FAQ Real Estate Investment Trust Morrison Foerster | 3 shares of stock the corporation without stockholder approval. The Maryland REIT Law, applicable to trust REITs, offers even more flexibility than the MGCL, although the statute does provide less structure. What are the requirements for qualification as a REIT? In order to qualify as a REIT, an entity must: ▪ Have a valid REIT election in effect; ▪ Use a calendar tax year; ▪ Be managed by one or more trustees or directors (or pursuant to comparable constructs, in the case of LLCs or partnerships); ▪ Have transferable shares or interests; ▪ Be taxable as a domestic corporation but for its qualification as a REIT; ▪ Not be a “financial institution” or “insurance company”; ▪ Have at least 100 shareholders for 335/365 days of every year (other than its first REIT year); ▪ Not be owned, actually or constructively, more than 50%, by value, by five or fewer “individuals” during the last half of any taxable year (other than its first REIT year); ▪ Satisfy annual income and quarterly asset tests (described below); ▪ Annually distribute, or be deemed to have distributed, at least 90% of its ordinary taxable income; and ▪ Not have any undistributed non-REIT earnings and profits (either from years prior to electing REIT status, or from an acquisition of a C corporation or its assets in a tax-free transaction) at the end of any taxable year. See “Tax Matters” below. Do REITs limit share ownership? Yes, almost always. To qualify as a REIT, an entity must not be “closely held,” meaning, at any time during the last half of the taxable year, more than 50% in value of its outstanding stock cannot be owned, directly or indirectly, by five or fewer individuals (referred to as the “5/50 test”). Although not legally required, all REITs, including listed public REITs, typically adopt ownership and transfer restrictions in their articles of incorporation or other organizational documents that provide that no person shall beneficially or constructively own more than 9.8% or 9.9% in value of the outstanding shares of the entity, and any attempted transfer of shares that may result in a violation of this ownership limit will be null and void. Depending on the circumstances, the REIT’s board of directors or board of trustees, as applicable, may determine that it is in the best interests of the REIT and its stockholders to grant a waiver of the ownership limitations for a particular stockholder. The board’s decision to grant or deny a waiver is often based on a variety of considerations, including the identity of the stockholder (i.e., is it a REIT-dedicated fund, a hedge fund or an investor that is likely to be a long-term holder?), the existence of outstanding waivers for other stockholders and the impact on the REIT’s ability to satisfy the 5/50 test, the amount of securities in excess of the ownership limit the stockholder is seeking to acquire and other factors bearing on whether or not the grant of an ownership limit waiver is in the best interests of the stockholders. In addition, larger holders, typically sponsors or founders of a REIT, who own more than 9.9% are usually “grandfathered,” potentially requiring a related decrease in the ownership limit to ensure continued compliance with the 5/50 test. For instance, if the founder of a REIT and his or her affiliates are grandfathered and permitted by the board of directors to collectively own up to 20% of the REIT’s outstanding shares, the ownership limit in the REIT’s charter would be lowered to 7.4% or less to ensure continued compliance with the 5/50 test. Investors may view REIT ownership limit provisions as an anti-takeover device for publicly traded REITs because the board of directors may grant or deny a waiver at its discretion. To alleviate stockholder concerns that a REIT will use its ownership limits as an anti-takeover device, some REITs have affirmatively stated in their articles of incorporation/ declaration of trust or public disclosures that the ownership limits will not be used for that purpose.
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