income trust

On January 1, 2011, Ottawa will impose a tax on distributions of income trusts and royalty trusts. (Royalty trusts are a form of income trust. They profit from royalties associated with the sale of oil, natural gas or minerals.) The new tax will put income and royalty trusts on an equal tax footing with regular corporations. However, as we note in a just-published issue of The Successful Investor, one royalty trust has an enviable advantage when it comes to dealing with the new tax.

This royalty trust’s tax losses will help maintain its high yield through 2011 and beyond

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Most of our real estate investment trust (REIT) recommendations, including the two below, have moved up lately. REITs are exempt from Ottawa’s income-trust tax, which comes into effect on January 1, 2011. That’s making their high yields increasingly attractive as many trusts convert to corporations, or cut their distributions. Even though their prices have risen, we still think the best REITs offer attractive long-term returns at relatively low risk. ALLIED PROPERTIES REAL ESTATE INVESTMENT TRUST $22.28 (Toronto symbol AP.UN; Units outstanding: 42 million; Market cap: $934.8 million; SI Rating: Extra Risk; Dividend yield: 5.9%) owns office buildings in Toronto, Montreal, Quebec City and Winnipeg. These mainly Class I properties contain over 5.9 million square feet of leasable area. Class I refers to 19th and early 20th-century light industrial buildings that have been restored and converted to office and retail space. These properties usually feature high ceilings, natural light, exposed beams, interior brick and hardwood floors....

CAPITAL POWER INCOME L.P. $18.80 (Toronto symbol CPA.UN; Shares outstanding: 55.1 million; Market cap: $1.0 billion; SI Rating: Extra Risk; Dividend yield: 9.4%) has interests in 20 power plants in Canada and the U.S. These facilities generate a total of 1,378 megawatts, and are mostly natural-gas fired. Capital Power sells all of its power under long-term contracts. In the three months ended June 30, 2010, Capital Power’s cash flow per unit fell 22.5%, to $0.55 from $0.71. That’s because low water volumes held back power production at its Curtis & Palmer plant in New York State. As well, a lack of plant materials and wood waste pushed down production at its Ontario biomass plants. Capital Power’s production should return to normal for the rest of this year....

Ottawa’s new tax on income trusts comes into effect just over four months from now, on January 1, 2011. When it does, it will put trusts on an equal footing with regular corporations. Right now, income trusts pay out a high percentage of their cash flows to their unitholders. This lets them avoid paying corporate taxes. It also gives many of them significantly higher yields than a lot of dividend-paying common stocks. Many income trusts have already converted to conventional corporations in response to the new tax, or plan to do so later in 2010 or in early 2011. Others will continue to operate as trusts....

ISHARES CDN REIT SECTOR INDEX FUND $12.72 (Toronto symbol XRE; buy or sell through a broker) holds the 11 Canadian real estate investment trusts (REITs) in the S&P/TSX Capped REIT Index. The weight of any one REIT is limited to 25% of this index’s value. RioCan REIT is the fund’s largest holding, at 25%, followed by H&R REIT (14.2%), Canadian REIT (10.7%), Boardwalk REIT (8.6%), Calloway REIT (8.4%), Primaris Retail REIT (6.7%), Canadian Apartment Properties REIT (5.8%), Cominar REIT (5.5%), Chartwell Seniors Housing REIT (5.4%), Dundee REIT (4.9%) and Extendicare REIT (3.8%). The fund yields 5.6%. Most REITs, including those held by the iShares CDN REIT Sector Index Fund, are exempt from Ottawa’s new income-trust tax, which takes effect on January 1, 2011. That will help keep the fund’s distributions high. iShares CDN REIT’s expenses are 0.55% of its assets....

PEYTO ENERGY TRUST $15.53 (Toronto symbol PEY.UN; Units outstanding: 120.9 million; Market cap: $1.9 billion; SI Rating: Extra Risk; Dividend yield: 9.3%) produces and explores for oil and natural gas in Alberta. Its average daily production of 20,653 barrels of oil equivalent (including natural gas) is weighted 84% toward gas and 16% to oil. At current production rates, Peyto has proven oil and natural-gas reserves that should last 14 years. Peyto’s cash flow was $0.51 a unit in the three months ended March 31, 2010. The units trade at 7.6 times the trust’s annualized cash flow, based on the latest quarter....

With interest rates still near historic lows, borrowing money to invest continues to look like an attractive portfolio investing strategy.

Today, you can borrow for as little as 3.5% if you use your home as collateral. Over long periods, the total return on a well-diversified portfolio of high-quality stocks runs to as much as 10%, or around 7.5% after inflation....

BELL ALIANT REGIONAL COMMUNICATIONS INCOME FUND $26 (Toronto symbol BA.UN, Conservative Growth Portfolio, Utilities sector; Units outstanding: 127.3 million; Market cap: $3.3 billion; Price-to-sales ratio: 1.0; Dividend yield: 11.2%; SI Rating: Above Average) will convert to a dividend-paying corporation on January 1, 2011. That’s when Ottawa will start taxing income-trust distributions. Investors will receive one common share of the company for each trust unit they hold. As part of the conversion, the trust will change its name to “Bell Aliant Inc.” It will also change its trading symbol to “BA”. The trust will continue to pay monthly distributions of $0.2417 a unit until just after its conversion. The current annual rate of $2.90 yields 11.2%. Starting in March 2011, Bell Aliant will change the rate and frequency of its payout: It will switch to quarterly dividends of $0.475 a share. The new annual rate of $1.90 would yield a high 7.3%, based on today’s price. As well, investors who hold Bell Aliant outside an RRSP will benefit from the dividend tax credit. Bell Aliant is a buy.

Most real estate investment trusts (REITs), including our recommendations, are exempt from Ottawa’s new tax on income-trust distributions, which comes into effect on January 1, 2011. As a result, these REITs should attract more investor interest in the second half of 2010, as the tax prompts more trusts to convert to corporations and cut their distributions. RIOCAN REAL ESTATE INVESTMENT TRUST $19.32 (Toronto symbol REI.UN; Units outstanding: 242.9 million; Market cap: $4.7 billion; SI Rating: Average; Dividend yield: 7.1%) is Canada’s largest REIT. RioCan has interests in 265 shopping malls across Canada, including 12 under development. In all, these properties contain over 60 million square feet of leasable area. The trust has a 97.0% occupancy rate. In the three months ended March 31, 2010, RioCan’s revenue was $214.6 million. That’s up 12.3% from $191.1 million a year earlier. Cash flow per unit rose 12.5%, to $0.36 from $0.32. The trust paid higher interest costs during the quarter, but contributions from newly acquired shopping centres and gains on property sales helped offset these expenses. The trust’s units yield 7.1%....

PEMBINA PIPELINE INCOME FUND $18.17 (Toronto symbol PIF.UN; Units outstanding: 163.5 million; Market cap: $3.0 billion; SI Rating: Extra Risk; Dividend yield: 8.6%) owns nine pipeline systems in western Canada. It also owns the Syncrude, Horizon and Cheecham pipelines, which transport crude oil from the Alberta oil sands, and a 50% interest in the Fort Saskatchewan Ethylene Storage Limited Partnership. Pembina will convert to a dividend-paying corporation on October 1, 2010. It will then trade as Pembina Pipeline Corporation under the symbol “PPL”. Pembina aims to keep paying $0.13 a month, at least through 2013 (it now yields 8.6%). The fund believes that cash flow from its $440-million Nipisi and Mitsue pipelines, which it expects to start up in mid-2011, will let it maintain its payout. As well, Pembina has tax losses that it can use to delay taxation under Ottawa’s new income-trust tax until 2012....