REIT Conversions Growing: Could Your Business Qualify?

Posted on Mon, Nov 10, 2014 ©2021 Drucker & Scaccetti

Real estate investment trusts (REITs) have long been tax-favored vehicles for promoting investment in real estate. They can escape entity-level taxation as long as 90% or more of its income is paid to the shareholders. There has been a growing trend of companies seeking REIT status that, in the past, did not fall cleanly within the traditional REIT model. In our previous blog, Why Every REIT Should Know About Taxable REIT Subsidiaries, we laid out the basic principles of REIT taxation.  Here we will summarize those basics and highlight several rulings and developments in the area that have recently made REIT status more widely available.

 

Background on REITs 

A REIT (assuming certain tests are met) is generally taxed as a conduit on income it distributes to shareholders. This means the REIT itself does not pay tax on the income it distributes, rather, its shareholders pay tax individually on their distributions. This single level of taxation is preferable to the double level of taxation some corporations face.

 

REITs are popular because they provide this tax-efficiency while offering an opportunity for small investors to pool funds for participation in large real estate projects by issuing REIT shares. The average investor usually cannot afford a building like they can a single share of stock.

 

However, to qualify as a REIT, the entity’s income must be derived primarily from passive real estate investments and it must maintain a minimum amount of “real estate” assets on its balance sheet.

 

Windstream Ruling 

Recently, Windstream Holdings Inc., a telecom service provider, received approval from the IRS to spin off certain telecommunications network assets into an independent, publicly traded REIT. Windstream’s telecom network assets qualified as real estate in the eyes of the IRS.

 

In the transaction, Windstream spun off certain assets, including its fiber and copper networks, into a REIT. The REIT then leased the assets back to Windstream for an estimated $650 million per year. When these rent payments are distributed to the REIT’s shareholders, the income will only be subject to tax at the shareholder level. Comparatively, the deduction Windstream will take on its tax return for the rental payments will offset income subject to the double-layered corporate tax.

 

Recent Rulings

This decision could serve as precedent for additional telecom companies to follow suit, as well as other businesses that involve “real estate” assets.  Along with others, the Windstream ruling also demonstrates the IRS’s recently expanded view of real estate, which may make REIT status attainable for more companies. Some private letter rulings (PLRs) issued over the past few years reflect a more taxpayer-favorable approach to the REIT rules. Below, are other relevant rulings:

  • PLR 201424017 held that commercially harvestable crops, as natural products of the land attached to the land, are real property until severed from the property;
  • PLR 201341015 held that revenue from managing parking lots or facilities associated with office properties would be treated as "rents from real property;”
  • PLR 201334033 held that the telecommunication cross-connectivity service provided using wires, cables and other transmission equipment to provide tenants connectivity to carriers, their own servers, and directly with each other would cause no amounts received from tenants of buildings to be treated as other than "rents from real property;”
  • PLR 201317001 held that amounts received by a prison owner-operator under government contracts to "house" prisoners and detainees were payments to use space within a building and would be treated as "rents from real property;"
  • PLR 201314002 held that "data center" buildings with components designed to store and protect documents and data constitute "real property;"
  • PLR 201310020 held that boat slips at a marina leased by a REIT were "real estate assets;”
  • PLR 201250003 held that an offshore oil drilling platform and related permanent structures that are necessary for oil extraction are "real property," but that certain related machinery installed on the platform was not;
  • PLR 201204006 held that "sign superstructures," described as large, welded steel frames bolted to the property, with the "top sign" consisting of an LED video screen, are "real property;"
  • PLR 201143011 held that outdoor steel billboard structures that were part of the building structures, or separately constructed structures in the case of the tower steel billboard structures, are "real property;" and
  • PLR 201129007 held that wireless and broadcast communications towers, and sites on which such towers are located (including fencing, shelters, and permanently installed backup generators), are "real property."

 

It is apparent that the IRS has recently received many ruling requests for determining the types of assets that constitute real property in the REIT context.

 

If you have an entity that owns a significant amount of real property, or if you are considering real estate investments, a REIT structure can provide significant benefits. The team of experienced consultants at Drucker & Scaccetti can help. Contact us via the “Ask A Tax Warrior” button below if you have any questions about your situation.  We are always prepared to help you with this or any other tax matter related to real estate ownership.

Topics: real estate, Conversion, REIT, property, Windstream ruling, PLR, Tax, IRS

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