Not investment advice. Educational reading. See Disclaimer.
L.1 · INTERMEDIATE · 3 MIN
What is a Business Development Company?
A Business Development Company (BDC) is a publicly traded fund that lends money to mid-sized private companies (typically issuers borrowing $10M-$100M). BDCs are Regulated Investment Companies (RICs) under the Investment Company Act of 1940. Distributing at least 90% of investment-company taxable income (IRC Subchapter M, sections 851-855) eliminates corporate-level tax on the distributed portion. To also avoid the 4% excise tax under IRC section 4982, most BDCs target at least 98% of ordinary income and 98.2% of capital-gain net income. Net long-term capital gains have separate distribution rules. The 90% threshold is qualification; the 98% threshold is excise-tax avoidance - both matter for retail investors modelling BDC distribution coverage.
BDCs let public investors access middle-market private credit -- a market normally reserved for institutions and direct lenders.
§ 02BDCs versus REITs, mutual funds, and hedge funds
Vehicle
What it owns
Tax treatment
Liquidity
BDC
Private middle-market loans
Pass-through (90% rule)
Daily on exchange
REIT
Real estate / mortgages
Pass-through (90% rule)
Daily on exchange
Mutual fund
Public stocks/bonds
Pass-through
Daily NAV
Hedge fund
Anything
Partnership
Quarterly+ lockups
§ 03Spot BDC yields above the market
Open the BDC view (/?view=bdc) and look at the list of public BDCs. Notice how each shows a yield far above the S&P 500 average.
§ 04A leading BDC dividend yield and price-to-book, live
ARCC — Dividend Yield, Price / Book (NAV proxy). Open ARCC on the Ledge to see current values.
§ 05Why BDC dividends are taxed as ordinary income
Distributing 90%+ of taxable income lets a BDC qualify as a Regulated Investment Company (RIC) under Subchapter M of the tax code. That election avoids corporate income tax — the BDC acts as a pass-through, and shareholders pay tax on dividends instead — and they pay at ORDINARY income rates: BDC distributions pass through interest income, so the bulk is non-qualified. This is the single most important tax fact for a yield-focused holder, and it is why BDCs are commonly held in tax-advantaged accounts. Note the contrast with REITs: qualified REIT dividends are eligible for the Section 199A 20% pass-through deduction, but a typical BDC's distributions largely are NOT — a RIC can pass 199A treatment through only for qualified REIT dividends it receives, and the loan interest that makes up most BDC income is not qualified business income. Any 199A-eligible portion is reported on the 1099-DIV and is usually small. Without the RIC election, the same dollar of investment income would be taxed twice — once at the BDC level and again at the shareholder level — so the 90% distribution rule is the structural feature that makes the public-BDC vehicle economically viable for yield investors.
§ 06Is a new BDC's early NAV decline a concern?
A newly-launched BDC raises $100M at $10/share NAV. After 3 months, NAV is $9.50 and it trades at $9.20. Is this a concern?
Check your understanding
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Sit with the ideas.
Why must a BDC distribute at least 90% of its taxable income as dividends?
Pick a publicly-traded BDC (ARCC, BXSL, OBDC, MAIN, etc.). Compute the spread between the BDC's dividend yield and the 10-year Treasury yield. Paper-buy with a thesis explaining whether the spread compensates for the credit risk you're taking.
