(REUTERS) U.S. legislation may expand scope of REITs
U.S. legislation may expand scope of REITs
By Greg Cresci
NEW YORK, Nov 23 (Reuters) - Congress recently approved a
bill that would significantly alter the peculiar world of real
estate investment trusts, or REITs, by allowing them to create
subsidiaries that offer services beyond real estate.
The Senate adopted last Friday night the so-called REIT
Modernization Act as part of a larger package following a
favorable House vote of 418-2.
The act changes a structure designed by lawmakers in 1960
that established REITs as tax-exempt investment vehicles, by
allowing them to own 100 percent of the stock of a subsidiary
subject to traditional corporate taxes.
The subsidiaries could then offer tenants all kinds of
profit-generating services, such as landscaping or office
supplies.
REITs closely resemble stock mutual funds, allowing
investors to own shares in a portfolio of major properties.
Congress set them up to function in a corporate format without
having to pay corporate income taxes, provided they distribute
nearly all taxable income to shareholders.
"There are indications that the president will sign it into
law, but we don't know the timing because, of course, he's
abroad," said Jay Hyde, spokesman for the National Association
of Real Estate Trusts (Nareit).
The legislation, whose provisions would take effect in
2001, also lowers to 90 percent from 95 percent the level of
taxable income that a REIT must currently pay out in the form
of dividends.
"I definitely think it is positive that they (REITs) would
now be able to run this type of business," said Jeffrey
Donnelly, an an analyst at First Union Securities in San Diego.
"It allows shareholders at least to capture some of that income
that today just leaks away."
The bill stipulates that securities of a taxable subsidiary
cannot exceed 20 percent of a REIT's assets and also includes
limits on the amount of debt and intercompany rents between a
REIT and its affiliated taxable subsidiary, Nareit said.
"This will allow them to lease their own properties and
explore some other areas of growth," said Donnelly, referring
to hotel REITs. "Time share would be a logical extension
because the hotel operators would be able to team up with the
lessee that they would now own, and mine the reservation
systems for buying time-share units at adjacent properties."
Ross Smotrich, an analyst at Bear Stearns in New York,
agreed that the REIT Modernization Act will yield benefits. "It
will be a very positive thing for the industry generally,"
Smotrich said. "Clearly, the ability to retain additional
capital to invest in core businesses will be a good thing for
the REITS. I also think these taxable subsidiaries have the
potential to be a pretty significant business over a period of
time," he said.
Both Donnelly and Smotrich said investors may be put off by
a slower growth rate in the dividends they receive.
"I think you'll get some retail shareholders grumbling a
little bit that they might have an extra year, maybe two years
of flat dividends, but longer term I think they'll be happy,"
Donnelly said. But he added that the displeasure probably won't
translate into investors dumping their REIT stocks.
The Dow Jones Equity REIT Index closed down on 1.41 at
234.3 on Tuesday. The index has a 52-week high of 294.6 and a
52-week low of 227.8.
From Jan. 1 to the Senate vote last Friday, the REIT sector
provided investors with a negative total return of 6.1 percent,
according to a report by analysts Banc of America Securities.
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