts or sales of the lessee (whether or not adjusted for such items as returned merchandise, or Federal, State, or local sales taxes). I t is not intended to disqualify rents under situations where the lease provides for differing percentages of receipts or sales from different departments or from separate floors of a retail store, for example, so long as each percentage is fixed at the time of entering into the lease. However, the fact that a lease is based upon a percentage of total receipts would not necessarily qualify the amount received or accrued as "rent from real property." Thus, for example, an amount would not qualify as rent from real property if the lease provides for an amount measured hj varjong percentages of receipts and the arrangement does not conform with normal business practices where rental percentages are based on receipts but is in reality used as a means of basing the rent on income or profits. Section 857 sets forth the method of taxation of real estate investment trusts and their beneficiaries. Section 857(b)(1) imposes the corporate income tax prescribed in section 11 on the real estate investment trust's taxable income. The definition of real estate investment

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trust taxable income is given in section 857(b)(2). The definition follows that used for regulated investment companies in 852(b)(2). The taxable income of the trust is adjusted as follows: a deduction is permitted for dividends paid (other than capital gains dividends), the excess of net long-term capital gains over net short-term capital losses is excluded, the corporate deductions provided in p a r t V I I I (except sec. 248) of subchapter B are not allowed, section 443(b) is disregarded and the net operation of loss deduction provided in section 172 is not allowed. Section 857(b)(3) provides for the imposition of a 25 percent tax in the case of the trust on the excess of the net long-term capital gains over the sum of the net short-term capital loss and the deduction for dividends paid (as denned in sec. 561) determined with reference to capital gains dividends only. Section 857(b)(3)(B) provides that a capital gain dividend (which is denned in sec. 857(b)(3)(C)) shall be treated by the shareholder or holders of beneficial interests as a gain from the sale or exchange of a capital asset held for more than 6 months. Section 857(b)(4) contains a restriction relating to losses on the sale or exchange of stock or interests in real estate investment trusts held for less than 31 days similar to that provided with respect to regulated investment companies. In such case any loss on the sale or exchange of a share or interest, to the extent of any capital gain dividend received during that period, is to be treated as a long-term capital loss. The tax treatment for real estate investment trusts and their shareholders as just specified is limited by section 857(a) to a real estate investment trust with respect to which the deduction for dividends paid during the taxable year (as denned in sec. 561 of the Code, b u t without regard to capital gains dividends) equals or exceeds 90 percent of its real estate investment trust taxable income (computed without regard to the deduction for dividends paid). The trust must also comply with regulations prescribed by the Secretary or his delegate for the purpose of ascertaining actual ownership of shares of certificates of beneficial interest. Section 857(c) provides that dividends received from real estate investment trusts meeting the requirements of the new part I I shall not qualify for the credit for dividends received by individuals (sec. 34), for the exclusion of dividends received by individuals (sec. 116), or for the deduction for dividends received b y corporations (sec. 243). Section 857(d) provides that a real estate investment trust's earnings and profits for any taxable year (but not its accumulated earnings and profits) are not to be reduced by amounts which it cannot deduct in computing its taxable income. Section 858 is substantially the same as section 855. I t provides rules under which dividends paid by a real estate investment trust after the close of its taxable year may be deemed to have been paid during such taxable year. Section 2 of the bill contains a number of technical amendments. I t makes conforming amendments to sections 34, 116, and 243 of the code to exclude from the benefits of those sections dividends received from a real estate investment trust which for the taxable years of the trust in which the dividends are paid (or are deemed to have been paid under sec. 858) qualify under part I I of subchapter M for conduit treatment. Thus, for example, trust W qualifies as a real estate investment trust under subchapter M for the taxable vear ending s l i . •

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.December 31, 1961. In February 1962, the W trust declares and pays an ordinary dividend to its shareholders. The trust makes an election under section 858 to treat t h a t dividend as having been paid •during 1961 so that it can meet the 90-percent income distribution requirement of section 857(a) for 1961. Whether or not the W trust qualifies in 1962 as a real estate investment trust under subchapter M, the dividend which it paid in February 1962 and which related to the taxable year 1961 (by reason of sec. 858) is not considered a dividend for purposes of the dividend received credit, exclusion, or deduction under section 34, 116, or 243, respectively. V. CHANGES IN EXISTING LAW I n compliance with clause 3 of rule X I I I of the Rules of the House of Representatives, changes in existing law made bj^ the bill, as introduced, are shown as follows (existing law proposed to be omitted is enclosed in black brackets, new matter is printed in italics, existing law in which no change is proposed is shown in roman):

INTERNAL REVENUE CODE OF 1954
CHAPTER 1—NORMAL TAXES AND SURTAXES
SUBCHAPTER SUBCHAPTER SUBCHAPTEK SUBCHAPTER SUBCHAPTER SUBCHAPTER SUBCHAPTER SUBCHAPTER SUBCHAPTER SUBCHAPTER SUBCHAPTER SUBCHAPTER. SUBCHAPTER A. B. C. D. E. F. G. H. I. J. K. L. M. Determination of tax liability. Computation of taxable income. Corporate distribution and adjustments. Deferred compensation, etc. Accounting periods and methods of accounting. Exempt organizations. Corporations used to avoid income tax on shareholders. Banking institutions. Natural resources. Estates, trusts, beneficiaries, and decedents. Partners and partnerships. Insurance companies. Regulated investment companies and real estate investment trusts. Tax based on income from sources within or without the United States. Gain or loss on disposition of property. Capital gains and losses. Readjustment of tax between years and special limitations. Election of certain partnerships and proprietorships as to taxable status. Election of certain small business corporations as to taxable status. * * * *

SUBCHAPTER N. SUBCHAPTER 0 . SUBCHAPTER P. SUBCHAPTER Q. SUBCHAPTER R. SUBCHAPTER S. *. * *

SEC. 11. TAX IMPOSED.

(a) CORPORATIONS IN G E N E R A L . — A tax is hereby imposed for each taxable year on the taxable income of every corporation. The tax shall consist of a normal tax computed under subsection (b) and a surtax computed under subsection (c).
(b) NORMAL T A X . —

(1) TAXABLE YEARS BEGINNING BEFORE JULY I, i960.^-Tn the

case of a taxable 3^ear beginning before July 1, 1960, the normal tax is equal to 30 percent of the taxable income.

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(2) T A X A B L E YEARS BEGINNING AFTER JUNE SO, i960.—In the case of a taxable year beginning after June 30, 1960, the normal tax is equal to 25 percent of the taxable income. (c) SURTAX.—The surtax is equal to 22 percent of the amount by which the taxable income (computed without regard to the deduction, if any, provided in section 242 for partially tax-exempt interest) exceeds $25,000. Source: Sees. 15(b), 104(b), 261, 1939 Code. (d) EXCEPTIONS.—Subsection (a) shall not apply to a corporation subject to a tax imposed by— (1) section 594 (relating to mutual saving banks conducting life insurance business), (2) subchapter L (sec. 801 and following, relating to insurance companies), (3) subchapter M (sec. 851 and following, relating to regulated investment companies and real estate investment trusts), or (4) section 881(a) (relating to foreign corporations not engaged in business in United States). * * * * * * * SEC. 34. DIVIDENDS RECEIVED BY INDIVIDUALS. (a) GENERAL RULE.—Effective with respect to taxable years ending after July 31, 1954, there shall be allowed to an individual, as a credit against the tax imposed by this subtitle for the taxable year, an amount equal to 4 percent of the dividends which are received after July 31, 1954, from domestic corporations and are included in gross income.
(b) LIMITATION ON AMOUNT OF CREDIT.—The credit allowed by

subsection (a) shall not exceed whichever of the following is the lesser: (1) the amount of the tax imposed by this chapter for the taxable year, reduced by the credit allowable under section 33 (relating to foreign tax credit); or (2) the following percent of the taxable income for the taxable year: (A) 2 percent, in the case of a taxable year ending before January 1, 1955. (B) 4 percent, in the case of a taxable year ending after December 31, 1954.
(c) N o CREDIT ALLOWED FOR DIVIDENDS FROM CERTAIN CORPO-

RATIONS.—Subsection (a) shall not apply to any dividend from— (1) a corporation organized under the China Trade Act, 1922 (see sec. 941); [ o r ] (2) a corporation which, for the taxable year of the corporation in which the distribution is made, or for the next preceding taxable year of the corporation, is— (A) a corporation exempt from tax under section 501 (relating to certain charitable, etc., organizations) or section 521 (relating to farmers' cooperative associations); or (B) a corporation to which section 931 (relating to income from sources within possessions of the United States) app l i e s ^ ] ; or (3) a real estate investment trust which, for the taxable year of the trust in which the dividend is paid, qualifies under part II of subchapter M (sec. 856 and following).

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SEC. 116. PARTIAL EXCLUSION OF DIVIDENDS RECEIVED BY INDIVIDUALS. (a) EXCLUSION FROM GROSS INCOME.—Effective with respect to

any taxable year ending after July 31, 1954, gross income does not include amounts received by an individual as dividends from domestic corporations, to the extent t h a t the dividends, do not exceed $50. If the dividends received in a taxable year exceed $50, the exclusion provided by the preceding sentence shall apply to the dividends first received in such year. Source: New. (b) CERTAIN DIVIDENDS EXCLUDED.—Subsection (a) shall n o t apply to any dividend from— (1) a corporation organized under the China Trade Act, 1922 (see sec. 941); [ o r J (2) a corporation which, for the taxable year of the corporation in which the distribution is made, or for the next preceding taxable, year of the corporation, is— (A) a corporation exempt from tax under section 501 (relating to certain charitable, etc., organizations) or section 521 (relating to farmers' cooperative associations); or (B) a corporation to which section 931 (relating to income from sources within possessions of the United States) applies [ . ] ; or (8) a real estate investment trust which, Jor the taxable year of the trust in which the dividend is paid, qualifies under part II of subchapter M {sec. 856 and following). * * * * * * *
SEC. 243. DIVIDENDS RECEIVED BY CORPORATIONS. (a) GENERAL R U L E . — I n the case of a corporation (other t h a n a

small business investment company operating under the Small Business Investment Act of 1958) there shall be allowed as a deduction an amount equal to 85 percent of the amount received as dividends (other than dividends described in paragraph (1) of section 244, relating to dividends on the preferred stock of a public utility) from a •domestic corporation which is subject to taxation under this chapter. (b) SMALL BUSINESS INVESTMENT COMPANIES.—In the case of a small business investment company operating under the Small Business Investment Act of 1958, there shall be allowed as a deduction an amount equal to 100 percent of the ainount received as dividends (other than dividends described in paragraph (1) of section 244, relating to dividends on preferred stock of a public utility) from a domestic corporation which is subject to taxation under this chapter.
(c) SPECIAL R U L E S FOR CERTAIN DISTRIBUTIONS.—For purposes

of subsections (a) and (b)— (1) Any amount allowed as a deduction under section 591 (relating to deduction for dividends paid by mutual savings banks, etc.) shall not be treated as a dividend. (2) A dividend received from a regulated investment company shall be subject to the limitations prescribed in section 854. (8) any dividend received from a real estate investment trust which, for the taxable year of the trust in which the dividend is paid, qualifies under part II of subchapter M (sec. 856 and following) shall not be treated as a dividend.
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SEC. 318. CONSTRUCTIVE OWNERSHIP OF STOCK. (a) GENERAL RULE.—-For purposes of those provisions of this sub-

chapter to which the rules contained in this section are expressly made applicable—•
(1) M E M B E R S OF FAMILY.—•

(A) I N GENERAL.—An individual shall be considered as owning the stock owned, directly or indirectly, by or for— (i) his spouse (other than a spouse who is legally separated from the individual under a decree of divorce or separate maintenance), and (ii) his children, grandchildren, and parents. (B) E F F E C T OF ADOPTION.—For purposes of subparagraph (A)(ii), a legally adopted child of an individual shall be treated as a child of such individual by blood.
(2) PARTNERSHIPS, ESTATES, TRUSTS, AND CORPORATIONS.— (A) PARTNERSHIPS AND ESTATES.—Stock owned, directly

or indirectly, by or for a partnership or estate shall be considered as being owned proportionately by its partners or beneficiaries. Stock owned, directly or indirectly, by or for a partner or a beneficiary of an estate shall be considered as being owned by the partnership or estate. (B) TRUSTS.—Stock owned, directly or indirectly, by or for a trust shall be considered as being owned by its beneficiaries in proportion to the actuarial interest of such beneficiaries in such trust. Stock owned, directly or indirectly, by or for a beneficiary of a trust shall be considered as being owned by the trust, unless such beneficiary's interest in the trust is a remote contingent interest. For purposes of the preceding sentence, a contingent interest of a beneficiary in a trust shall be considered remote if, under the maximum exercise of "discretion by the trustee in favor of such beneficiary, the value of such interest, computed actuarially, is 5 percent or less of the value of the trust property. Stock owned, directly or indirectly, by or for any portion of a trust of which a person is considered the owner under subpart E of part I of subchapter J (relating to grantors and others treated as substantial owners) shall be considered as being owned by such person; and such trust shall be treated as owning the stock owned, directly or indirectly, by or for that person. This subparagraph shall not apply with respect to any employees' trust described in section 401(a) which is exempt from tax under section 501(a). (C) CORPORATIONS.—If 50 percent or more hi value of the stock in a corporation is owned, directly or indirectly, by or for any person, then— (i) such person, .shall be considered as owning the stock owned, directly or indirectly, by or for that corporation, in that proportion which the value of the stock which such person so owns bears to the value of all the stock in such corporation; and (ii) such corporation shall be considered as owning the stock owned, directly or indirectly, by or for that person.

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(3) OPTIONS.—If any person has an option to acquire stock, such stock shall be considered as owned by such person. F o r purposes of this paragraph, an option to acquire such an option, and each one of a series of such options, shall be considered as an option to acquire such stock.
(4) CONSTRUCTIVE OWNERSHIP AS ACTUAL OWNERSHIP.—

(A) I N GENERAL.—Except as provided in subparagraph (B), stock constructively owned by a person by reason of the application of paragraph (1), (2), or (3) shall, for purposes of applying paragraph (1), (2), or (3), be treated as actually owned b y such person. (B) M E M B E R S OF FAMILY.—Stock constructively owned by an individual by reason of the application of paragraph (1) shall not be treated as owned by him for purposes of again applying paragraph (1) in order to make another the constructive owner of such stock.
(C) OPTION RULE IN LIEU OF FAMILY RULE.—For purposes

of this paragraph, if stock may be considered as owned by an individual under paragraph (1) or (3), it shall be considered as owned by him under paragraph (3).
(b) CROSS R E F E R E N C E S . — For provisions to which the rules contained in subsection (a) apply, see— (1) section 302 (relating to redemption of stock); (2) section 304 (relating to redemption by related corporations); (3) section 306(b)(1)(A) (relating to disposition of section 306 stock); (4) section 334(b)(3)(C) (relating to basis of property received in certain liquidations of subsidiaries); [and J (5) section 382(a) (3) (relating to special limitations on net operating loss carryovers) [ . ] ; and (6) section 856(d)(2) (relating to definition of rents frontreal property in the case of real estate investment trusts). * » * * * • • SEC. 443. RETURNS FOR A PERIOD OF LESS THAN 12 MONTHS. (a) R E T U R N S FOR SHORT PERIOD.—-A return for a period of less than

12 months (referred to in this section as "short period") shall be made under any of the following circumstances: (i) CHANGE OF ANNUAL ACCOUNTING PERIOD.—When the taxpayer, with the approval of the Secretary or his delegate, changes his annual accounting period. In such a case, the return shall be made for the short period beginning on the day after the close of the former taxable year and ending a t the close of the day before the day designated as the first day of the new taxable year.
(2) TAXPAYER NOT IN EXISTENCE FOR ENTIRE TAXABLE Y E A R . —

When the taxpayer is in existence during only part of what would otherwise be his taxable year.
(3) TERMINATION OF TAXABLE YEAR FOR JEOPARDY.—When

the Secretary or his delegate terminates the taxpayer's taxable year under section 6851 (relating to tax in jeopardy).
(b) COMPUTATION OF T A X ON CHANGE OF ANNUAL ACCOUNTINGPERIOD.— (1) GENERAL RULE.—If a return is made under paragraph (1)

of subsection (a), the taxable income for the short period shall be.

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placed on an annual basis by multiplying such income by 12 and dividing the result by the number of months in the short period. The tax shall be the same part of the tax computed on the annual basis as the number of months in the short period is of 12 months.
(2) E X C E P T I O N . — (A) COMPUTATION BASED ON 12-MONTH PERIOD.—If the

taxpayer applies for the benefits of this paragraph and establishes the amount of his taxable income for the 12-month period described in subparagraph (B), computed as if that period were a taxable year and under the law applicable to that year, then the tax for the short period, computed under paragraph (1), shall be reduced to the greater of the following: (i) an amount which bears the same ratio to the tax computed on the taxable income for the 12-month period as the taxable income computed on the basis of the short period bears to the taxable income for the 12-month period; or (ii) the tax computed on the taxable income for theshort period without placing the taxable income on an annual basis. The taxpayer (other than a taxpayer to whom subparagraph (B) (ii) applies) shall compute the tax and file his returnwithout the application of this paragraph. (B) 12-MONTH PERIOD.—The 12-month period referred torn subparagraph (A) shall be— (i) the period of 12 months beginning on the first d a y of the short period, or (ii) the period of 12 months ending at the close of thelast day of the short period, if at the end of the 12 months referred to in clause (i) the taxpayer is not in. existence or (if a corporation) has theretofore disposed of substantially all of its assets.
(C) APPLICATION FOR BENEFITS.—Application for the-

benefits of this paragraph shall be made in such manner and at such time as the regulations prescribed under subparagraph (D) may require; except that the time so prescribed shall not be later than the time (including extensions.) for filing the return for the first taxable year which ends on o r after the day which is 12 months after the first day of theshort period. Such application, in case the return was filed without regard to this paragraph, shall be considered a claim for credit or refund with respect to the amount by which the tax is reduced under this paragraph. (D) EEGULATIONS.—The Secretary or his delegate shaH prescribe such regulations as he deems necessary for theapplication of this paragraph.
(c) ADJUSTMENT IN DEDUCTION FOR PERSONAL E X E M P T I O N . — I n the

case of a taxpayer other than a corporation, if a return is made for a short period by reason of subsection (a)(1) and if the tax is not computed under subsection (b)(2), then the exemptions allowed as a deduction under section 151 (and any deduction in lieu thereof) shall be reduced to amounts which bear the same ratio to the full exemptions; as the number of months in the short period bears to 12.

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(d)

HEAL, ESTATE INVESTMENT TRUSTS CROSS REFERENCES.— For inapplicability of subsection (b) in computing— (1) Accumulated earnings tax, s e e section 536. (2) Personal holding company tax, s e e section 546. (3) Undistributed foreign personal holding company income, s e e section 557. (4) The taxable income of a regulated investment company, s e e section 852 (b) (2) (E). (5) the taxable income of a real estate investment trust, see section 857(6) (2)(D).

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Subchapter M—Regulated Investment Companies and Real Estate Investment Trusts
Part I. Regulated investment Part II. Real estate investment companies. trusts.

PART

I—REGULATED

INVESTMENT

COMPANIES

Sec. 8 5 1 . Definition of regulated investment company. Sec. 852. Taxation of regulated i n v e s t m e n t companies and their shareholders. Sec. 853. Foreign tax credit allowed to shareholders. Sec. 854. Limitations applicable t o dividends received from regulated i n v e s t m e n t company. Sec. 855. Dividends paid by regulated i n v e s t m e n t company after close of taxable year. SEC. 851. DEFINITION OF REGULATED INVESTMENT COMPANY. (a) G E N E R A L R U L E . — F o r purposes of this subtitle, the term

"regulated investment company" means any domestic corporation (other than a personal holding company as denned in section 542)— (1) which,.at all times during the taxable year, is registered under the Investment Company Act of 1940, as amended (54 Stat. 789; 15 U.S.C. 80 a-1 to 80 b-2), either as a management company or as a unit investment trust, or (2) which is a common trust fund or similar fund excluded by section 3(c)(3) of such Act (15 U.S.C. 80a-3(c)) from the definition of "investment company" and is not included in the definition of "common trust fund" by section 584(a). (b) LIMITATIONS.—A corporation shall not be considered a regulated investment company for any taxable year unless— (1) it files with its return for the taxable year an election to be a regulated investment company or has made such election for a previous taxable year which began after December 31, 1941; (2) at least 90 percent of its gross income is derived from dividends, interest, and gains from the sale or other disposition of stock or securities; (3) less than 30 percent of its gross income is derived from the sale or other disposition of stock or securities held for less than 3 months; and (4) at the close of each quarter of the taxable year—• (A) at least 50 percent of the value of its total assets is represented by— (i) cash and cash items (including receivables), Government securities and securities of other regulated investment companies, and

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(ii) other securities for purposes of this calculation limited, except and to the extent provided in subsection (e), in respect of any one issuer to an amount not greater in value than 5 percent of the value of the total assets of the taxpayer and to not more than 10 percent of the outstanding voting securities of such issuer, and (B) not more than 25 percent of the value of its total assets is invested in the securities (other than Government securities or the securities of other regulated investment companies) of any one issuer, or of two or more issuers which the taxpayer controls and which are determined, under regulations prescribed b y the Secretary or his delegate, to be engaged in the same or similar trades or businesses or related trades or businesses.
(c) R U L E S APPLICABLE TO SUBSECTION (b) (4).—For purposes of

subsection (b) (4) and this subsection— (1) In ascertaining the value of the taxpayer's investment in the securities of an issuer, for the purposes of subparagraph (B), there shall be included its proper proportion of the investment of any other corporation, a member of a controlled group, in the securities of such issuer, as determined under regulations prescribed by the Secretary or his delegate. (2) The term "controls" means the ownership in a corporation of 20 percent or more of the total combined voting power of all classes of stock entitled to vote. (3) The term "controlled group" means one or more chains of corporations connected through stock ownership with the taxpayer if— (A) 20 percent or more of the total combined voting power of all classes of stock entitled to vote of each of the corporations (except the taxpayer) is owned directly by one or more of the other corporations, and (B) the taxpayer owns directly 20 percent or more of the total combined voting power of all classes of stock entitled to vote, of at least one of the other corporations. (4) The term "value" means, with respect to securities (other than those of majority-owned subsidiaries) for which market quotations are readuy available, the market value of such securities; and with respect to other securities and assets, fair value as determined in good faith by the board of directors, except that in the case of securities of majority-owned subsidiaries which are investment companies such fair value shall not exceed market value or asset value, whichever is higher. (5) All other terms shall have the same meaning as when used in the Investment Company Act of 1940, as amended. (d) DETERMINATION OF STATUS.—A corporation which meets the requirements of subsections (b)(4) and (c) a t the close of any quarter shall not lose its status as a regulated investment company because of a discrepancy during a subsequent quarter between the value of its various investments and such requirements unless such discrepancy exists immediately after the acquisition of any security or other property and is wholly or partly the result of such acquisition. A corporation which does not meet such requirements at the close of any quarter by reason of a discrepancy existing immediately after the

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acquisition of any security or other property which is wholly or partly the result of such acquisition during such quarter shall not lose its status for such quarter as a regulated investment company if such discrepancy is eliminated within 30 days after the close of such quarter and in such cases it shall be considered to have met such requirements a t the close of such quarter for purposes of applying the preceding sentence.
(e) INVESTMENT COMPANIES FURNISHING CAPITAL TO D E V E L O P MENT CORPORATIONS.— (1) G E N E R A L RULE.—-If the Securities and Exchange Commis-

sion determines, in accordance with regulations issued by it, and certifies to the Secretary or his delegate not earlier than 60 days prior to the close of the taxable year of a registered management company, that such investment company is principally engaged in the furnishing of capital to other corporations which are principally engaged in the development of exploitation of inventions, technological improvements, new processes, or products not previously generally available, such investment company may, in the computation of 50 percent of the value of its assets under subparagragh (A) of subsection (b)(4) for any quarter of such . taxable year, include the value of any securities of an issuer, whether or not the investment company owns more than 10 percent of the outstanding voting securities of such issuer, the basis of which, when added to the basis of the investment company for securities of such issuer previously acquired, did not exceed 5 percent of the value of the total assets of the investment company at the time of the subsequent acquisition of securities. The preceding sentence shall not apply to the securities of an issuer if the investment company has continuously held any security of such issuer (or of any predecessor company of such issuer as determined under regulations prescribed by the Secretary or his delegate) for 10 or more years preceding such quarter of such taxable year. (2) LIMITATION.—The provisions of this subsection shall not apply at the close of any quarter of a taxable year to an investment company if at the close of such quarter more than 25 percent of the value of its total assets is represented by securities of issuers with respect to each of which the investment company holds more than 10 percent.of the outstanding voting securities of such issuer and in respect of each of which or any predecessor thereof the investment company has continuously held any security for 10 or more years preceding such quarter unless the value of its total assets so represented is reduced to 25 percent or less within 30 days after the close of such quarter. (3) DETERMINATION OF STATUS.—For purposes of this subsection, unless the Securities and Exchange Commission determines otherwise, a corporation shall be considered to be principally engaged in the development or exploitation of inventions, technological improvements, new processes, or products not previously generally available, for a t least 10 years after the date of the first acquisition of any security in such corporation or any predecessor thereof by such investment company if at the date of such acquisition the corporation or its predecessor was principally so engaged, and an investment company shall be considered at any date to be furnishing capital to any company

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whose securities it holds if within 10 years prior to such date it has acquired any of such securities, or any securities surrendered in exchange therefor, from such other company or predecessor thereof. For purposes of the certification under this subsection, the Securities and Exchange Commission shall have authority to issue such rules, regulations and orders, and to conduct such investigations and hearings, either public or private, as it may deem appropriate. (4) DEFINITIONS.—The terms used in this subsection shall have the same meaning as in subsections (b)(4) and (c) of this section.
SEC. 852. TAXATION OF REGULATED INVESTMENT COMPANIES AND THEIR SHAREHOLDERS.
P (a) REQUIREMENTS APPLICABLE TO REGULATED INVESTMENT C O M -

PANIES.—The provisions of this [ s u b c h a p t e r ] part (other than subsection (c) of this section) shall not be applicable to a regulated investment company for a taxable year unless— (1) the deduction for dividends paid during the taxable year (as denned in section 561, but without regard to capital gains dividends) equals or exceeds 90 percent of its investment company taxable income for the taxable year (determined without regard to subsection (b)(2)(D)), and (2) the investment company complies for such year with regulations prescribed by the Secretary or his delegate for the purpose of ascertaining the actual ownership of its outstanding stock.
"(b) M E T H O D OF TAXATION OF COMPANIES AND SHAREHOLDERS.— (1) IMPOSITION OF NORMAL TAX AND SURTAX ON REGULATED INVESTMENT COMPANIES.—There is hereby imposed for each tax-

able year upon the investment company taxable income of every regulated investment company a normal tax and surtax computed as provided in section 11, as though the investment company taxable income were the taxable income referred to in section 11. F o r purposes of computing the normal tax under section 11, the taxable income and the dividends paid deduction of such investm e n t company for the taxable year (computed without regard to •capital gains dividends) shall be reduced b y the deduction pro"vided by section 242 (relating to partially tax-exempt interest). (2) INVESTMENT COMPANY TAXABLE INCOME.—The investment company taxable income shall be the taxable income of the regulated investment company adjusted as follows: (A) There shall be excluded the excess, if any, of the net long-term capital gain over the net short-term capital loss. (B) The net operating loss deduction provided in section 172 shall not be allowed. (C) The deductions for corporations provided in part V I I I (except section 248) in subchapter B (section 241 and following, relating to the deduction for dividends received, etc.) . shall not be allowed. (D) The deduction for dividends paid (as defined in section 561) shall be allowed,, but shall be computed without regard to capital gains dividends. (E) The taxable income shall be computed without regard to section 443 (b) (relating to computation of tax on change of annual accounting period).

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REAL ESTATE INVESTMENT TRUSTS (3) CAPITAL GAINS.—

(A) IMPOSITION OF TAX.—There is hereby imposed for each taxable year in the case of every regulated investment company a tax of 25 percent of the excess, if any, of the net long-term capital gain over the sum of—• (i) the net short-term capital loss, and (ii) the deduction for dividends paid (as denned in section 561) determined with reference to capital gains dividends only.
(B) TREATMENT OF CAPITAL GAIN DIVIDENDS BY SHARE-

HOLDERS.—A capital gain dividend shall be treated by the shareholders as a gain from the sale or exchange of a capital asset held for more than 6 months.
(C) D E F I N I T I O N OF CAPITAL GAIN D I V I D E N D . — [ A capital

gain dividend m e a n s ] For purposes oj this part, a capital gain dividend is any dividend, or part thereof, which is designated by the company as a capital gain dividend in a written notice mailed to its shareholders not later than 30 days after the close of its taxable year. If the aggregate amount so designated with respect to a taxable year of the company (including capital gains dividends paid after the close of the taxable year described in section 855) is greater than the excess of the net long-term capital gain over the net short-term capital loss of the taxable year, the portion of each distribution which shall be a capital gain dividend shall be only that proportion of the amount so designated which such excess of the net long-term capital gain over the net short-term capital loss bears to the aggregate amount so designated.
(D) TREATMENT BY SHAREHOLDERS OF UNDISTRIBUTED CAPITAL GAINS.—

(i) Every shareholder of a regulated investment company at the close of the company's taxable year shall include, in computing his long-term capital gains in his return for his taxable year in which the last day of the company's taxable year falls, such amount as the company shall designate in respect of such shares in a written notice mailed to its shareholders at any time prior to the expiration of 30 days after close of its taxable year, but the amount so includible by any shareholder shall not exceed t h a t part of the amount subjected to tax in subparagraph (A) which he would have received if all of such amount had been distributed as capital gain dividends by the company to the holders of such shares at the close of its taxable year. (ii) For purposes of this title, every such shareholder shall be deemed to have paid, for his taxable year under clause (i), the tax of 25 percent imposed by subparagraph (A) on the amounts required by this subparagraph to be included in respect of such shares in computing his long-term capital gains for that year; and such shareholder shall be allowed credit or refund, as the case may be, for the tax so deemed to have been paid by him.

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REAL ESTATE INVESTMENT TRUSTS

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(iii) The adjusted basis of such shares in the hands of the shareholder shall be increased by 75 percent of the amounts required by this subparagraph to be included in computing his long-term capital gains. (iv) In the event of such designation the tax imposed bjT subparagraph (A) shall be paid by the regulated investment companj 7 within 30 days after close of its taxable year. (v) The earnings and profits of such regulated investment company, and the earnings and profits of any such shareholder which is a corporation, shall be appropriately adjusted in accordance with regulations prescribed by the Secretary or his delegate.
(4) LOSS ON SALE OR EXCHANGE OF STOCK HELD LESS THAN 31 DAYS. I f

(A) under subparagraph (B) or (D) of paragraph (3) a shareholder of a regulated investment company is required, with respect to any share, to treat any amount as a longterm capital gain, and (B) such share is held by the taxpayer for less than 31 days, then anj7' loss on the sale or exchange of such share shall, to the extent of the amount described in subparagraph (A) of this paragraph, be treated as loss from the sale or exchange of a capital asset held for more than 6 months. For purposes of this paragraph, the rules of section 246(c)(3) shall apply in determining whether any share of stock has been held for less than 31 days, except that "30 days" shall be substituted for the number of days specified in subparagraph (B) of section 246(c)(3). (c) EARNINGS AND PROFITS.—The earnings and profits of a regulated investment company for any taxable j r ear (hut not its accumulated earnings and profits) shall not be reduced by any amount which is not allowable as a deduction in computing its taxable income for such taxable year. For purposes of this subsection, the term "regulated investment companj 7 " includes a domestic corporation which is a regulated investment company determined without regard to the requirements of subsection (a).
SEC. 853. FOREIGN TAX CREDIT ALLOWED TO SHAREHOLDERS. (a) GENERAL R U L E . — A regulated investment company—•

(1) more than 50 percent of the value (as defined in section 851(c)(4)) of whose total assets at the close of the taxable year consists of stock or securities in foreign corporations, and (2) which meets the requirements of section 852(a) for the taxable year, may, for such taxable year, elect the application of this section with respect to income, war profits, and excess profits taxes described in section 901(b)(1), whj<5h are paid by the investment company during such taxable year to foreign countries and possessions of the United States. (b) E F F E C T OF ELECTION.—If the election provided in subsection (a) is effective for a taxable year— (1) the regulated investment company— (A) shall not, with respect to such taxable year, be allowed a deduction under section 164(a) or a credit under section 901 for taxes to which subsection (a) is applicable, and

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TRUSTS

(B) shall be allowed as a n addition to the dividends paid deduction for such taxable year the amount of such taxes; (2) each shareholder of such investment compan}^ shall— (A) include in gross income and treat as paid by him his proportionate share of such taxes, and (B) treat as gross income from sources within the respective foreign countries and possessions of the United States, for purposes of applying subpart A of part I I I of subchapter N , the sum of his proportionate share of such taxes and the portion of any dividend paid by such investment company which represents income derived from sources within foreign countries or possessions of the United States.
(c) N O T I C E TO SHAREHOLDERS.—The amounts to be treated by the

shareholder, for purposes of subsection (b)(2), as his proportionate share of— (1) taxes paid to any foreign c o u n t y or possession of the United States, and (2) gross income derived from sources within any foreign country or possession of t h e United States. shall not exceed the amounts so designated by the company in a written notice mailed to its shareholders not later than 30 days after the close of its taxable year.
(d) M A N N E R OP M A K I N G ELECTION AND NOTIFYING SHARE-

HOLDERS.—The election provided in subsection (a) and the notice to shareholders required by subsection (c) shall be made in such manner as the Secretary or his delegate m a y prescribe by regulations.
(e) CROSS 'REFERENCES.— (1) For treatment by shareholders of taxes paid to foreign countries and possessions of the United States, see section 164(a) and section 901. (2) For definition of foreign corporation, see section 7701(a)(5). SEC. 854. LIMITATIONS APPLICABLE TO DIVIDENDS RECEIVED FROM REGULATED INVESTMENT COMPANY. (a) CAPITAL G A I N D I V I D E N D . — F o r purposes of section 34(a)

(relating to credit for dividends received by individuals), section 116 (relating to an exclusion for dividends received by individuals), and section 243 (relating to deductions for dividends received by corporations), a capital gain dividend (as defined in section 852(b) (3)) received from a regulated investment company shall not be considered as a dividend.
(b) OTHER D I V I D E N D S . — (1) GENERAL RULE.—In the case of a dividend received from

a regulated investment company (other than a dividend to which subsection (a) applies)— (A) if such investment company meets the requirements of section 852(a) for the taxable year during which it paid such dividend; and (B) the aggregate dividends received b y such company during such taxable year are less than 75 percent of its gross income, then, in computing the credit under section 34(a), the exclusion under section 116, and the deduction under section 243, there shall be taken into account only that portion of the dividend which bears the same ratio to the amount of such dividend as

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25

the aggregate dividends received by such companj 7 during such taxable year bear to its gross income for such taxable year.
(2) NOTICE TO SHAREHOLDERS.—The amount of any distribu-

tion by a regulated investment company which may be taken into account as a dividend for purposes of the credit under section 34, the exclusion under section 116, and the deduction under section 243 shall not exceed the amount so designated b y the company in a written notice to its shareholders mailed not later than 30 days after the close of its taxable year. (3) DEFINITIONS.—For purposes of this subsection— (A) The term "gross income" does not include gain from the sale or other disposition of stock or securities. (B) T h e term "aggregate dividends received" includes only dividends received from domestic corporations other than dividends described in section 116(b) (relating to dividends excluded from gross income). In determining the amount of any dividend for purposes of this subparagraph, the rules provided in section 116(c) (relating to certain distributions) shall apply.
SEC. 855. DIVIDENDS PAID BY REGULATED INVESTMENT COMPANY AFTER CLOSE OF TAXABLE YEAR. (a) GENERAL R U L E . — F o r purposes of this chapter, if a regulated

investment company— (1) declares a dividend prior to the time prescribed by law for the filing of its return for a taxable year (including the period of any extension of time granted for filing such return), and (2) distributes the amount of such dividend to shareholders in the 12-month period following the close of such taxable year and not later than the date of the first regular dividend payment made after such declaration, the amount so declared and distributed shall, to the extent the company elects in such return in accordance with regulations prescribed b y the Secretary or his delegate, be considered as having been paid during such taxable year, except as provided in subsections (b), (c) and (d). (b) R E C E I P T BY SHAREHOLDER.—Amounts to which subsection (a) is applicable shall be treated as received by the shareholder in the taxable year in which the distribution is made. (c) NOTICE TO SHAREHOLDERS.—In the case of amounts to which subsection (a) is applicable, any notice to shareholders required under this [subchapter] part with respect to such amounts shall be made . not later than 30 days after the close of the taxable year in which t h e distribution is made. (d) FOREIGN T A X ELECTION.—If an investment company to which section 853 is applicable for the taxable year makes a distribution as provided in subsection (a) of this section, the shareholders shall consider the amounts described in section 853(b)(2) allocable to such distribution as paid or received, as the case may be, in the taxable year in which the distribution is made. PART II—REAL ESTATE INVESTMENT TRUSTS

Sec. 856. Definition of real estate investment trust. Sec. 857. Taxation of real estate investment trusts and their beneficiaries. Sec. 858. Dividends paid by real estate investment trust after close of taxablevear.

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REAL ESTATE INVESTMENT

TRUSTS TRLST.

SEC. 856. DEFINITION

OF REAL ESTATE INVESTMENT

(a) IN GENERAL.—For purposes of this subtitle, the term "real estate investment trust" means an unincorporated trust or an unincorporated association— (1) which is managed by one or more trustees; (2) the beneficial ownership of which is evidenced by transferable shares, or by transferable certificates of beneficial interest; (3) which (but for the provisions of this part) would be taxable as a domestic corporation; (4) which does not hold any property primarily for sale to customers in the ordinary course of its trade or business; (5) the beneficial ownership of which is held by 100 or more persons; (6) which would not be a personal holding company (as defined in section 54-2) if all of its gross income constituted personal holding company income (as defined in section 543); and (7) which meets the requirements of subsection (c). (b) DETERMINATION OF STATUS.—The conditions described in paragraphs (1) to (4), inclusive, of subsection (a) must be met during the entire taxable year, and the condition described in paragraph (5) must exist during at least 335 days of a taxable year of 12 months, or during a proportionate part of a taxable year of less than 12 months. (c) LIMITATIONS.-—A trust or association shall not be considered a real estate investment trust for any taxable year unless—• (1) it files with its return for the taxable year an election to be a real estate investment trust or has made such election for a previous taxable year which began after December 31, 1960; (2) at least 90 percent of its gross income is derived from— (A) dividends; (B) interest; (C) rents from real property; (D) gain from the sale or other disposition of stock, securities, and real property (including interests in real property and interests in mortgages on real property); and (E) abatements and refunds of taxes on real property; (3) at least 75 percent of its gross income is derived from— (^4) rents from real property; (B) interest on obligations secured by mortgages on real property or on interests in real property; (d) gain from the sale or other disposition of real property (including interests in real property and interests in mortgages on real property); (D) dividends or other distributions on, and gain from the sale or other disposition of, transferable share (or transferable certificates of beneficial interest) in other real estate investment trusts which meet the requirements of this part; and (E) abatements and refunds of taxes on real property; (4) less than SO percent of its gross income is derived from the sale or other disposition of— (A) stock or securities held for less than 6 months, and (B) real property (including interests in real property) not compulsorily or involuntarily converted within the meaning of section 1033, held for less than 4 years;

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(5) at the close oj each quarter oj the taxable year— (A) at least 75 percent oj the value oj its total assets is represented by real estate assets, cash and cash items (including receivables), and Government securities; and (B) not more than 25 percent oj the value oj its total assets is represented by securities (other than those includible under subparagraph (A)) jor purposes oj this calculation limited in respect oj any one issuer to an amount not greater in value than 5 percent oj the value oj the total assets of the trust and to not more than 10 percent oj the outstanding voting securities oj such issuer. A real estate investment trust which meets the requirements of this paragraph at the close of any quarter shall not lose its status, as a. real estate investment trust because of a discrepancy during a subsequent quarter between the value of its various investments and such requirements unless such discrepancy exists immediately after the acquisition of any security or other property and is wholly or partly the result of such acquisition. A real estate investment trust which does not meet such requirements at the close of any quarter by reason of a discrepancy existing immediately after the acquisition of any security or other property which is wholly or partly the result of such acquisition during such quarter shall not lose its status for such quarter as a real estate investment trust if such discrepancy is eliminated within SO days after the close of such quarter and in such cases it shall be considered to have met such requirements at the close of such quarter for purposes of applying the preceding sentence. (6) For purposes oj this part— (A) The term "value" means, with respect to securities jor which market quotations are readily available, the market value oj such securities; and with respect to other securities and assets, jair value as determined in goodjaith by the trustees, except that in the case oj securities oj real estate investment trusts such jair value shall not exceed market value or asset value, whichever is higher. (B) The term "real estate assets" means real property (including interests in real property and interests in mortgages on real property) and shares (or transferable certificates oj beneficial interest) in other real estate investment trusts which meet the requirements oj this part. (0) The term "interests in real property" includes jee ownership and co-ownership oj land or improvements thereon and leaseholds oj land or improvements thereon, but does not include mineral, oil, or gas royalty interests. (D) All othev terms shall have the same meaning as when used in the Investntenl Company Act oj 1940, as amended, (d) RENTS FROM REAL PROPERTY DEFINED.—For purposes oj paragraphs (2) and (S) oj subsection (b), the term "rents jrom real property" includes rents jrom interests in real property but does not include— (1) any amount received or accrued with respect to any real property, if the determination oj such amount depends in whole or in part on the income or profits derived by any person jrom such property (except that any amount so received or accrued shall not be excluded jrom the term "rents jrom real property" solely by reason oj being based on a fixed percentage or percentages oj receipts or

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REAL ESTATE INVESTMENT TRUSTS

(2) any amount received or accrued directly or indirectly from any person if the real estate investment trust owns, directly or indirectly— (A) in the case of any person which is a corporation, stock of such person possessing 10 percent or more of the total combined voting power of all classes of stock entitled to vote, or 10 percent or more of the total number of shares of all classes of stock of such person; or (B) in the case of any person which is not a corporation, an interest of 10 percent or more in the assets or net profits of such person. (8) any amount received or accrued, directly or indirectly, with respect to any real property, if the trust or association furnishes or renders services to the tenants of such property, or manages or operates such property, other than through an independent contractor from whom the trust or association itself does not derive or receive any income. For purposes of this paragraph, the term "independent contractor" means—•' (.4) a person who does not own, directly or indirectly, more than 85 percent of the shares, or certificates of beneficial interest, in the real estate investment trust, or (B) a person, if a corporation, not more than 85 percent of the total combined voting power of whose stock (or 85 percent of the total shares of all classes of whose stock), or, if not a corporation, not more than 85 percent of the interest in whose assets or net profits is owned, directly or indirectly, by one or more persons owning 35 percent or more of the shares or certificates of beneficial interest in the trust. For purposes of paragraphs (2) and (3) the rules prescribed by section 818(a) for determining the ownership of stock shall apply in determining the ownership of stock, assets or net profits of any person; except that "10 percent" shall be substituted for "50 percent" in subparagraph (C) of section 318(a)(2).
SEC. 857. TAXATION OF REAL ESTATE INVESTMENT THEIR BENEFICIARIES.
(a) REQUIREMENTS APPLICABLE TO REAL ESTATE

TRUSTS

AND

INVESTMENT

TRUSTS.—The provisions of this part (other than subsection (d) of this section) shall not apply to a real estate investment trust for a taxable year unless— (1) the deduction for dividends paid during the taxable year (as defined in section 561, but without regard to capital gains dividends) equals or exceeds 90 percent of its real estate investment trust taxable income for the taxable year (determined without regard to subsection (b)(2)(C)), and (2) the real estate investment trust complies for such a year with • regulations prescribed by the Secretary or his delegate for the purpose of ascertaining the actual ownership of the outstanding shares, or certificates of beneficial interest, of such trust.
(b) METHOD OF TAXATION OF REAL ESTATE INVESTMENT TRUSTS AND HOLDERS OF SHARES OR CERTIFICATES OF BENEFICIAL INTEREST.— (1) IMPOSITION OF NORMAL TAX AND SURTAX ON REAL ESTATE INVESTMENT TRUSTS.—There is hereby imposed for each taxable

year on the real estate investment trust taxable income of every real

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29

estate investment trust a normal tax and surtax computed as provided in section 11, as though the real estate investment trust taxable income were the taxable income referred to in section 11. For purposes oj computing the normal tax under section 11, the taxable income and the dividends paid deduction oj such real estate investment trust jor the taxable year {computed without regard to capital gains dividends) shall be reduced by the deducation provided by section 21$ (relating to partially tax-exempt interest).
(2) REAL ESTATE INVESTMENT TRUST TAXABLE INCOME.—For

purposes oj this part, the term "real estate investment trust taxable income" means the taxable income <?/ the real estate investment trust, adjusted as jollows: (A) There shall be excluded the excess, if any, oj the net long-term capital gain over the net short-term capital loss. (B) The deductions jor corporations provided in part VIII (except section 248) oj subchapter B (section 241 and jollowing, relating to the deduction jor dividends received, etc.) shall not be allowed. (C) The deduction jor dividends paid (as defined in section 561) shall be allowed, but shall be computed without regard to capital gains dividends. (D) The taxable income shall be computed without regard to section 443(b) (relating to computation oj tax on change oj annual accounting period). (E) The net operating loss deduction provided in section 172 shall not be allowed.
(8)

is hereby imposed jor each taxable year in the case oj every real estate investment trust a tax oj 25 percent oj the excess, if any, oj the net long-term capital gain over the sum oj— (i) the net short-term capital loss; and (ii) the deduction jor dividends paid (as defined in section 561) determined with reference to capital gains dividends only.
(B) TREATMENT OP CAPITAL OAIN DIVIDENDS BY SHARE-

CAPITAL GAINS.— (A) IMPOSITION OF TAX.—There

HOLDERS.—A capital gain dividend shall be treated by the shareholders or holders oj beneficial interests as a gainjrom the sale or exchange oj a capital asset held jor more than 6 months. (C) DEFINITION OP CAPITAL GAIN DIVIDEND.—For purposes oj this part, a capital gain dividend is any dividend, or part thereof, which is designated by the real estate investment trust as a capital gain dividend in a written notice mailed to its shareholders or holders oj beneficial interests at anytime bejore the expiration oj SO days after the close oj its taxable year. Ij the aggregate amount so designated with respect to a taxable year of the trust (including capital gain dividends paid after the close oj the taxable year described in section 858) is greater than the excess-oj the net long-term capital gain over the net shortterm capital loss oj the taxable year, the portion oj each distribution which shall, be a capital gain dividend shall be only that proportion oj the amount so designated which such excess oj the net long-term capital gain over the net short-term capital loss bears to the aggregate amount so designated.

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REAL ESTATE INVESTMENT TRUSTS
(4) LOSS ON SALE OS EXCHANGE DAYS. If— OF STOCK HELD LESS THAN SI

(A) under subparagraph (B) of paragraph (S) a shareholder of, or a holder of a beneficial interest in, a real estate investment trust is required, with respect to any share or beneficial interest, to treat any amount as a long-term capital gain, and (B) such share or interest is held by the taxpayer for less than SI days, then any loss on the sale or exchange of such share or interest shall, to the extent of the amount described in subparagraph (A) of this paragraph, be treated as loss from the sale or exchange of a capital asset held for more than 6 months. For purposes of this paragraph, the rules of section 246(c) (S) shall apply in determining whether any share of stock or beneficial interest has been held for less than SI days; except that "SO days" shall be substituted for the number of days specified in subparagraph (B) of section 246(c)(3).
(G) RESTRICTIONS FROM REAL ESTATE APPLICABLE INVESTMENT TO DIVIDENDS RECEIVED TRUSTS. For purposes of

section 34(a) (relating to credit for dividends received by individuals), section 116 (relating to an exclusion for dividends received by individuals) and section 243 (relating to deductions for dividends received by corporations), a dividend received from a real estate investment trust which meets the requirements of this part shall not be considered as a dividend. (D) EARNINGS AND PROFITS.-*-The earnings and profits of a real estate investment trust for any taxable year (but not its accumulated earnings and profits) shall not be reduced by any amount which is not allowable as a deduction in computing . its taxable income for such taxable year. For purposes of this subsection, the term "real estate investment trust" includes a domestic unincorporated trust or association which is a real estate investment trust determined without regard to the requirements of subsection (a).
SEC. 858. DIVIDENDS PAID BY REAL ESTATE INVESTMENT TRUST AFTER CLOSE OF TAXABLE YEAR. (a) GENERAL RULE.—For purposes of this part, if a real estate invest-

ment trust— (1) declares a dividend before the time prescribed by law for the filing of its return for a taxable year (including the period of any extension of time granted for filing such return), and (2) distributes the amount of such dividend to shareholders or holders of beneficial interests in the 12-month period following the close of such taxable year and not later than the date of the first regular dividend payment made after such declaration, the amount so declared and distributed shall, to the extent the trust elects in such.return in accordance with regulations prescribed by the Secretary or his delegate, be considered as having been paid during such taxable year, except as provided in subsections (b) and (c).
(b) RECEIPT BY SHAREHOLDER.-—Amounts to which subsection (a)

applies shall be treated as received by the shareholder or holder of a beneficial interest in the taxable year in which the distribution is made. • (c) NOTICE TO SHAREHOLDERS:—In the case of amounts to which subsection (a) applies,- any notice to shareholders or holders of beneficial

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REAL ESTATE INVESTMENT TRUSTS

31

interests required under this part with respect to such amounts shall be made not later than SO days after the close oj the taxable year in which the distribution is made. * * * * * * *
SEC. 1504. DEFINITIONS. (a) D E F I N I T I O N OF "AFFILIATED G R O U P " . — A s used in this chapter,

the term "affiliated group" means one or more chains of includible corporations connected through stock ownership with a common parent corporation which is an includible corporation if— (1) Stock possessing at least 80 percent of the voting power of all classes of stock and at least 80 percent of each class of the nonvoting stock of each of the includible corporations (except the common parent corporation) is owned directly by one or more of the other includible corporations; and (2) The common parent corporation owns directly stock possessing at least 80 percent of the voting power of all classes of stock and at least 80 percent of each class of the nonvoting stock of a t least one of the other includible corporations. As used in this subsection, the term "stock" does not include nonvoting stock which is limited and preferred as to dividends. (b) D E F I N I T I O N OF "INCLUDIBLE CORPORATION".—As used in this chapter, the term "includible corporation" means any corporation except— (1) Corporations exempt from taxation under section 501. (2) Insurance companies subject to taxation under section 802 or 821. (3) Foreign corporations. (4) Corporations entitled to the benefits of section 931, by reason of receiving a large percentage of their income from sources within possessions of the United States. (5) Corporations organized under the China Trade Act, 1922. (6) Regulated investment companies and real estate investment trusts subject to tax under subchapter M of chapter 1. (7) Unincorporated business enterprises subject to tax as corporations under section 1361.

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