how the dividends received deduction drd works
the dividends received deduction allows a company that receives a dividend from another company to deduct that dividend from its income and reduce its income tax accordingly however several technical rules apply that must be followed for corporate shareholders to be entitled to the drd the amount of drd that a company may claim depends on its percentage of ownership in the company paying the dividend the tax cuts and jobs act tcja made major changes to the taxation of corporations including reducing the drd percentages for dividends received from domestic corporations in tax years beginning after dec 31 2017 if the corporation receiving the dividend owns less than 20 of the corporation distributing the dividend the receiving corporation can deduct within certain limits 50 of the dividends received subject to certain limits the receiving corporation can deduct 65 of the dividends received if it owns 20 or more of the distributing corporation s stock however the 50 or 65 deduction limit does not apply if a corporation has a net operating loss nol for the given tax year 1the deduction received seeks to alleviate the potential consequences of triple taxation triple taxation occurs when the same income is taxed in the hands of the company paying the dividend then in the hands of the company receiving the dividend and again when the ultimate shareholder is in turn paid a dividend small business investment companies are allowed to deduct 100 of the dividends they receive from taxable domestic corporations 1 special considerationscertain types of dividends are excluded from the drd and corporations cannot claim a deduction for them for example corporations cannot take a deduction for dividends received from a real estate investment trust reit if the company distributing the dividend is exempt from taxation under section 501 or 521 of the internal revenue code for the tax year of the distribution or the preceding year then the receiving company cannot take a deduction for the dividends received a corporation cannot take a deduction on capital gain dividends received from a regulated investment company 2 dividends from foreign corporations have different deduction rules than those for domestic corporations in most cases corporations can deduct 100 of the foreign source portion of dividends from 10 owned foreign corporations corporations must hold the foreign corporation stock for at least 365 days to qualify for the deduction 1 example of a dividends received deduction drd assume that abc inc owns 60 of its affiliate def inc abc has a taxable income of 10 000 and a dividend of 9 000 from def thus it would be entitled to a drd of 5 850 or 65 of 9 000 note that there are certain limitations on the total deduction for dividends a corporation may claim in some cases the corporation will need to determine if it has a net operating loss nol by calculating the drd without the 50 or 65 of the taxable income limit for more information see irs publication 542 or the instructions included in form 1120 schedule c or the applicable schedule of your income tax return 