Demystifying REIT Organizational Requirements

Blessy Eapen:Hi, my name is Blessy Eapen and I'm a senior manager in the Real Estate Tax Services group at EisnerAmper. I'm based out of the New York City office. I've been with EisnerAmper for about four months now. Before EisnerAmper, I was with FTI consulting in the real estate tax group for 13 years. My main areas of focus is providing tax compliance and consulting services related to real estate and investments, including private equity, real estate and debt funds, equity and mortgage REITs and joint venture partnerships over the years. My client base consisted of a broad mix of operations including residential, commercial, hospitality, mixed use and construction. I specialize in navigating partnership and re taxation matters such as income allocations, distribution waterfalls, basis adjustments, maintaining REIT status, REIT dividend taxation, and structuring transactional analysis. With that, I'll turn it over to Gary Cutson.

Gary Cutson:Good afternoon, I'm Gary Cut. I'm the CEO and founder of two companies, a five reach services and a five securities which are involved in the private REIT space. We've obtained the 100 plus shareholders to qualify private REITs for that particular requirement and then handle the ongoing servicing and administration of the preferred shares and the preferred shareholders. Prior to forming these companies, I spent most of my career in public accounting and specifically in the real estate and REIT area. I'll turn it back over to Arthur.

Arthur Khaimov:Thanks Gary. Alright, just quickly before we dive into today's topic, just wanted to give a brief overview of what you can expect. We will briefly review some other topics. The main goal of today's webinar or the organizational requirements, we believe some of the organizational requirements are sometimes overlooked as the main focus could be the read the asset test, the distribution tests, but equally important are to understand their organizational requirements. Know that this is only now a presentation, so we obviously cannot dive into all of the issues that lengthen. This is meant to be a high level overview of all these issues, so let's just dive into the first. So what is a REIT? A Real Estate Investment Trust is a corporation business trust association that aggregates the capital of many investors to own or finance real estate taxes. In 1960 via the Cigar Excise Tax Extension Act, REITs were created to give all investors the opportunity to invest in large scale diversified portfolios of income producing real estate. Part of the reason was to allow investor access to real estate. Congress wanted to allow everyday investors to be able to invest in diversify real estate portfolios similar to how mutual funds provide access to stocks.

A major benefit of REITs as opposed to let's say a regular C corporation, is the ability to deduct dividend paid dividends that are paid to shareholders. In essence, it's almost like a flow through entity where you eliminate entity level tax by distributing that income to shareholders must satisfy certain asset income distribution organizational requirements to qualify for these benefits. And generally speaking, if a re distributes a hundred percent, so it needs 90% to maintain REIT status, but in order to not pay any taxes that they enter the level it has to distribute a hundred percent of its taxable income. And next slide. I believe we have a polling question.

Bella Brickle:Poll #2

Arthur Khaimov:I like D.

Bella Brickle:Alright, I'm now going to move to the results slide.

Arthur Khaimov:Alright, great. I guess most people got it right. So why are we just, once again, high level items avoids double taxation as I just mentioned, via the dividend paid deduction avoids FIRPTA. Now FIRPTA, just to expand a little bit on this, this is a benefit for foreign investors that invest in domestically controlled REITs. In essence, the sale of those shares typically avoids SEPTA withholding and also avoids withholding taxes for qualified foreign pension funds who provide the proper documentation that they are in fact A-Q-F-P-F avoids UBTI, essentially the reed once again, being that it's a blocker corp, it avoids for any tax exempt investors who have sensitivities to UBTI avoids UBTI exposure blocker for ECI purposes, effectively connected income for foreign investors that would otherwise, if you have a foreign investor investing in traditional partnership real estate partnership structure, it'll be subject to ECI withholding via 1446 requirements and you would have to file 88 0 4 forms, et cetera.

But having a read in the structure blocks that domestic control reads, we just spoke about regards to fer converts rental or interest income to dividend income, that's important for as we'll not discuss in a few seconds. The 1 99 A avoid state or local income taxes. Once again, most states piggyback off the federal rules. So for income tax purposes, most states if the re distributes a hundred percent of its net income, it'll avoid having income state and local income taxes and excuse me, minimize the state compliance burdens and simplified reporting. Those are actually big REITs allow US investors to invest nationally in a pool of diversified properties without exposure to multi-state tax filings. So what does that mean? And it comes hand in hand with simplified reporting in that it eases the compliance burdens on multi-state structures as any entity above the REIT would not need to report any state source income and file in many states.

So essentially it's a benefit for both the entities, the re entity, and any entities above the read as well as investors. So for instance, if you have a read with a fund above it, which is the typical case in a private REIT setting, the fund, if the REIT files in 30 states, the fund will not have to file in 30 states. Essentially it blocks all those, it serves as a blocker and same for an investor. Investors will not receive, they'll receive perhaps a K one from a fund, but not obviously the re they'll get a 10 99 from the REIT. So essentially the investor themselves, investors will not have to file in 30 states either. So it's a huge benefit.

And another big one is a section 1 99 QBA deduction. Auto qualification read dividends automatically qualified for the QBI 20% deduction regardless of the trader business. This deduction can provide significant tax benefits, especially for high net worth individuals by reducing the highest effective federal income tax rate from 37% to 29.6%. This may not be the case in a non restructure where a high net worth individual may be faced out of those benefits and obviously as we'll discuss that the one big beautiful bill proposes to increase debt to 23%. So it's a huge benefit there. And then the miscellaneous deductions for mortgage REITs and debt funds post TCJ starting from 2018, the portfolio deductions were no longer available for individual investors. As such, we've been involved with a lot of restructuring where we restructured debt funds into re so that they can deduct all expenses but would otherwise not be deductible by the individual investors.

Just a quick example of that because I think it's important. If you have a debt fund that files as a partnership and let's say it incurs a hundred dollars of interest income and $20 a dollars of portfolio expenses, essentially the individual tax payer would pay taxes most likely on the full a hundred dollars of interest income. Whereas if you have a restructure, the taxable income will be reduced from a hundred dollars to $64 to the ultimate investor via two things, the ability to deduct portfolio deductions at the REIT level and also the 20% QBI deduction.

Next one, quickly, just the typical restructure. There are others obviously this is just to show how many US investors, foreign investor, tax exempted investors can go into the read via fund. Just wanted to, let's just go into the next slide. So asset class, just quickly, when we view REITs, we sometimes think of restrictive asset classes with all their rules around REITs, but just wanted to show just a short list, not an all-inclusive list of all the asset types that we've seen where REIT can be used. And I'll now hand it over to Don to go through some of our org requirements.

Donald Zief:Thank you Arthur. As Arthur said, this presentation is really going to focus on organizational requirements. These are applicable from the get go day one, and if these aren't complied with, we don't even get to the asset test income test distribution tests which are operational. So we have nine issues listed here. I'm going to go over the first five and then Gary is going to take over from go over from six through nine. So the first requirement that we want to talk about is that the REIT, it's right in the statute. REIT must be managed by one or more trustees or directors. So two things. First of all, there's no minimum requirement of a director or trustees in the tax code. You can have one, you can have 10, 15, whatever. It's those requirements are in blue sky laws and in securities laws, state laws generally a minimum of three directors and at least one has to be independent.

But again, that's not the tax code. Those are other laws that impose that. And you see trustees here because back when REITs were formed or enacted, most businesses were operating through business trust. That's why I see trustees director, the term director came in much later when people started operating through corporations. So let's just look what a trustee or director has to do. They have to hold legal titles of the property and have such rights and powers so that they have continuing exclusive authority over the conduct of its affairs and the management and disposition of his property. However, the iris has ruled that that continuing exclusive authority requirement isn't violated by delegating authority to the third party to manage the REITs investments. Now that's just investments. The trustees directors have to have exclusive authority over all other fiduciary items such as negotiating leashes, deciding when or whether to buy and sell buildings, personnel decisions, things like that.

Now one thing to watch out for is if you have an LLC, very typical and very common, it converts to a REIT. What are the duties and requirements and obligations of the managing director? Do they align with what a director or a trustee of a REIT has to have? Because that management record is probably going to be a director or trustee of the REIT. And so you have to examine the provisions in the LLC agreement, compare them to what's required in the re document and to make sure that if they're not, at least from day one, the re charter articles incorporation has the rights and responsibilities that a trustee or director has to have for a re.

Okay, next, here we go. So the has to have transfer shares and the operative word here is transferable. They don't have to be freely transferable, just transferable. So there can be some restrictions on the transferability, but they don't have to be traded, for example, on a public market so that everybody can by and sell frequently. But on the other hand, what it can't have is what's typical in general partnership agreements that a partner can dispose of his or her interest with the consent of the general partner, which shall not be unreasonably withheld. That doesn't apply in the reed context. There has to be much more freedom to dispose of shares than that. But I listed some common restrictions that the IS has ruled on that are permissible. One restrictions imposed by securities laws. Two restrictions where the trustee or director believes of failure to redeem shares or transfer would result in a loss of reach status.

For example, Gary's going to go over a little bit later that re has to have at least a hundred shareholders. Shareholders sell to that there's less than a hundred. Their trustees can prevent that transfer from occurring. Also, if transfer would cause a transfer to own in excess of what's called an ownership limit, Gary's going to go over this as well later on. Sometimes there's an ownership limit of nine or 10% in a rate. No one can know more that if someone does so that someone else drops below 10 or whatever, that's a reasonable restriction that with transfer shares as well. Also stock issued to REIT employees, it has to be forfeit back before investment is also a reasonable restriction. And finally, this lesson is very interesting because is to maintain domestically controlled reach status, which goes to whether the RE has more than 50% foreign ownership or not, which goes to whether foreign owners will recognize gain on sale their re shares. That has nothing to do with re status whatsoever. Yet the IRS has generously ruled that a restriction controlling this is a permissible restriction to each shares terms restrictions as well. Also, we can't be a financial or insurance company. That's pretty easy to spot that whether it can't be a bank insurance company. Oh, I see. We now have our next polling question.

Bella Brickle:Poll #3

Donald Zief:So yes, the REIT can restrict the transfer errors in certain situations. Again, they can be overly restrictive, but they can do in certain circumstances just to prevent the loss of breach status. I now how does a corporation become a REIT? So there's only one way and that is to file a tax adjourn. There's no other election file a tax adjourn on 1120 REIT instead of an 1120 and you've elected to be treated as a REIT. Now you have to pass the other operational tests that Arthur mentioned and bless you'll go into, so we have here a corporation can be elected to be a REIT. It has to be domestic. A foreign corporation cannot be a REIT for taxpayers, it must be domestic. A REIT can have what's called a taxable reed subsidiary. That's a C corp A REIT owns, owns and can control. That can be a foreign entity, but a REIT itself has to be domestic. So the re elects on fine form 1120 REIT and competing taxable income as a REIT would, that is the only method to re status as with any C corporation. Return returns due by April 15th can be extended up to October 15th. So just be aware for the very first year read elections made to maintain all your return receipts, certified return receipts, proof of electronic filing, whatever.

If you decide to be a read for 2025, you have a lot of time to make that decision because you don't have to file that return until October, 2026. You have to file an extension if you want in April, but you have a lot of time to revisit that decision as to whether you want to be a REIT for 2025. Now what if it's being a recent annual election by filing a REIT return? What if you file a return and the next year you forget or for some reason it's not filed? Do you lose your REIT status? The answer is no. You keep your REIT status. You may have some late filing penalties because you filed late. Maybe there's some relief you can ask the IRS for, but you won't lose your read status because of a failure to file after you filed your initial return. Most of the rulings in this area come were a reason neglected to file its initial return. The attorneys thought the accountants were doing it, the accountants thought that the client was doing it and somehow it got missed. The IRS would generally allow you to file a late return for your initial year if it can show that you haven't profited by your error. And the IRS is not disadvantaged by giving you that relief.

So if you want to terminate your reelection, you can't do it just by not filing your second or third year. You have to do one or two things. One formally revoke, tell the IRSI don't want to be a REIT anymore or you cannot meet one of the tests you have too much of your assets or don't qualify for 75% asset tester. Not enough income is good income. Something like that. Now finally last thing I want to talk about is

Arthur Khaimov:I apologize, I was just going to talk. I see it's about to be mentioned here, but as far as making the reelection, I just wanted to point out that be careful with the ADA 8 32 forms. You should really talk to your advisors whether to file one or not to file one. You don't have to file an ADA 8 32 form to be taxed as a corporation to then be, as Don just mentioned to them, be a read. You can skip that and there may be reasons why you may want to skip that or not. So don't just make that decision without speaking to your advisors.

Donald Zief:Right, thanks. Actually, what I was going to talk about right now, so has to be on a calendar year, not a fiscal calendar year and a week return is apple for the entire year. And for example, I think what Arthur was kind of getting is if you have an LLC that existed all of 2026 in April of 2026, that return goes back to day one, January 1st, 2025. Therefore for the entire year, all your activities and your assets must be REIT compliant. It's not good that good enough to say, well I have this entity, it's existed for 2025, I think I'll make a reelection as of October 1st. There's no really no way to do that. The REIT return covers a whole year. So the only way to do that if you want to, for example, if you have bad assets or something occurred during the first or second quarter of the year that you only want want your year to start October 1st, that's Arthur said you file a form 88 32, you check the box.

Now your LLC is not a corporation, now a corporation, your year has now started October 1st and the week returned. When you file it for 2025, goes back to October 1st of that date. The danger is that once you file that 88 32, you're a C corp. And if later on you decide, I don't think I want to be a re, well, you're now a C corp and the only way to get out of double taxation is to be a re or just you really can't revoke the 88 32 election, you really have to liquidate or do something else. So as Arthur said, as make sure you want to be a reit. And then the method to do it is whether you follow a return for the entire year or cut the year off short on 88 32 so you can choose when the tax starts. So with that, I think Blessy is going to, no, I'm sorry Gary. Gary. Gary's going to talk about the rest of the organizational requirements.

Gary Cutson:Thanks, Don. So as Don said, one of the requirements is that the REIT be owned by 100 or more persons, and that requirement applies not for the first tax year as a reit, but beginning with the second tax year is a reit. And as a result, that requirement must be met by January 30th of the second tax year. There's no minimum investment requirement that applies in terms of the amount that each shareholder owns. And unlike many provisions in the internal revenue code, including the closely held test that we'll talk about shortly, there's no attribution rule for this test. So the a hundred persons have to be direct shareholders of the reit. As a result, a partnership, for example, with 10 partners would be treated as a single shareholder of the reit.

Now these timing rules, the 335 day rule is one that has to be considered not only with respect to the first year that you elect REIT status, but also in the final year of the reit, when the preferred shareholders that are typically used to satisfy this requirement for a private REIT get redeemed out near the termination of the entity as a reit. So you have to consider this both going into REIT status and on the way out. So when people who are looking at doing a private REIT hear about this rule, their immediate reaction is, okay, well how do you satisfy this requirement? So to what typically happens is the REIT sells one preferred share to each of a hundred plus investors and these shares are issued typically at a thousand dollars a share. Or if a sponsor is creating a large number of REITs and has a multi REIT transaction, then the issue price typically would be reduced down to $500 per share.

The shares typically pay a 12% preferred dividend that's payable either annually or semi-annually. And when people first year, oh, 12% dividend, that sounds great. Well, what I tell potential investors that are looking at this product is that they have to think about it from the perspective that one, that 12% dividend compensates them for the risk in the investment and the risk of leverage in the reit because the REIT of course typically is going to leverage its investments and the preferred shareholders are in line after the creditors of the REIT in terms of receiving their dividend or return of their investment. The investment also is illiquid. You can't take it down to Schwab or Merrill Lynch tomorrow and sell it. It's sold in a private placement and hence illiquid. And then the amount of the investment is either $500 per reed or a thousand dollars per reit. So it takes a large number of investments to really generate a portfolio of any size and to invest, you have to go through the process of investing in a private placement. So how does the sponsor or the REIT go about obtaining the shareholders? Well, first some people have tried and some people have done it sit by the sponsor selling the shares to a combination of employee friends and family members of the employees.

Now that can be a bit of a challenge because the investors generally must be accredited investors under the federal securities laws and in some cases in some transactions must also be qualified purchasers, which is a higher standard that generally requires ownership of $5 million or more of investment assets. So finding these a hundred plus individuals to purchase the shares can be a cumbersome and time consuming process for management who typically wants to go onto the next transaction rather than dealing with housekeeping for the last transaction. And as a practical matter, very often their difficulties that arise when employees leave the company, hopefully they leave on friendly terms, but it becomes a bit of a difficult administrative task frankly, to keep up with these people as they move from job to job and one location to another as people tend to do these days. Now, one of the risks is frankly that the ongoing administration is not really a core function for the sponsor, for the reit, and that can lead to potential footfalls in compliance and potential disqualification of the dividends that are paid to the common shareholders, which are typically much greater in amount. And those dividends have to qualify for the dividends paid deduction in order for the REIT to deduct the dividends and to continue to be qualified.

So that's kind of option number one. Option number two is to outsource the process to firms such as ours that specializes in both offering the private reach shares and the ongoing administration. We have, for example, an affiliated broker dealer that has a large base of eligible investors who are familiar with the product who've been pre-qualify for the product and are very interested in investing in this type of product. The typical offering would be for a range of 110 to 125 shares. The 110 exceeds the minimum required for tax purposes and provides a little bit of cushion, which everyone likes to have. And the upper limit typically is a hundred, 125 shares. We provide templates for all the offering documents, which are principally the private placement memorandum and the subscription agreement. And the PPM for these is much more simple than what you may have experienced if you've dealt with a fund. PPM. These things typically run the boilerplate typically runs about 40 pages or so, and that's the information about risk factors, legal structure and tax risks and tax considerations. The timeframe is generally about three weeks from the time that we receive the final offering documents, and we've seen people complete the final offering documents as a little week if they were coming down to the wire and sometimes they just take six months because this is the easiest project they have to kick down the road and do later.

We also have the systems in place for paying the dividends for doing the 10 99 reporting to the shareholders and to the IRS. We initiate the process for the dividend payments. So we serve as a reminder that your dividend is due, provide the know your customer vetting both in terms of anti-money laundering checks as well as eligible investor status, obtaining W nines, maintaining the shareholder registers. So basically it's a complete outsourcing of this process for sponsors that see value in doing that rather than taking executive time, trying to either find the shareholders or maintain the monitoring of the process later on. And then there's also the potential for transfers of shares either in the event of a death and distribution from a state or the fact that a shareholder just wants to sell the shares. And as Don discussed earlier, the shares do have to be transferable.

Next test is the what's often called the closely held or the five 50 test, and it also applies beginning in the second year of the REIT status as a reit. And it basically states that five or fewer individuals, which are natural persons, not entities, but natural persons may not own or control more than 50% of the REITs value in the last half of its tax year. So there are broad look through and attribution rules that apply to this test. For example, you look through corporations, partnerships and trust to their beneficial owners or share or owners, family members broadly speaking are treated basically as a single shareholder ancestors and lineal descendants can be attributed to up or down the chain brothers and sisters. Their ownership can be attributed to one another and ownership by a spouse can be attributed to another spouse. So loosely speaking, you can think of this rather than five or fewer individuals. It's like as a practical matter, you're going to have to have at least broadly speaking, 10 families or more than 10 families participating in the ownership in order to have what might otherwise be a closely held corporation or company become a reit. Now many REITs will adopt an excess shares provision in their organizational documents that will prohibit the transfer or ownership by persons that would violate this test as well as adopting similar provision with respect to the a hundred shareholder ownership requirement.

And here the shareholders may be either domestic persons or in persons. Now the final organizational requirement we're going to talk about is that the entity cannot have accumulated earnings and profits from a year that it was not treated as a reit. Earnings and profits, loosely speaking, can be viewed as accumulated earnings on a tax basis with a lot of exceptions and rules, but just conceptually that's a good starting place to understand what it means. And so the kind of background or reason for this particular rule is that REIT's supposed to operate as a conduit or a quasi pass through entity principally for real estate related income. And so this kind of a rule prevents a widget company from taking its assets, selling all of its assets and then purchasing real estate and then electing to be REIT status and using the profits of the gain from the sale of the business as well as any other income it accumulated before becoming a REIT and using that income to invest in REIT assets. So the requirement is that the entity has to purge or distribute those earnings before the end of its first year as a reader.

I think we're going back to Arthur at this point

Arthur Khaimov:Actually. Thanks Gary. It's going to be blessing, but I do want to mention just one thing. Reiterate something that we've seen regarding the a hundred shareholder being sets in the second year. If you have a read that starts, does an initial election for it's in November and we'll have just two months in its first year, that is actually year one, so people don't have as much time to get to a hundred shareholders because they would need to then do it sometime in January of the very next year. The rule kicks in because that's technically year two in that case. Sometimes sponsors, read sponsors, et cetera, they try to push off that year one if they can to start in January. So they get the full year advantage of being required to get the a hundred shareholders. But regardless, many REITs have to start in November. I guess just the takeaway from here is that just be careful with those short years and that that's technically year one and I'll kick it off to now to bless you for the acid test.

Blessy Eapen:So the primary focus of this webinar was to learn about rate organizational requirements, but we also wanted to highlight other critical aspects of res, which is retesting. REITs require rigorous testing, particularly the asset and income test to ensure they maintain compliance with specific requirements and thus they preserve their tax advantage status. The asset test, which is required to be conducted quarterly, play a vital role in ensuring regulatory adherence and operational integrity. The primary requirement under the asset test provides that 75% of the total REITs assets must consist of the following types of assets. So the first one is real estate assets. So what is that? That's your real property, which is land building improvements. I just want to add also that personal property can be considered a real estate asset for the 75% test through the 15% personal property test. This test is met if the rent generated from personal property leased with the real property does not exceed 15% of the total rent for both real and personal property.

Another good asset is mortgage loans. So mortgage loans is typical in mortgage REITs, which is what they mainly do. So investing in mortgage loans or originating loans secured by real property is considered a good asset. Also, there's certain mezzanine loans, so also mezzanine loans are typical in mortgage REIT structures. So typically we'll see Mez debt that is secured by an LLCs interest that owns the real property. So now the question is, is this Mez loan a good asset? So there is a checklist under 2003 dash 65 which goes through, it's a list of seven or eight questions where you run the test to determine whether this me loan is a good asset. Other qualifying assets that are good include cash, cash items including short-term receivables, certain money market funds, foreign currencies, and government securities. One thing I wanted to add to this is that what happens if a REIT owns an interest in a partnership? So the REIT is deemed to own a proportionate share of the partnership's assets. So you would have to look through and take your capital interest in the partnership and take your proportionate share of the gross assets. Okay,

Arthur Khaimov:Just one takeaway from that. Bless these. We've seen a lot of structures that are set up as preferred investments, preferred structures per your preferred member of a partnership. In that case, you got to just be careful and mindful whether that's treated as debt or equity in many. In some cases you could see it's treated as debt, in which case you'd have to change the testing to treat it more as a debt security as opposed to an equity piece and taking, provide a share of partnership assets and income.

Blessy Eapen:Okay, so next we have the 5% and 10% asset test which relates to securities. So you may not typically see this if you deal with equity REITs. This is more typical for mortgage REITs. The 5% and 10% securities test are more typical on the mortgage REIT side that have a variety of financial instruments in their portfolio. This test is at the end of each calendar quarter. A REITs ownership of the securities of an issuer must comply with the following three tests. So the first one is a 5% asset test where the value of the securities of any one issuer owned by the REIT may not exceed 5% of the aggregate value of the REIT's assets. The next two requirements under the 10% test. So the first one is a REIT may not own securities having a value of more than 10% of the total value of the outstanding securities of any one issuer. And then the third one is a REIT may not own securities possessing more than 10% of the voting power of the outstanding securities of any one issuer also. So why are these tests important? The 5% in tests and 10% asset tests are designed to prevent REITs from holding excessive investments in a single company securities ensuring a degree of diversification and maintaining the REIT tax advantage status.

Next slide. Okay, next. So that was the asset test. Now we're going to spend a few minutes, quick minutes on income tests. So REITs are subject to specific income tests because they're designed to be companies that own operate or finance income producing real estate with the goal of allowing investors to gain exposure to the real estate market without direct ownership. The primary purpose of the REIT income test is to ensure that a REIT's income is predominantly derived from passive real estate related sources as opposed to income from an active conduct of trade of business. While the income tests are required on an annual basis, it is good practice to test the income on a quarterly basis to proactively identify and address potential compliance issues. So REIT must satisfy both to 75% and the 95% test. So first 75% test is at least 75% of the REIT's gross income for each taxable year must consist of the following types of income. One is rents from a lease of a real property and the following requirements should be met. So those rents should not be based on net income or profits cashflow, there should be no related party tenants, no more than 15% of the personal property, which I spoke about two slides before. Interest is also good for 75% tests, which is mostly on mortgage REITs.

They has to be secured by real property, the loan, and then the interest may not be based on net income profits or cashflow. Okay, so next one, the 95% test. So at least the rule is at least 95% of the REITs income for the taxpayer must consist of the following types of income. So everything that you did for the 75% test falls into this bucket. So anything that's good for 75 falls under the 95% test and other items are included for the 95 that's not included for 75 is dividends, including dividends from A TRS interests and gain from the sale of a disposition of stock or securities.

Next slide. I'll just quickly run through the next two slides and we're running short on time. So I just wanted to point out some frequent bad sources of income, which can be, so you can have bad income, which is like fee income or related party rents, but just remember for the 75% and 95% test, you still have REIT technically has 5% available to absorb any bad income. So let's say you have some bad fee income, you may still be able to leave it in the rate as long as it can absorb it and it'll still pass the test. Here are just some examples of certain odd types of income that are excluded. And just one more thing before we go on to the next slide. I just want to mention that a REIT has a 30 day grace period at the end of the quarter to remedy any asset or income test failures without facing penalties or approving reasonable cause. So it's important if you're preparing retesting or if you're reviewing retesting to make sure you get the information early so you have time for this 30 day grace period to remedy anything that fails the test. There are other options, but the main idea is to make sure that you have enough time to review the testing.

Okay, the last part that we wanted to talk about was the distribution test. So the distribution test. So each taxable year a REIT must distribute at least 90% of its taxable income, which other than capital gain original issue discount and discharge inness income to remain as a reit. So typically to avoid any taxes, most REITs want to distribute a hundred percent of their taxable income. When they distribute their income, they receive a dividends, paid deductions that they can use. Something to be aware of for under preferential dividends is a read is allowed to have multiple classes of stock for the purposes of distribution. A redistribution must be pro ratta and without preference to every share of stock in the same class as such preferential dividends do not count as a DPD and will be completely excluded. Just something to be mindful of. So I'm just going to quickly go over four types of distributions that a re can make and which they can be used for DPD purposes.

So cash, they can distribute cash throughout the year and this cash can be used as DPD against taxable income. Another option is a distribution under internal revenue code 8 57 B nine, which says that a REIT is allowed to declare dividend in the last quarter of the year to be paid in January the following year. So for example, if you declare dividend in the last quarter of 2024, but you're paid in 2025, it'll still be a DPD deduction for your 2024 tax year. And then the third one is distribution under internal revenue code 8 58 A, which this is sometimes referred to as a spill back distribution. This code section allows a REIT to consider dividends paid after the close of a tax year, but within a 12 month period and before the tax return filing deadline as paid in the prior year consent. And the last one, consent.

A consent dividend is a constructive distribution where a REIT is deemed to distribute cash to the shareholders. As of the last day of the tax year in which the REIT is to record the deduction, the shareholders are deemed to rete the cash to the reit. At the same time, the shareholders will include the dividend in their taxable income and record a corresponding increase to the basis of their REIT stock. So just quickly, I just wanted to last item on this distribution test is the corporate income and excise tax. A REIT is subject to corporate income tax on retained earnings when it distributes less than a hundred percent of his taxable income, even if it meets the 90% distribution requirements. So therefore most REITs typically distribute a hundred percent of their income to avoid this tax. Additionally, if a REIT does not distribute a minimum amount each count year, it faces a 4% non-deductible excise tax on the excesses of required distributions. The minimum amount includes 85% of ordinary income, 95% of capital gain income and any undistributed taxable income from prior years. So I think this is the end of this presentation. The next will be a polling question.

Bella Brickle:Poll #4

Arthur Khaimov:Thank you. And just to end off to what Blessy was saying, cash management is a big part of maintaining greed and it's important to be aware that in order to meet the distribution you don't necessarily need to actually distribute the cash in the same year. There are other as let's just went through, there are other choices that you can elections to make and use so that you don't over distribute, especially in the beginning of years. So we don't have much time left, so I just wanted to end off with, I want to make everyone aware that we will have an extent. Obviously the one big beautiful bill act is something to talk about and there's been, especially after the passage of TCJ, there's been a huge, REITs have become a popular structured choice for fund sponsors. And we believe that with the passing or potentially enacting the one big beautiful Bill Act will further boost interest in REITs.

And we have an upcoming webinar on June 17th, so please join us for an extended webinar on the real estate provisions of this one big beautiful act bill act. We kind of highlighted a couple that are important to note for just real estate REITs, et cetera. One being that the QBI possible extension, permanent extension, the QBI, an increase of QBI from 20% to 23%. Miscellaneous item as deductions being permanently remain non-deductible permanently otherwise set to expire after 2025, which is important. Once again, as mentioned before for debt funds and mortgage reads, then we have the TRS going back to what it used to where Reid is able to readit total assets represented by TRS could be 25% of its total assets, meaning currently it's 20%, it's going back up to 25 potentially.

And also bonus depreciation back to being a hundred percent deductible without any currently there's been phasing out over the past couple of years by 20%. And just as far as the 1 63 J, including the depreciation amortization as part of your calculation of a TI, which essentially gives you the ability to deduct a little bit more of interest. So once again, we don't have time right now, but June 17th, please join us for an extended webinar on the one big beautiful bill act. As far as last minute comments, I think it's important to note, talk to your advisors to ensure to meet all these requirements as we just spoke about. The organizational requirements typically don't get enough attention. I don’t know if Gary or Don, you want to add something, but I think one of the important items here wanted everyone to understand are some of these overlooked organizational requirements. So if no one has anything else, thank you all for joining us today and we hope to see you in our upcoming webinars.

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