Tuesday, October 28, 2014

Changes to the REIT Space

In 2014, the Internal Revenue Service (IRS) issued Written Determinations that, in effect, enabled certain companies to be considered REITs. The IRS affirmed in these instances elections to consider certain assets as real property; this could have broad ramifications for certain sectors.

There are implications for strategies related to asset acquisitions for REITs, as the rulings by the IRS may result in there being additional asset classes – such as, IT infrastructure, agriculture, and advertising – that may prove to be attractive, high-yielding investments. Moreover, the IRS rulings indicate that the definition of REIT might be more malleable than previously thought, which implies that there could be more opportunities to profit from the expansion of the REIT space.

The Written Determination of the IRS impact the potential for firms to save on taxes, thereby affecting their ability to compete. The IRS ruled in the determinations mentioned above, as well as determinations not released to the public, in favor of certain companies electing to be treated as REITs. Certain companies may then benefit from their status as REITs through decreases in taxes. Previously, the IRS did not indicate that it would be willing to treat certain companies as REITs. Although the IRS is clear that these rulings may not be viewed as precedent and only apply to the companies that are the subject of the rulings, certain companies with businesses similar to the companies addressed directly by the IRS may look to the rulings as indication that the assets or asset types discussed in the rulings can be securitized.

If the IRS rulings are truly indicative of willingness to treat certain companies that securitize the assets or asset types discussed in the rulings as REITs, there may be more REIT spin-offs to come in the near future. In 2014, plans have already been released for major REIT spin-offs that have the potential to change the REIT space. In August, Windstream LLC announced that it would establish Windstream REIT through securitizing its IT assets. Windstream received a ruling from the IRS indicating that the IRS was willing to treat the assets owned by Windstream REIT as real property. The assets owned by Windstream REIT include IT infrastructure that previously had not been considered real property. Similarly, Iron Mountain Inc. announced that it would convert to Iron Mountain REIT after the IRS indicated that its assets would be treated as real property.

The IRS rulings and the subsequent decisions to spin-off assets into REITs can cause significant consequences, both positive and negative, to the tax-base and to certain companies that may elect to have their assets treated as real property. Although the rulings can potentially erode the tax base – which may lead to renewed focus on attempts by corporations to avoid paying their share of taxes – certain companies can save on taxes and gain access to cheaper capital. REIT conversions or spin-offs with their benefits may enable certain companies to succeed. There is speculation that the REIT spin-off announced by Windstream may cause larger players in the telecommunications space to consider similar restructuring.