What Is a Distribution-in-Kind?

A distribution-in-kind, also referred to as a distribution-in-specie, is a payment made in the form of securities or other property rather than in cash. A distribution-in-kind may be made in several different situations, including the payment of a stock dividend or inheritance, or taking securities out of a tax-deferred account. It can also refer to the transfer of an asset to a beneficiary over the option of liquidating the position and transferring the cash.

Understanding Distributions-in-Kind

Investors can invest in a company by buying bonds or stocks. Bonds pay investors a return in the form of interest payments. Stocks pay investors a return in the form of dividends and share price appreciation. A dividend or share buyback is a distribution of cash to investors.

In general, companies that are doing well pay out healthy and growing dividends. These companies also buy back stock. Companies with declining earnings may be forced to buy back stock or pay dividends with borrowed funds. Another alternative is to distribute dividends in kind.

Key Takeaways

  • Distributions-in-kind are payments made in an alternative format, such as property or stock, instead of cash.
  • Companies and organizations use distributions-in-kind to minimize their tax liabilities and circumvent capital gains tax accruing from an increase in the asset's value.
  • Taxes may be applicable in some instances, such as distribution in kind related to real estate transactions.

Distributions-in-Kind Are Not Always in Cash

Not all distributions are made in cash; some are made in kind. The most common form of a distribution-in-kind occurs when a company pays a dividend in stock rather than in cash. A distribution-in-kind may also be employed for tax reasons. In certain situations, receiving appreciated property directly can result in a lower tax bill versus selling the property and receiving the value of the property in cash.

Some funds deliver distributions-in-kind to investors after a certain threshold. If an investor redeems shares in the fund over the threshold, the remainder of the redemption value is paid in kind with shares of the fund. The reason for doing this is to prevent large tax hits in the event of high redemption activity.

Advantages of Distributions-in-Kind

In-kind distributions are not just advantageous for the company. Investors in tax-deferred accounts like to receive distributions-in-kind because they help to reduce taxes. People who inherit shares generally receive them in kind for this reason. Investors with individual retirement plans can also take distributions-in-kind—especially for the required minimum distributions (RMDs) they have to take. In fact, distributions-in-kind can be used for an entire RMD. This means people can take the actual stocks and bonds out of the account as a distribution without liquidating them.

Investors who wish to keep fully invested accounts may find this to be a valuable option. Distributions-in-kind are also good for stocks that are undervalued or may go up significantly. This allows the investor to record the profit from share price appreciation as a capital gain rather than ordinary income, which is generally taxed at a higher rate.

In-kind distributions are also a favored method for distributing proceeds in the venture capital and private equity fields. Instead of liquidating holdings and making cash distributions to limited partners, funds hand the investors equivalent securities to avoid capital gains tax on liquidated holdings.

Distributions-in-Kind in Real Estate and Trusts

Distributions-in-kind for real estate transactions may not be exempt from capital gains tax. The company or organization making an in-kind distribution of property instead of cash will still have to pay capital gains tax incurred by any appreciation in the property's price.

A similar case exists for transfers made to estates or trusts by a settlor. Such transfers of assets are taxable, and so the settlor is required to report capital gains or losses (and the tax due, if any) on their income tax returns.