A former investment banker for Goldman Sachs in NYC, Sal is one of the nation’s leading authorities when it comes to investing in residential and commercial real estate. Certain types of income that a REIT may receive from tenants is considered impermissible tenant services income (income that derives from services that are generally provided for the convenience of a tenant and not customarily provided in connection with the rental of space). An overview of a typical structure of a UK real estate fund and areas of tax to consider when setting up a property investment fund. However, diversified and specialty REITs may hold different types of properties in their portfolios, such as a REIT that consists of both office and retail properties. In the partnership structure where a fund holds properties in several states, there exists a tax filing requirement at the partnership level in each state where a property is held and tax must generally be withheld on behalf of nonresident partners which can be a time-consuming and costly process. To qualify as a REIT, the U.S. business entity has to make an election to be taxed as a REIT, and satisfy on an ongoing basis a number of ownership diversification, real estate asset and income concentration, active business prohibition, and distribution requirements, among others. However, there are a variety of ways to specify the calculation of a preferred return based on the timing of capital contributions or fund investments. Dividends paid by a U.S. corporation to foreign investors, while taxable in the U.S., are handled through withholding at the source, so foreign investors do not need to file a U.S. income tax return to report dividend income to the U.S. tax authorities. "Real Estate Investment Trusts (REITs)." This is best explained further with an example real estate private equity fund profit-sharing structure: Let’s say the Limited Partners (also known as the LPs) invested 95.00% of the capital in the fund, and the Sponsor invested the remaining 5.00%. Current market conditions have also made the availability of debt financing rather scarce in comparison to pre-financial crisis market conditions. This debt-equity package (often known as "interest stripping") is still popular with foreign investors, because interest on debt can be used to offset the taxable income of the corporate blocker at the federal, state, and local levels, which, when combined, represents a significantly higher tax rate than the withholding tax on interest paid to the foreign investor. General fund expenses are also typically factored into the overall net profit or net loss available to investors. It's also a good idea to check out the broker or investment advisor who recommends the REIT. You can also use EDGAR to review a REIT's annual and quarterly reports as well as any offering prospectus.". At the largest and most complex end of the spectrum are non-traded and traded Real Estate Investment Trusts (REITs), which are pooled investment vehicles requiring a large number of investors to satisfy regulatory and tax requirements and generally requiring a substantial asset base to justify the costs of formation and operation. If the foreign investor is a corporation, it will pay an additional 30% branch profits tax on its after-tax income. The same peculiarities of real estate investment also require that a sponsor heavily regulate the cash flows into and out of a fund to manage the fund's liquidity and valuation. Allocated long-term capital gains would be taxed at the current preferential rate of 20%, plus the 3.8% NII tax. In our example, Alejandro could structure the Coffee Fund as a Delaware limited partnership ("Coffee Fund LP"), since the fund's investments will be made in the United States.4 Under this structure, Jay Gatsby, Silvio Bellini, and Maple Leaf Pensions would contribute capital to Coffee Fund LP in exchange for limited partnership interests in Coffee Fund LP. For example, because of these treaty benefits, if Silvio Bellini's investment was made into a U.S. corporation, his combined effective tax rate would be only 38.25% (not 50.4%).7 Readers paying careful attention will have noticed that this rate does not include the 3.8% NII tax, as the NII tax generally does not apply to income earned by foreign investors. Delaware is the default state of choice in which to form a U.S. legal entity for transacting business and investments within the United States because Delaware has the most sophisticated corporate governance laws (e.g., laws relating to fiduciary duties of directors, officers, and general partners to shareholders and limited partners) and an efficient … Some funds will employ a “clawback” mechanism as a check against any over-allocation to a private real estate fund’s sponsor group. Generally, profits are allocated in the following order: While no fund can ever guarantee the payment of a preferred return, investors are assured that they will receive the initial profits from the fund’s investment activities before the fund’s manager/ sponsor is entitled to any allocation of profits. The PPM is often presented to potential investors at meetings and presentations – called "road shows," subject to the applicable requirements of the securities law (e.g. The capital call structure recognizes that most private real estate funds will be unable to precisely time the closing of the fund and the full deployment of all of the fund’s capital. Our attorneys have structured real estate funds throughout the United States using a variety of structures, investment strategies and jurisdictions. This article walks the reader through a basic structuring analysis.

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