# Dividends Received Deduction (DRD): Understanding the Tax Advantage

## What Is the Dividends Received Deduction (DRD)?

The Dividends Received Deduction (DRD) lets U.S. corporations receiving dividends from related entities reduce their taxable income, thereby alleviating potential triple taxation. Benefits depend on ownership stakes in dividend-paying corporations, with deductions ranging from 50% to 100%. Specific rules apply to qualify for this valuable tax advantage.

### Key Takeaways

*   The Dividends Received Deduction (DRD) helps mitigate triple taxation on corporate dividends.  
    
*   DRD allows corporations to deduct a portion of dividends received based on ownership stakes in the dividend-paying company.  
    
*   Changes under the Tax Cuts and Jobs Act affect DRD percentages for domestic corporations' dividends.  
    
*   Certain dividends, such as those from REITs and regulated investment companies, are ineligible for DRD.  
    
*   Dividends from foreign corporations may be deducted at 100% if specific criteria are met.

## Understanding the Mechanism of the Dividends Received Deduction (DRD)

The dividends received deduction allows a company that receives a dividend from another company to [deduct that dividend](https://www.investopedia.com/terms/t/tax-deduction.asp) 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](https://www.investopedia.com/terms/d/dividend-exclusion.asp) depends on its percentage of ownership in the company paying the dividend.

The [Tax Cuts and Jobs Act](https://www.investopedia.com/taxes/how-gop-tax-bill-affects-you/) (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](https://www.investopedia.com/terms/n/netoperatingloss.asp) (NOL) for the given tax year.

The 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](https://www.investopedia.com/ask/answers/102714/how-and-when-are-stock-dividends-paid-out.asp).

> **Important**
>
> Small business investment companies are allowed to deduct 100% of the dividends they receive from taxable domestic corporations.﻿﻿

## Important Exceptions to the Dividends Received Deduction (DRD)

Certain 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](https://www.investopedia.com/terms/r/reit.asp) (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](https://www.investopedia.com/terms/c/capitalgain.asp) dividends received from a regulated investment company.

Dividends from foreign corporations have different deduction rules than those for [domestic corporations](https://www.investopedia.com/terms/d/domestic-corporation.asp). 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.

## Real-World Example of the Dividends Received Deduction (DRD)

Suppose ABC Inc. owns 60% of DEF Inc. and has a [taxable income](https://www.investopedia.com/terms/t/taxableincome.asp) of $10,000 with a $9,000 dividend 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](https://www.irs.gov/pub/irs-pdf/p542.pdf) or the instructions included in Form 1120, Schedule C (or the applicable schedule of your income tax return).

## The Bottom Line

The Dividends Received Deduction (DRD) is crucial for certain corporations in the U.S. to avoid the burden of triple taxation on dividends. By understanding the eligibility rules and deduction tiers, corporations can effectively reduce their taxable income, whether the dividends are from domestic or foreign sources. The Tax Cuts and Jobs Act has adjusted DRD limits, but certain investments, such as REITs and capital gain dividends from regulated investment companies, remain ineligible for these deductions. Corporate shareholders must be aware of these rules to maximize their DRD benefits.  

> **Article Sources**
>
> 1.  Internal Revenue Service. "[Publication 542, Corporations](https://www.irs.gov/pub/irs-pdf/p542.pdf)." Page 10.
>     
> 2.  Internal Revenue Service. "[Publication 542, Corporations](https://www.irs.gov/pub/irs-pdf/p542.pdf)." Page 11.