What Is an UPREIT?
Let me explain what an UPREIT is directly to you. UPREIT stands for umbrella partnership real estate investment trust. It's a specific type of REIT structure where you, as a property owner, can trade your property for ownership shares in the UPREIT. Keep in mind, these setups usually fall under Internal Revenue Code (IRC) Section 721 exchanges.
Key Takeaways
- An UPREIT is a unique REIT structure that allows property owners to exchange their property for share ownership in the UPREIT.
- Property-for-share exchanges in an UPREIT are generally allowed under Section 721 of the Title 26 Internal Revenue Code.
- UPREIT property contributors can defer taxes on the sale of property in exchange for UPREIT units though capital gains taxes on UPREIT units are subject to standard REIT taxation.
Understanding UPREITs
You should know that real estate investment trusts (REITs) were first introduced by Dwight D. Eisenhower as a kind of alternative real estate mutual fund. These REITs act as portfolios that hold real estate properties and related financing capital. Essentially, they're entities where investors like you can contribute money for equity units or shares in the business.
As REITs have developed over time, various alternative structures have emerged to suit different investor needs. The UPREIT is one of them, mainly recognized for letting you contribute property in exchange for share ownership. There are also offshoots like the DownREIT and others.
When forming a REIT, it can adopt any business structure. Publicly traded ones are set up as corporations. Private REITs often go for trust or association structures, though they might pick others. Like most non-corporations, private ones can opt to be taxed as corporations.
What's crucial for any REIT, and I want you to remember this, is complying with IRC Title 26, Sections 856-859. If they do, they can pass all income to shareholders, treating it as a deduction so the REIT pays minimal taxes. The key rule is that more than 90% of the business must involve real estate assets.
Special Considerations
Instead of selling your property outright, you can contribute it to an UPREIT and get units in return. These units typically match the value of your contributed property. Because it's under IRC Section 721, this exchange isn't a taxable event for you.
In these property-to-share conversions, UPREITs might include specific provisions. Often, you'll get special units that let you decide how to vest in the REIT. You could convert units to REIT shares right away, or there might be options like holding for at least a year before cashing out.
Once you sell your property to the UPREIT, they own it and handle all the administration. Managing an UPREIT can be more complex than a standard REIT due to the Section 721 options and provisions for new unitholders. The managers focus on the portfolio to generate returns.
UPREIT shares can fluctuate based on management actions, property valuations, financing, and other transactions, which introduces volatility for you as a shareholder. Generally, you'll have flexible liquidity, meaning you can convert shares to cash when you want.
Benefits of UPREITs
UPREITs are a solid choice if you're a property owner looking to sell. They appeal to both individuals and commercial owners. If you opt for a Section 721 exchange into an UPREIT, you'll get the property's value in units.
These Section 721 exchanges don't trigger taxes immediately. However, as a unitholder, you'll face standard REIT taxation. Some owners use this for estate planning, as it might avoid taxes entirely in certain cases.
Requirements for UPREITs
An UPREIT follows all standard REIT accounting and tax rules. It was designed to let you contribute property for ownership shares, guided by IRC Section 721, which covers tax protections for such exchanges. Basically, any REIT allowing Section 721 exchanges qualifies as an UPREIT.
Most REITs target a specific real estate segment, but the rules only require over 90% of the business to be in real estate and financing. UPREITs usually do the same, focusing on a niche.
Section 721 outlines standards for issuing units for property. It's an alternative to IRC Section 1031 exchanges, where you sell and reinvest in like-kind property to defer taxes.
Section 1031 isn't allowed in UPREITs since they don't involve like-kind exchanges but property-to-share ones. So, Section 721 can be appealing, as both defer taxes.
UPREIT vs. DownREIT
UPREITs, DownREITs, and other special REITs are fundamentally REITs with extra flexibility. A DownREIT lets you enter a joint venture with a REIT, where unit exchanges are based on the property's value in that venture, potentially offering better returns for you as the unitholder.
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