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Thinking of Selling Your Building? REITs Talk on Unit Swaps, Taxes and How to Save Big Money
March 2010
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| Thomas Schwartz, President and CEO of CAP REIT |
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By Randy Threndyle
Most multi-residential owners who sell their buildings want to reinvest the capital in a secure investment that is likely to hold its value and, where possible, duplicate the returns that they formerly received from the building.
One reinvestment strategy that is attracting building owners is to sell a multi-residential portfolio to a real estate investment trust and reinvest some or all of the proceeds of the sale in the REIT. In some cases REIT units can be used as all or part of the payment for the building.
Thomas Schwartz, the President and CEO of CAP REIT, says many people who have sold their buildings to CAP REIT have later become investors. In addition, many of the REIT’s unit holders are people who own apartment buildings. “They understand the industry and they see CAP REIT as a good investment,” he says.
Taking REIT units as part of the proceeds of the sale can offer a significant tax advantage as tax can be deferred. In order to defer capital gains tax the vendor has to accept REIT units as part of the proceeds of the sale. The units the vendor accepts are actually limited partnership units that mirror the conventional REIT units.
“The effect of the transaction is that they are trading their building for units that are convertible into REIT units at their option. They act like a REIT unit and they have the same distribution and voting rights as a REIT unit,” says Schwartz. CAP REIT units currently have a distribution payout of 7.3 percent.
The advantage is there is no tax owning until the vendor decides to convert the limited partnership units into a REIT unit. When that happens all taxes are payable and the owner is now free to sell his units in the marketplace or continue to hold the units and receive the monthly distribution. Since CAP REIT is a publicly traded company, the units trade on a daily basis.
Schwartz says that while most investors prefer to take cash, he has completed one “significant transaction” where the company was able to use REIT units as part of the currency to acquire the buildings. Schwartz expects that the company will employ the strategy in future transactions.
While the market for multi-residential real estate has gyrated with the rest of the economy, Schwartz says today the market is “As close to a balanced market as we have seen in many years.”
During 2008, it was very much a sellers market, he says. “We sat out of the market in 2009 hoping it would come back into balance. We are active again now. We think there are good opportunities, we think prices have settled down and the cap rates, we think, are fair. It’s very much a balanced market and we hope to make some good acquisitions.”
The company, which is largely based in Ontario, owns 29,000 apartment units.
William Wong, Chief Financial Office, Boardwalk REIT
Another company, Calgary-based Boardwalk REIT, which is the largest publicly traded apartment building owner in Canada, has also seen a slowdown in acquisitions over the past year. Boardwalk currently owns 36,000 units.
William Wong, Chief Financial Officer of Boardwalk REIT, says the company was active in the market in 2007, buying an Edmonton portfolio with over 1,000 units. In 2008 Boardwalk made a few small acquisitions, but in purchased nothing in 2009.
Boardwalk, says Wong, has no set target on the number of units they need to buy. “We are very patient and very selective. In spite of the soft economy nobody has been rushing to sell. They are holding on to their real estate. There’s been no panic.”
That may change, however as owners who wish to retire put their buildings on the market. Typically, he says, that individual who is selling wants to diversify their portfolio and maintain a steady stream of income that doesn’t gyrate. Investing in REIT units is one way to do that.
While Boardwalk has not been involved in any deals where vendors exchanged a building for REIT units, they do have many investors who are former multi-residential owners.
Even although they have sold their building, investors still value the security and cash flow that real estate can give a portfolio, he says. “They still want to be in real estate, they just don’t want to own the building directly.”
Up until 2008, he says, most people were able to sell their real estate at a fairly good price. In most cases they preferred to pay the tax and invest the after tax profits.
Investing after tax profit in a REIT does offer some tax advantages, says Wong. For example, the money or REIT units can be invested in a Registered Retirement Savings Plan or another type of registered vehicle. “A lot of people consider real estate a core holding. In a registered vehicle it provides a steady more predictable income flow than other asset classes,” says Wong.
Holding REIT units also helps an investor diversify their portfolio. Instead of owning one or two buildings, they now own a portion of the much larger portfolio owned by the REIT. It also gives the owner liquidity as they can sell some REIT units, rather than having to sell an entire building to raise cash.
Another advantage for REIT unit holders, says Wong, is that REITs will be unaffected by the new rules for income trusts which take effect in 2011. Those rules will force most income trusts to convert to a corporate structure. That, he says, has created an increased demand for REIT units as investors looking for yield and tax deferral options will have fewer investment vehicles to choose from.
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