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Chapter 20

Chapter 20. Ownership Structures for Financing and Holding Real Estate. Chapter 20 Learning Objectives. Understand that the ownership form is defined by legal considerations

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Chapter 20

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  1. Chapter 20 Ownership Structures for Financing and Holding Real Estate

  2. Chapter 20Learning Objectives • Understand that the ownership form is defined by legal considerations • Understand the three main determinants of the form in which real estate is held, the federal tax environment, issues of personal liability, and access to equity capital markets • Understand that investors are averse to incurring liability beyond the amount of their investment • Understand the basic tax regulations and legal considerations that govern each type of ownership form • Understand the risks and returns of various ownership forms

  3. OWNERSHIP STRUCTURES FOR REAL ESTATE INVESTING • Sole Proprietorship • C Corporation • S Corporation • Partnership • Trust

  4. FACTORS IN DETERMINING OWNERSHIP FORM • Tax treatment • Legal factors such as personal liability • Economic factors such as access to the capital markets

  5. SOLE OWNERSHIP • Simple and inexpensive to create • Taxed as individual - no double taxation • No access to the capital markets • Unlimited liability • Loss deductibility subject to passive loss restrictions

  6. C CORPORATION • Articles of incorporation • Separate legal and taxable entity • Limited liability to shareholders • Losses do not flow through to shareholders • Greater access to the capital markets • Double taxation of income

  7. S CORPORATION • Separate legal but not taxable entity • Taxable income and losses flow through to shareholders • Limited liability • Cannot have more than 75 shareholders • Income and losses allocated based on proportion of ownership

  8. GENERAL PARTNERSHIP • Income and losses flow through to partners as determined by partnership agreement and not by proportion of ownership • No double taxation • Unlimited liability for all partners • Fairly uncommon in real estate

  9. LIMITED PARTNERSHIP • Personal liability for some partners limited to equity investment • Must have at least one general partner • General partner has management responsibilities • No double taxation • Income and losses flow through per the partnership agreement

  10. MASTER LIMITED PARTNERSHIPS (MLPs) • Creates one large partnership out of many smaller ones • Increases liquidity and access to the capital markets • MLPs investing in real estate are treated as partnerships and not corporations • Income classified as portfolio income instead of passive income

  11. REAL ESTATE INVESTMENT TRUSTS (REITs) • Created by the Real Estate Investment Trust Act of 1960 • Corporations that invest in real estate • Advantages include limited liability, favorable tax treatment, and access to the capital markets • Some specialize in certain types of real estate

  12. REIT REQUIREMENTS • At least 100 shareholders; no five investors can own more than 50% of the REIT shares • Distribute 90% of its taxable income in the form of dividends • 75% of assets in real estate, cash, or government securities • 75% of gross income from real estate

  13. REIT TYPES • Equity REITs invest in and operate income-producing properties • Mortgage REITs purchase mortgages • Hybrid REITs invest in both • All offer diversification and liquidity • Most are closed-end vs. open-end • UPREIT - REIT partners with a partnership

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