Morris Kramer (left), of Roberts & Holland and Art Greenberg of Equity Residential. Greenberg is co-chair of the Government Relations Committee.

Representatives of NAREIT met with members of NAREIT's Tax Legislative Subcommittee on November 6, 2000 to identify issues that need guidance from the Internal Revenue Service relating to the taxable REIT subsidiary (TRS) provisions of the REIT Modernization Act (RMA). The RMA was enacted in December 1999 but was not effective until January 1, 2001.

It is anticipated that typical TRS corporations will provide amenities such as concierge service or enhanced telecommunications applications, for both REIT tenants and tenants of other property owners.

Congress created the TRS structure to allow REITs to remain competitive in what has become a service-oriented industry. Prior to the RMA, REITs were prevented from deriving more than a nominal amount of income from "non-customary" tenant services. The RMA now gives REITs the power to own a TRS as long as tenant services are subject to a corporate level tax. Although a TRS' services can't include operating or managing lodging or health care facilities, they can include all other types of activities, such as performing third party activities.

A key topic at the NAREIT meeting was the mechanics of the TRS tax election procedures. While NAREIT already submitted a letter to the IRS requesting guidance on the TRS election (full text is available in the Members Only section of nareit.com), other issues were raised at the November 6 meeting such as whether every REIT owning a corporation must make a TRS election.

Also discussed was the mechanics of the exception to the related party rules under which payments a TRS makes to its associated REIT qualify as real estate rent so long as the TRS leases less than 10 percent of a property's leased space. Attendees also discussed whether a de minimis rule should exist to prevent disqualifications of TRSs that indirectly own nominal interests in health care or hotel operators.

Other questions raised for TRS guidance focused on the legislation's impact on hotel REITs, "grandfathered" third party subsidiaries that were permitted under pre-TRS law, and the needed allocation of overhead, if any, between a REIT and its TRS to avoid a 100 percent excise tax.

At the NAREIT 2000 Annual Convention last October, the TRS issue was raised in a roundtable discussion led by Samuel Zell, chairman of Equity Group Investments, Inc. The panelists concurred that while it is early to determine which REITs will benefit from the use of a TRS, they felt that new legislation lets REITs get involved with ancillary businesses that can potentially drive occupancy, enhance growth and generate profit.

Katheryn Surface of United Dominion Realty Trust (third from left at table), a Government Relations Committee co-chair, helped lead the discussions.