Changes to the Taxation of Regulated Investment Companies Resulting from the Regulated Investment Company Modernization Act of 2010

Changes to the Taxation of Regulated Investment Companies Resulting from the Regulated Investment Company Modernization Act of 2010

by Andrew W. Singer

Excerpt:

Regulated investment companies ("RICs"), often called mutual funds, "are essentially instruments for gathering together and investing the funds of a relatively large number of investors. ... Ideally, they secure for the investor expert management of his capital and diversification of his holdings, advantages which otherwise the small, nonprofessional investor cannot easily obtain." The benefits to be derived from ownership of an interest in a RIC would be severely limited if the income and distributions of the RIC were taxed in the same manner as the income and distributions of an ordinary business corporation. Instead, Congress has encouraged investment in RICs by applying a modified "conduit" theory of taxation, intended to put the person or entity who invests capital in a RIC on similar if not exactly equal plane with one who makes a direct investment in the RIC's underlying securities. If the RIC meets the definitional tests prescribed by the Internal Revenue Code, it is taxed only on the income it does not distribute to its shareholders. The income it does distribute retains in its shareholders' hands the character it had in the hands of the RIC.

On December 22, 2010 President Obama signed into law the Regulated Investment Company Modernization Act of 2010 (RICMA). This new legislation modifies the rules pertaining to the tax treatment of RICS. The following material explores some of these changes.

ANALYSIS:

[1] Requirements for Qualification as a Regulated Investment Company

In addition to satisfying the statutory definition of a RIC under IRC Section 851(a), the corporation seeking to be taxed as a RIC must also satisfy the conditions and limitations contained in IRC Section 851(b) and IRC Section 852(a).

[a] Election to Be a Regulated Investment Company

Even though a corporation meets all the requirements necessary for achieving RIC status, it will not be considered a RIC unless it affirmatively elects to be one. Only one method of making the election is permitted-the taxpayer must compute its taxable income as a RIC in its return for the first taxable year for which the election is applicable. Once made, the election is irrevocable for the initial taxable year and all succeeding taxable years. [footnotes omitted]

Access the full version of "Changes to the Taxation of Regulated Investment Companies" with your lexis.com ID

If you do not have a lexis.com ID, you can purchase this commentary from the LexisNexis Store.

Andrew W. Singer is the author of Taxation of Securities Transactions.