Well, it appears that last week’s blog post on UPREITs struck a nerve because it generated a huge response. Not just in terms of viewership and comments but also in terms of questions. Below are a few of the more common questions that got raised:
What is tax treatment of my gain when I do convert my units?
Obviously you would want to consult your tax advisor to confirm what the treatment for your specific situation might be. That said, the treatment of your gain for tax purposes should be nearly identical to that of the gain you would have recognized had you simply just sold your property in a normal sale transaction. That means that un-recaptured section 1250 gain taxed at a 25% tax rate, as well as capital gains tax at the 15% rate will be considerations. Also, any appreciation in the stock will constitute additional 15% gain, and any depreciation expense you get allocated during your holding period will generally increase your un-recaptured section 1250 gain.
Are there any other quirks associated with a property contribution?
One other consideration is that during your holding period the rental income you will be allocated from the OP will have less depreciation expense from your contributed property than you would have otherwise expected. The rules are highly complex but essentially the built in gain you had on the day you contributed your property to the REIT (the difference between your tax basis and it’s FMV) is burned off by allocating you less depreciation expense, and consequently more income. As a practical matter, this means if you held your units for 39 years (or whatever the remaining depreciable life of the property is) you would have fully recognized your built in gain, albeit as ordinary income as opposed to capital gain. At that point, upon conversion you’d only have to recognize a gain from stock appreciation. Again, you’ll want to consult your tax advisor to make sure you understand the tax ramifications of such a transaction, as it can get tricky.
What are the transaction costs associated with such a transaction? Do I need to bring money to my own closing?
Transaction costs on the seller side are remarkably low, although it could result in needing to bring a nominal amount of money to the closing table. Often times such contributions are done by conveying the LLC, which owns the property, and in many cases can thus avoid transfer taxes that might otherwise apply. Also, most of the costs associated with the deal like legal fees, etc. are borne by the REIT. One thing to note however is any cash you receive from the REIT reimbursing your legal fees would be considered income to you.