FAQ Real Estate Investment Trust Morrison Foerster | 17 Valuations of Publicly Registered Non-Listed REITs, issued by the Institute for Portfolio Alternatives in April 2013. How do holders of non-traded REIT shares obtain liquidity for their shares? Non-traded REITs are generally considered illiquid because there is not an active secondary trading market for non-traded REIT shares. However, in addition to potential liquidity events for finite life non-traded REITs, non-traded REITs may provide liquidity to their investors (in most cases, investors who have held their shares for at least one year) through share repurchase programs. These programs are subject to certain restrictions and limitations–share repurchase programs for perpetual life non-traded REITs typically cap repurchases at 20% of the REIT’s NAV on an annual basis, and finite life non-traded REITs typically cap repurchases at 5% of the number of the REIT’s outstanding shares of common stock as of the most recent calendar year end. Most share repurchase programs are funded with proceeds received from the issuance of shares under the non-traded REIT’s distribution reinvestment plan. Are REIT securities offerings subject to review by state securities regulators? It depends. Prior to the enactment of the National Securities Market Improvement Act of 1996 (the “NSMIA”), state securities regulators retained concurrent authority with the SEC to regulate securities offerings conducted in their respective states. As a result of the enactment of the NSMIA, the nature of the states’ regulation over certain securities offerings was modified. In particular, the NSMIA’s amendments to Section 18 of the Securities Act provided for federal preemption of the states’ “Blue Sky” registration and oversight of “covered securities,” which includes, among others, securities that are listed or authorized for listing on a national securities exchange. Consequently, offerings by listed REITs are not subject to review by state securities regulators. Unlike public offerings by listed REITs, however, public offerings conducted by non-traded REITs are subject to significant oversight and regulation by the states, which require non-traded REIT offerings to comply with applicable state Blue Sky rules and regulations, which are based substantially upon the NASAA REIT SOP. The states impose restrictions and limitations with respect to various matters, including governance, stockholder rights, investments, leverage, related party transactions and the compensation paid to the REIT’s external advisor. In addition to standard disclosure requirements, a number of states undertake a merit review of the offering. Generally, state registrations expire each year, and a non-traded REIT is required to renew its state registrations on an annual basis in all states in which it is offering securities. In addition, broker-dealers transacting in securities of non-traded REITs are subject to additional FINRA rules, as described under “Are there any specific FINRA rules that affect REITs?” above. Mortgage REITs What are common investment strategies for mortgage REITs? Mortgage REITs currently generally have one of the following three investment strategies: ▪ Arbitrage – these REITs acquire government backed mortgage securities and other high quality mortgage securities with leverage. The mortgage securities are good REIT assets, and the REITs earn an arbitrage spread. The assets can be residential mortgage-backed securities (RMBS) and, in some cases, commercial mortgage-backed securities (CMBS). ▪ Operating – these REITs originate and/or acquire residential, commercial mortgage, mezzanine or other loans. They use a taxable REIT subsidiary (TRS”) for non-qualifying activities, such as servicing. These REITs may securitize the mortgages to enhance returns. For more information regarding TRSs, see “What is a taxable REIT subsidiary?” below. ▪ Distressed – These REITs invest in distressed mortgages, which can be somewhat tricky for a REIT because of the foreclosure property rules (see “Under what other circumstances can a REIT be subject to federal income tax?” below). In general, a REIT can foreclose on a mortgage and, for a temporary period, can earn income
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