FAQ

If you are selling highly appreciated real estate a 721 exchange into a non-traded UPREIT offers a powerful next step. Enjoy:

• Continued Tax Deferral: Postpone capital gains taxes seamlessly.
• Diversified Portfolio: Shift from a single property to a stable, managed real estate collection.
• Long-Term Focus: Benefit from steady income without stock market volatility.
• Estate Planning Edge: Pass on wealth with potential tax advantages for heirs.

After the 721 conversion takes place, investors own OP units which are essentially shares, in the entire REIT, which includes all the properties in the REIT’s portfolio. The REIT intends to 1031 exchange any selling properties so if there is a particular original property that sells it shouldn’t necessarily trigger taxes for you. Of course, there could be the minute risk that the REIT sells your exchanged property (without exchanging) and creates a tax event but I haven’t seen this yet in any of my clients’ REITS over the last 20 years.

These are typically perpetual life REITs that grow in size and continue to acquire assets that meet the investment criteria. These REITs sell very few assets and typically exchange when they do sell.

It is possible that clients can stay in the REIT phase for several decades, collecting distributions and experiencing virtually no capital gains events unless she chooses to sell shares.

The REIT fund is professionally managed and usually aims to strategically acquire and disposition properties to benefit the fund. Most dividends investors receive are taxed as ordinary income at their marginal tax rates rather than lower qualified dividend rates.

Any profit is subject to capital gains tax when investors sell REIT shares. With increased basis associated with the non-recourse debt in the DST phase, it is possible to have minimal tax on the income in the OP unit/REIT phase.

DST investors currently receive a substitute Form 1099 each year. After the completion of the 721 Exchange Transaction, the Operating Partnership will instead issue annual Schedule K-1 tax statements to the holders of OP Units.

What About State Tax Filings?
As an investor in the REIT, there may be a requirement to file 2024 state income tax returns in the jurisdiction in which the REIT has earned income or loss. The 721 UPREIT sponsors that we work with offer state composite tax return election usually via a convenient portal designed to make tax reporting easier and more efficient. If the investor participates in the state composite tax return, the sponsor will file in each of the eligible states in which it has source income on the investor’s behalf making the state tax filing burden minimal for investors.

While timelines can differ, most transactions follow a general timeframe:

• DST Phase: Investors will hold their DST position for a minimum of two years.
• UPREIT Phase: If the REIT executes the Fair Market Value Call Option, investors will be swapped out of the DST property and into OP Units in the REIT.
• Holding Time: Typically, after one additional year investors can convert OP Units into REIT shares and sell them via the share repurchase program. (Subject to capacity constraints / sponsor terms.)

Although unlikely, this can happen. If the DST doesn’t get called into the REIT by the sponsor then it continues as the DST for the remainder of the hold, it could be re-evaluated for the UPREIT at a later time but if the property sells as a DST, investors can cash out or 1031 exchange the proceeds.

OP Units are equity interests in the UPREIT’s operating partnership. They:

• Provide income similar to REIT dividends.
• Are often convertible to REIT shares or cash after a lock-up period.
• Maintain tax deferral from the original DST investment.

One cannot buy into a REIT for their 1031 exchange as the ownership of the REIT is typically in the form of shares rather than direct ownership of real estate as required by the like-kind exchange tax law. Intermediary/Accommodators will not wire funds into REIT for this reason. If a client desires to be invested in REIT, they first need to invest in a DST – per the IRC Revenue Ruling 2004-86 – where the DST is likely to be acquired by the REIT in the future utilizing section 721 and therefore maintaining full tax deferral as long as all requirements are met.

A DST is a legal entity used in real estate investing, often as a replacement property in a 1031 exchange. It allows multiple investors to own fractional interests in income- producing properties (e.g., apartments, retail centers) managed by a trustee, offering passive income and tax deferral.

An UPREIT (Umbrella Partnership Real Estate Investment Trust) is a structure where a REIT controls an operating partnership. Investors contribute property (or DST interests) to the partnership in a tax-deferred 721 exchange and receive OP Units, which may later be convertible into REIT shares or cash.

A DST to 721 UPREIT transaction involves transferring ownership of a Delaware Statutory Trust (DST) property into an Umbrella Partnership Real Estate Investment Trust (UPREIT) under Section 721 of the Internal Revenue Code. This allows investors to exchange their fractional DST interests for Operating Partnership (OP) Units in an UPREIT, deferring capital gains taxes while transitioning to a more diversified and potentially more liquid investment.