UPREIT

The real estate industry in countries like Belgium, France, Finland, Australia, and other nations have successfully lobbied their governments to allow them to get closed-end commercial property funds.

The subsidies provided by the government help in economic development created by the competition between taxable and non–taxable institutions. 

The UPREIT structure is called the umbrella partnership REIT, where all REIT properties are acquired and owned directly or indirectly by the REITs, which is the entity through which they operate and collect all income from the commercial real estate asset classes.

A typical UPREIT transaction allows the property owners to contribute their share in exchange for ownership units in the partnership.

History –

In the early 1990s, the commercial real estate industry faced a significant downturn where the capital markets dried up, and banks, thrifts, pension funds and insurance companies stopped lending. Commercial units had to adapt their methods to raise equity to pay the debt.

The UPREIT structure was introduced in 1992 as it could overcome tax difficulties. It provided the path to privatize real estate firms to contribute to developing permanent capital vehicles and gain access to equity capital markets without paying huge tax bills. 

The UPREIT provide the structure where the REIT owns all the properties and conducts business through a limited partnership subsidiary called OP.

Such properties gained prominence in 1993. The regulations were passed to encourage institutional investment in the sector. There are certain tax benefits in such transactions. 

For a third-party contributing property to the operating partnership, the capital gain tax liability is deferred unless the OP Units are converted into cash or common shares of the REIT.

Some of the conditions followed in such transactions are –

The REIT's material units consist of the OP, and it receives such units in exchange for the contribution of cash proceeds from the IPO.
The units are economically equivalent to REIT shares, and one can receive per-unit cash distributions equal to per-share cash dividends paid by the REIT to the holders of the shares.

The limited partners can typically redeem OP (some or all units) after a one-year holding period. After redemption, one can pay cash for the units or issue shares in exchange for the units on a one-to-one basis.

The OP Unitholder earns a portion of the operating partnership's total income, including the income from each state where it transacts the business.

The UPREIT transaction makes sense in the condition when the property owner is looking to get one or more –

• Defer capital gains tax (given in condition when appreciated real estate is sold)

• Eliminate management hassles of the owning real estate

• Diversify ownership of a real estate portfolio

• Receive consistent quarterly income

The following type of holdings are considered good for UPREIT transactions –

• Family-owned properties with unresolved succession issues

• Possessions with 3rd party tenants

• Partnerships which require to be dissolved

• Long-term assets with a low basis

• The surplus generated through consolidations

• Assets with not much value to the owners