Savvy buyers know the benefits of allocating the price across real estate, tangible personal property and intangible personal property.
Editor’s note: This is the second in a three-part series on deal pricing analyses. Read part one, “Deal pricing analysis: Papering the deal properly.” The final installment will be posted next Monday, 22 August.
Buying an operating hotel entails the purchase of real estate, tangible personal property and intangible personal property. Savvy buyers know the benefits of allocating the price across these three asset classes in terms of lowering transfer taxes at closing and recording a more accurate representation of the price paid for real estate only on a deed, which the tax assessor uses to revalue the property post-closing.
REIT participants in the marketplace understand the benefits of a deal pricing analysis for transfer taxes and prospective real-estate taxes, but they have been advised by their income tax consultants to not allocate any value to intangibles in order to avoid any possible issues with their REIT asset and income tests.
Some REIT buyers have thoroughly looked at this issue and considered the merits of both sides—federal income tax and state and local tax—and have embraced the concept that the rules for these two tax venues are completely different and exist in a parallel universe. In other words, the answer or treatment for federal taxes does not have to be the same or match the answer or treatment that is most correct under state and local definitions. These REIT participants have been able to take advantage of this understanding and knowledge.
Nevertheless, many REIT participants still prefer to not investigate the issue any further than the advice from their federal tax advisors, and simply demand that the paperwork for the deal not disclose any amount attributable to the value of the numerous intangibles assets involved in the transaction.
In this situation, the REIT buyer should consider having a deal-pricing analysis performed immediately after closing to be used to assist with their real-estate tax appeals. The defining issue in this situation is the timing of the work. Having a deal-pricing analysis performed contemporaneously with the close of the transaction demonstrates that the buyer indeed knows that he is acquiring intangibles but was constrained at closing because of the buying entity’s federal tax status. This argument (take out the value of the intangibles) is made all the time in real-estate tax appeals when trying to overcome a price that is higher than most other activity in the marketplace. Whether or not that argument is successful is tenuous, but having documentation from the buyer for the real-estate tax consultant to use to buttress the argument gives it more weight.
Having this documentation in place to support that argument also sets the owner up to have the strongest fact pattern possible should the tax appeal elevate to the court level. For example, everyone in California with a hotel tax appeal is on hold waiting for a decision in the Glendale Hilton intangibles case. The owner is a REIT and therefore did not allocate any value to intangibles at closing. Now the real-estate tax appeal is at a court level and the issue is removing the value of the intangibles from the going concern for real-estate taxation purposes. The fact pattern for the case is that the transfer taxes were paid on a price that included the intangibles and the deed was recorded with a price that included the value of the intangibles. Because the owner had this report stating the value of the intangibles included in the transaction, the facts supporting the case are stronger.
Certainly the best and most efficient use of a deal pricing analysis is to have the report done for closing and record the transaction properly in the first place. For REIT buyers, the second most efficient use of a deal pricing analysis is to have the report done contemporaneously with the closing. Then the real-estate tax consultant can substantiate the argument to be made regarding REIT status. In jurisdictions where documentation is to be submitted to the assessor post closing (e.g. sales confirmation reports or preliminary change in ownership forms), the information from a deal pricing analysis can be used and supported with a full report about the deal to provide better, more accurate data about the price paid for real estate only.
Bernice T. Dowell is a Senior Managing Consultant for Paradigm Tax Group in Washington, D.C. A former Senior Manager of KPMG and President of Cynsur, LLC, she has focused her career in real estate transfer and property taxes on hospitality assets and the concept of removing the value of intangibles from a going concern. She began this endeavor as an employee in Marriott’s Tax Department in 1991. While at Marriott she was a member of the inaugural class at George Washington University for the Master’s of Science in Finance program and focused her senior thesis on the topic of hotel investment analysis and the contributory value of a trade-name to a going concern.
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