Real estate investment trusts (REITs) are a fundamental part of the commercial real estate industry, making massive purchases and drawing in huge amounts of capital from domestic and foreign investors every day. Baker Tilly partner Randy Barrus (pictured) says REITs are a unique vehicle for tax planning and attracting equity since REITs generally don’t pay tax. They also allow investors (foreign and tax-exempt investors in particular) to potentially escape US federal and state income taxes and receive a stronger ROI. But, REITs also have a number of tax rules and regulation requirements that can make them unappealing to many, if not approached with the right mindset or adviser.
In addition to special income and asset tests and regular SEC filings, Randy says the limitations on REITs—such as the inability to operate a business, quickly “flip” properties for gain, or offer tenants special services including maid or valet services—can be maddening for REIT owners, who have to struggle to find “good” assets that fit within these narrow boundaries. However, a good tax adviser can navigate a REIT through all the rules and potential traps, and Randy insists the tax benefits of a REIT “far outweigh any additional tax testing and SEC reporting requirements.”
When asked what makes a good adviser, Randy says straightforwardness is the best solution. All these complex rules can be extremely frustrating for his REIT owners—especially when they have a lot of moneymaking potential—so bogging them down with code sections or court cases won’t help.
“If you tell a real estate developer he can’t invest in some asset or complete a transaction that makes money, he would be frustrated,” Randy said. “It would certainly be frustrating to me. So, if someone doesn’t have a full appreciation of the rules, you have to understand why they’re frustrated. For a tax professional or adviser to say, ‘Well that’s the rule, you have to live with it,’ that’s not helpful, you have to try to understand their frustration to some degree.”
By being patient, relating to a client’s frustrations, and working around the limitations, Randy says an adviser can help a REIT make money while still respecting the limits. “You may have to educate them, but the most important thing is to try and find a solution or a work-around. So maybe you can’t sell an asset after a year and a half, but guess what? Maybe we can do an exchange under a 1031 or maybe we can wait two years, meet the safe harbor and then sell it. There are ways to plan around it, which is why you need a good tax adviser to find solutions.”
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