Captive Real Estate Investment Trust
What Is It And How Does It Work?
A captive real property investment trust is a real estate investment trust (REIT) with a single controlling owner. For tax benefits, a company may bundle real estate assets with its business into a REIT. Retailers and banks that have many branches or stores can use this tax mitigation strategy.
Understanding Captive Real Estate Investment Trusts
A captive real estate trust can be set up to take advantage of tax breaks provided by REITs. For captive status, companies may decide to take control of a REIT or develop it. Captive status or control is defined as having more than 50% voting ownership in a REIT.
A captive REIT is a company that manages its real estate properties. They are often referred to as rental REITs or mortgage REITs. For the promise of mutual income, mortgage REITs (mREITs) provide mortgage capital. This is often the basis for a REIT's revenue. Companies can also use captive real estate investment trusts. This involves transferring real property into a REIT and renting properties from the REITs.
Real Estate Investment Trusts
A captive REIT refers to a REIT that has control over the ownership of a single company. Captive REITs can also be called REITs. If an entity meets certain requirements, it can be considered a REIT. REITs may be corporations, trusts, or associations. However, they all must choose to be taxed like corporations.
All REITs can distribute their entire income through the Internal Revenue Code to their shareholders. REITs are similar to partnerships in the tax code since they have no income and are distributed through a K-1.
To be eligible for the income distribution tax deductions which characterize REITs generally, REITs must satisfy several requirements. To qualify as a REIT, a company must fulfill the following requirements:
Corporations are taxable
Dividends to shareholders must be paid at least 90% of the taxable income each year
Rents, interest on mortgages financing real property, or sales of real estate should not exceed 75% of your gross income
At least 75% of your total assets should be invested in real estate, cash, or U.S. Treasuries
At least 100 shareholders (controlling corporations may name executive shareholders to meet this requirement).
An entity that meets the REIT requirements must pay at most 90% of its income to shareholders. The income distribution is allowed as a deduction. After the distribution, any balance is subject to the corporate tax rate.
Accounting For Subsidiaries
Captive REITs can be considered subsidiaries. Therefore, their ownership must also be included in the parent company's financial statements. There are generally three ways to account for subsidiary ownership and subsidiaries on a parent company's financial statement. First, companies can either report consolidated financial statements or account for ownership using the equity or cost method.
The Generally Accepted Accounting Principles allow companies to create consolidated financial reports that incorporate all the financials of a subsidiary if they own more than 50% of the ownership rights. A captive REIT is typically not useful or applicable to a parent company in consolidated financial statements reporting. This is due to the tax benefits that the captive REIT receives on its own. These are often the reasons for creating it. Captive REIT ownership is usually accounted for in a parent company's financials using either the equity or cost method.
Captive REIT Tax Benefits
Captive REIT tax can have many tax benefits. The federal taxation of REITs can be discussed in Internal Revenue Code Title 26. However, states may have their own tax rules that could increase or decrease tax benefits for REITs.
The parent company of a captive REIT is allowed to deduct the rent or mortgage payments it pays to its captive REIT. This reduces its tax-free income. It would normally deduct these expenses anyway, so this isn't necessarily a big benefit. However, it can still provide some useful advantages in terms of payment processing, etc. The biggest advantage is that the parent company can receive a portion of the dividend distribution from the captive REIT. This could potentially reduce the tax rate.
All tax benefits are available to captive REITs. It can deduct 90% or more of the income it distributes to shareholders. It also pays the federal corporate income tax rate.
Captive REITs: Laws
There are several federal and state laws that address captive REIT subsidiaries. Most legislation defines captive as having 50% of the ownership. In addition, federal law requires that all treatments be fair and consistent with property valuations, arm's length negotiations, and other requirements.
Each state has its own requirements. Some states have specific requirements that could prevent tax avoidance tactics from being fully eliminated. Accounting and tax professionals must ensure that captive REITs and REIT accounting comply with all state and federal laws.
