Back to Basics | Corporate Wrapped Real Estate
Published in March 2023
When investing in high-value real estate and portfolios, investors need to determine whether to acquire the property directly or via an acquisition of the structure that holds the asset or portfolio. In the UK and mainland Europe, real estate can be acquired and held in a variety of vehicles, ranging from the English limited partnership to Luxembourg limited companies. The most suitable choice of entity will depend on the investment strategy, the types of investors who are investing and considerations relating to management, control and tax treatment. The choices will need to be made whether the structure is wholly owned, a fund or a joint venture.
Many jurisdictions offer a range of vehicles that are suitable to hold real estate, so location of the structuring vehicles partly tends to be a matter of familiarity, corporate presence and manager preference. To help focus on the need-to-knows from the outset, this Back to Basics Briefing introduces the key considerations for investors and managers when evaluating real estate holding structures. The next briefing in the series will consider the key milestones of a corporate-wrapped real estate transaction before we conclude with a briefing dedicated to W&I insurance and its role in these types of deals.
WHY ACQUIRE REAL ESTATE THROUGH A STRUCTURE?
There are several commercial drivers to think about in relation to an acquisition of a real estate structure, with tax efficiency being amongst the key considerations. The opportunities to “ring fence” potential liabilities and to facilitate co-investment and joint ventures also outlined below are, however, equally important. In some cases regulatory issues will be relevant such as whether the structure creates an alternative investment fund which requires authorisation or a regulated manager.
Acquisition costs
The transfer taxes that apply on the direct acquisition of real estate are a material cost. However acquiring the structure creates the potential to invest in real estate without the legal ownership of the property changing hands. This means the taxable event will usually be the transfer of the securities in the holding structure instead, which may be a more attractive option.
Ring-fencing liability
The use of intermediate vehicles allows a buyer to “ring fence” investments, usually through a limited liability company, so as to keep any obligations separate from other assets and liabilities. Whilst a buyer assumes all the responsibilities of the property-holding vehicle and not just those that relate to the real estate, the buyer’s liability for the vehicle itself is usually limited to the equity it has acquired in the vehicle.
Likewise, acquiring the asset holding entity allows the buyer to obtain third-party debt finance which is then specific to the individual property or group of properties. This enables investors to efficiently finance the acquisition, whilst limiting the exposure of the buyer’s other investments at the same time, as debt funders will typically require security over the entity that holds the real estate as well as the specific property or group of properties.
Joint ventures
Acquiring and holding real estate through a structure can facilitate two or more investors investing in an asset or a portfolio together. Investing in real estate by way of a joint venture can be by contractual arrangement or undertaken through investing in the property holding vehicle or a structure above it. Having a standalone vehicle is an attractive option because it allows the parties to agree the terms of their arrangement in an entity that can be separately financed, whilst at the same time spreading the risk between the partners.
WHAT ARE THE ON-GOING CONSIDERATIONS OF HOLDING REAL ESTATE THROUGH A STRUCTURE?
There are many factors to be considered for the life of the investment when determining how it should be structured. The investment strategy for the asset will be relevant as well as the nature of the asset itself and its purpose. For more in-depth information on common investment vehicles for holding real estate and investment funds more generally in the UK and mainland Europe, please see the CMS Expert Guide here: Popular investment vehicles | CMS Expert Guide as well as briefings prepared by the CMS Funds Group here: CMS Funds Group | Back to Basics briefings.
Investment strategy
Of primary importance will be ensuring the structure reflects the objectives and plans for holding the asset or assets. The structure for a site that is to be developed is likely to look very different to a structure that holds a stable income-producing office building.
The more actively managed an asset will need to be, the more important it is for the management team to be involved in the day-to-day affairs and therefore for the operational element of the structure to be locally domiciled. Real estate with more extensive operational activity such as student accommodation and private rented sector (PRS) assets will often have a property-owning vehicle (Propco) and a separate operational entity (Opco). These may be in different jurisdictions.
The tenant-mix and intended use of the property will also have a bearing. Student accommodation and other VAT-exempt asset classes, as well as the type of tenants, will typically justify separating the legal title between the aspects used by different types of occupiers, for example, between the residential and commercial aspects.
Where it is intended that the structure will hold a portfolio of properties, we would anticipate the need to cater for assets to be moved in and out of the holding group. This is usually done by having a master vehicle at the top of the structure with special purpose vehicles holding individual properties below. The master vehicle could then also be the home for partnering with other sources of capital and would likely be set up in a way to allow for an efficient exit in the future.
Management
A structure will also include contractual relationships for the entities involved such as an investment adviser, asset manager development manager or property manager as well as usual professional advisers including lawyers, valuers and accountants.
Taxation and administration
Introducing entities between the asset and the ultimate beneficiaries will result in the need to analyse the ongoing taxation of rent and capital gains.
Another relevant consideration is that vehicles should generally be managed and controlled from the jurisdiction in which they are domiciled. Professional third-party service providers are an additional cost but enable investors without an established presence in a jurisdiction to have their structures administered effectively day-to-day. Note, though, that the more active an investment strategy is, the less suitable it may be for a third-party to ultimately have decision-making authority.
Exit strategy
Even at the outset laying the groundwork for realising the investment should be carefully considered. Specifically on exit, having the ability to package up the portfolio on a sale or bring in a new investor without effecting a transfer of the underlying real estate will give both the seller and buyer more options and, crucially, maximise returns for both.
