Renewed Interest in Real Estate Investment Trusts

Real Estate Investing TrustsA Real Estate Investment Trust (REIT) is a corporation, trust, or association that combines the capital of investors to own and many times operate income-producing real estate (e.g., apartments). Generally, to be considered a REIT, the REIT must pay at least 90% of its taxable income to shareholders, must derive most if its income from real estate held long term, and ownership must be widely disbursed. The benefit of being considered a REIT is that dividends may be deducted, resulting in most (if not all) of the taxable income being taxed at the shareholder level. This is a major attraction for corporations that receive no deduction for dividends while the shareholders also have to pay taxes on such dividends (aka double taxation). The disadvantage of REITs comes in not retaining any of the REIT’s earnings for growth. The idea behind REITs is to increase investment in real estate by allowing investors a vehicle similar to a mutual fund.

The opportunity for tax reduction is catching the attention of many corporations that may not have traditionally been thought of as qualifying as a REIT. A recent New York Times article published on April 21, 2013, entitled Restyled as Real Estate Trusts, Varied Businesses Avoid Taxes, summarizes the various corporations that have or are in the process of obtaining I.R.S. approval to be REITs. This list includes private prisons and casinos. The article also notes that many corporations are figuring out ways of breaking off pieces of their operations into new entities that will qualify as REITs. The worry is that Congress may change the law if too many companies begin to benefit from the tax advantages of REITs, especially in this time of fiscal crisis.

The outcome of the heightened interest in REITs is unknown. Local to Washington State, Weyerhaeuser and Plum Creek of Seattle are two timber companies that operate as REITs.  In some ways the designation of these companies as REITs has worked out well (e.g., tax savings) but in other ways the classification has created more risk exposure to the ups and downs of the real estate market. The risks associated with being a REIT will not always be the same for each company, but the recent interest in REITs may subside if things don’t turn out financially for the corporations obtaining classifications as REITs. In any event, the current worry is that Congress will change the law relating to REITs in reaction to the lost tax revenue associated with the increased number of companies becoming REITs. If this occurs, many will lament that those who were not intended to benefit from the REIT laws are the ones that ruined REIT laws. But Congress has yet to take notice and consider changing the laws of current Real Estate Investment Trusts.

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