Weyerhaeuser's Tax Advantaged Dividend Helps Harvest Capital Loss Carryforwards
Summary
- A big loss is not the end of the world. It can be recovered.
- This article will show you how to take advantage of the capital loss for tax purposes.
- Weyerhaeuser is a great business with tax advantaged dividends for those with capital loss carryforwards.
- Looking for a portfolio of ideas like this one? Members of Portfolio Income Solutions get exclusive access to our subscriber-only portfolios. Learn More »
Tarcisio Schnaider/iStock via Getty Images
This article will show you a means of recovering as much as 20% of your capital losses depending on your tax bracket. In brief, capital losses are a valuable asset and Weyerhaeuser (NYSE:WY) is among a small handful of stocks that can convert capital losses into cashflow.
Attention shareholders of CS, ARKK, FRB, COIN, various cryptos, and anything else that collapsed
Even as 2023 is a mostly sideways year in the market there are huge pockets of volatility. As such, one could be up overall on the year and still have significant losses from certain positions.
Banking was of course one of the areas that has been hit.
Speculative negative earnings areas have also been clobbered.
- ARK Innovation ETF (ARKK) is down 37%
- Bitcoin (BTC-USD) is down 32% on the 52 week chart, even inclusive of the 2023 rally
- Coinbase (COIN) dropped 57% over the last 52 weeks
Unless one timed these positions perfectly, chances are most shareholders are either sitting on a massive loss or already sold at a loss.
That’s okay. It happens to everyone. It is nearly impossible to be an investor and not have the occasional strikeout.
The key is what you do after to recover.
Holding on to these speculative and/or failed companies in hopes of a recovery seems dubious at best. There is a much more reliable way to recover at least some of your losses and that has to do with a capital loss.
Capital losses are a valuable asset, and when used correctly, can be turned into tax free income.
Taxation of dividends – the key to unlocking capital loss carryforwards
Most S&P dividends are taxed at the qualified dividend rate. Having a capital loss will not help you here.
Most REIT dividends come in the form of Section 199A distributions which are taxed at the ordinary income rate but also come with a 20% deduction. Again, a capital loss will not help you.
However, there are a select few REITs that are designed to provide dividends as capital gains which allow one to wash those dividends with capital loss carryforwards to receive tax free dividends. At Portfolio Income Solutions, we have catalogued the tax treatment of over 150 REITs' dividends which allows us to identify which dividends are most favorable for a given situation.
For those who have a capital loss carryforward, Weyerhaeuser comes with a significant advantage. This timber REIT has a special kind of dividend which comes as a mix of capital gains and return of capital. Since income generated from the sale of standing trees is considered a capital gain, the dividend can be classified as a capital gains dividend. The characterization varies slightly year to year, but this was the breakdown in 2022.
Portfolio Income Solutions REIT Dividend Characterization Spreadsheet
Capital gains dividends can be washed with the capital losses.
If one has $10,000 of capital loss and received $10,000 of capital gains dividends, those dividends are tax free.
Return of capital dividends are not taxed at the time of dividend receipt, but rather reduce the cost basis of the stock. With the now lower cost basis, one’s capital gain upon selling that stock is larger and these capital gains can be washed with the capital losses.
Since capital gains are taxed at 20% for the highest tax bracket or slightly lower for lower tax brackets, the functional savings from a capital loss carryforward is as high as 20%.
Thus, through owning WY stock and collecting its high dividend yield, one can functionally recover up to 20% of their losses by utilizing the capital loss carryforward in addition to whatever returns Weyerhaeuser generates. Readers are encouraged to contact their tax advisor to determine the impact for their individual situation.
Weyerhaeuser dividends
Prima facie, WY appears to have a rather modest 2.55% dividend yield.
SA
At that pace, it would take a long time or an absolutely massive investment in WY to use its capital gains taxation to recover one’s loss.
However, in addition to this base yield, WY pays special dividends each year proportional to their excess EBITDA.
- In October of 2021 they paid $0.50 per share.
- In February of 2022 they paid $1.45 per share.
- In February of 2023 they paid $0.90 per share.
S&P Global Market Intelligence
These special dividends get the same favorable tax treatment and functionally take the yield to over 5%.
Going forward, the size of the special dividends will depend on EBITDA. 2022’s $1.45 payment was atypically large because lumber prices were exceedingly high resulting in WY having billions of dollars of excess cashflow.
With timber and lumber prices back to a more normal level I suspect the recurring special dividends will be closer to the $0.50 or $0.90 of 2021 and 2023, respectively.
Even at that lower level, WY’s yield is around 5%.
WY as an investment
While tax free dividends are nice, that alone is not enough to warrant investment. For this to be a viable recovery strategy, WY itself also has to have the ability to perform.
I have been in and out of Weyerhaeuser for the better part of a decade depending on valuation and other factors and today is among the better times to own WY. Specifically there are 3 reasons I like the stock.
- Generally strong business model
- Upcoming drivers of growth
- Valuation
Wood products are a cyclical business so it does ebb and flow with the economy, but in analyzing a business this can be smoothed out to estimate the long term run rate. So while the market tends to love WY when housing is hot and hate WY when housing starts are lower, I would encourage thinking more about the average across a cycle.
After adjusting for cyclicality WY clearly has a strong business. They are fully vertically integrated owning the timberland that feeds their sawmills. Waste is minimized by using the pulpwood that is too low quality to form proper lumber to make engineered wood products like particle board. At each level of production WY has achieved among the highest efficiency in the industry making their overall EBITDA margins superior.
A growing catalyst
The Inflation Reduction Act is proving to be a huge deal with regard to spending on green type investments.
Note that in discussing this I intentionally remain non-political. This is neither praise nor criticism of the policy, just an analysis of how it impacts business.
The IRA makes just about everything green viable to invest in whether or not it would otherwise be viable. The subsidies are extremely generous which is creating a boom of capital spend. The relevance to WY is in carbon capture initiatives and there are a few ways in which they can profit.
- Trees naturally capture carbon so there could be carbon lock-up agreements with companies looking for carbon offsets.
- Wood is being increasingly encouraged for construction and furniture as a means of locking up carbon. So while WY would not receive direct payments it is a demand boost to their industry
- Direct Air Capture (DAC) has long been considered too pricey to be viable but with the generous subsidies of the IRA, DAC projects are taking off.
#3 is not speculative as WY already has a DAC contract with Occidental Petroleum (OXY). OXY is renting a substantial amount of land from WY in which to pull carbon out of the air and inject it deep underground. The actual footprint of this is tiny so WY can still fully use its land for timber and functionally double dip on its revenue stream. OXY has ambitious plans to expand this program and WY has plenty of land on which it could be done by either OXY or someone else.
A secular increase in homebuilding
The U.S. has about a 15 million home shortage. Homebuilders estimate their pace of building over the next 10 years will have to be substantially higher than it was in the past. As homes are one of the largest demand sources for lumber and other wood products I suspect the stabilized prices for wood products will be higher in the next decade than in the previous.
This bodes well for cycle average EBITDA and margins for WY and should lead to some ample special dividends.
Valuation
WY is a very asset-heavy business. It consists mostly of land, mills and manufacturing facilities.
Such things have a clearly defined value in the private market so one can time their investment in WY with when the stock is cheaper than the value of its assets.
This is one of those times. As seen in the chart below, WY is trading at a 30% discount to net asset value.
S&P Global Market Intelligence
Land tends to grow in value over time so buying land at 70 cents on the dollar tends to be a good investment, especially when it comes with a well operated business like WY.
The bottom line
WY stock strikes me as an opportunistic investment at current pricing and is made even more attractive if one has capital loss carryforwards with which to wash the dividend and make it tax-free income.
So far, Portfolio Income Solutions subscribers consist largely of investment professionals, whether current or retired. That’s great, I love having an educated readership as they ask questions that challenge me to dig deeper. At the same time, I believe financial information should be available to all and that financial education is foundational to success in life. As such, I have launched REIT University, a new branch within Portfolio Income Solutions and am offering a large discount to those who want to learn. It contains a crash course in fundamental investment and goes deep into REIT specific analysis.
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This article was written by
Dane Bowler is the Chief Investment Officer and a registered investment adviser at the 2nd Market Capital Advisory Corporation. He has over a decade of experience running a proprietary portfolio with a specialization in REITs. On-site property tours and critical analysis of REIT management help inform his selection process.
Dane leads the investing group Portfolio Income Solutions along with Simon and Ross Bowler. Features of the service include: a diversified high-yield REIT portfolio, data tables on every REIT, tax guidance, macro analysis, fair value estimates, and quick updates via chat on breaking news. Learn More.
Analyst’s Disclosure: I/we have a beneficial long position in the shares of WY either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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It should not be assumed that any of the securities transactions or holdings discussed were profitable or will prove to be profitable. Past Performance does not guarantee future results. Investing in publicly held securities is speculative and involves risk, including the possible loss of principal. Historical returns should not be used as the primary basis for investment decisions.
Commentary may contain forward looking statements which are by definition uncertain. Actual results may differ materially from our forecasts or estimations, and 2MC and its affiliates cannot be held liable for the use of and reliance upon the opinions, estimates, forecasts, and findings in this article. 2MC does not provide tax advice. The material contained herein is for informational purposes only and is not intended to replace the advice of a qualified tax advisor.
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Comments (10)
is QY a buy without that foolhardy suggestion?
I've been enjoying this feature for a decade or so now and periodically add whenever it approaches my basis in the lower twenties.