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The House of Representatives passed on Wednesday the Regulated Investment Company Modernization Act (H.R. 4337) marking the first regulatory update of mutual fund taxation in over 20 years.

The most notable provisions permit mutual funds to earn income from commodities while simplifying rules for the treatment of preferential dividends. The result according to Paul Stevens (President & CEO – Investment Company Institute) “…would not only improve the efficiency of funds’ investment structures and reduce disproportionate tax consequences for inadvertent errors but also minimize the need for amended tax statements and amended tax returns.”

The Act amends the Internal Revenue Code with respect to regulated investment companies (“RICs”) as follows:

  • permits RICs an unlimited carryforward of their net capital losses
  • eliminates restrictions on the investment of RICs in commodities
  • limits penalties for failure of RICs to satisfy gross income and asset tests
  • modifies rules for allocating RIC capital gain dividend distributions
  • includes certain nondeductible items of RIC income in earnings and profit calculations
  • allows RICs that invest exclusively in the shares of other RICs to pass through to their shareholders tax-exempt interest and foreign tax credits without regard to certain investment limitations
  • modifies rules relating to the declaration of RIC dividends, return of capital distributions and stock redemptions
  • allows certain RICs with shares that are redeemable upon demand to treat distributions in redemption of stock as an exchange of fund shares or a dividend for tax purposes
  • allows a deferral of year-end losses of RICs
  • modifies excise tax and penalty rules applicable to RICs