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PROSPECTUS
SUPPLEMENT
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Filed
Pursuant to Rule 424(b)(5)
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(To
Prospectus Dated October 10, 2008)
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Registration
No. 333-153715
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$50,000,000
Common
Shares of Beneficial Interest
We have
entered into a sales agreement with Robert W. Baird & Co. Incorporated
relating to the common shares of beneficial interest offered by this prospectus
supplement and the accompanying prospectus. In accordance with the terms of the
sales agreement, and except as noted below, we may offer and sell our common
shares of beneficial interest, no par value per share, with an aggregate public
offering price of up to $50,000,000 from time to time through Robert W. Baird
& Co. Incorporated as our agent for the offer and sale of the common
shares.
Our
common shares are listed on the NASDAQ Global Select Market under the symbol
“IRET.” The last reported sale price of our common shares on the NASDAQ Global
Select Market on April 7, 2009 was $9.67 per share.
Sales of
our common shares, if any, under this prospectus supplement and the accompanying
prospectus may be made in negotiated transactions or transactions that are
deemed to be “at the market offerings” as defined in Rule 415 under the
Securities Act of 1933, including sales made directly on the NASDAQ Global
Select Market or sales made to or through a market maker other than on an
exchange. To the extent that we sell our common shares in other transactions
that are deemed to be “at the market offerings” pursuant to one or more sales
agreements with other agents, the number of our common shares available for sale
under this prospectus supplement and the accompanying prospectus will not be
reduced by the number of common shares sold by the other agents.
Robert W.
Baird & Co. Incorporated will be entitled to compensation equal to 2.0% of
the gross sales price per share for the common shares sold under the sales
agreement. In connection with the sale of the common shares on our behalf,
Robert W. Baird & Co. Incorporated may be deemed to be an “underwriter”
within the meaning of the Securities Act of 1933, and the compensation of Robert
W. Baird & Co. Incorporated may be deemed to be underwriting commissions or
discounts.
Neither the Securities and Exchange
Commission, nor any state securities commission has approved or disapproved of
these securities or determined if this prospectus supplement and the
accompanying prospectus are truthful or complete. Any representation to the
contrary is a criminal offense.
Investing in our common shares
involves risks. See “Risk Factors” beginning on page 2 of the accompanying
prospectus and page 10 of our Annual Report on Form 10-K for the fiscal year
ended April 30, 2008 and page 33 of our Quarterly Report on Form 10-Q for the
three months ended January 31, 2009, and other information that we file
from time to time with the Securities and Exchange Commission, each of which is or will be incorporated herein by
reference.
Robert
W. Baird & Co. Incorporated
The date
of this prospectus supplement is April 7, 2009
Prospectus
Supplement
Prospectus
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This
document is in two parts. The first part is this prospectus supplement, which
adds to and updates information contained in the accompanying prospectus and the
documents incorporated by reference into the accompanying prospectus. The second
part is the accompanying prospectus, which gives more general information, some
of which may not apply to this offering. This prospectus supplement adds,
updates and changes information contained in the accompanying prospectus and the
documents incorporated by reference.
To the
extent any inconsistency or conflict exists between the information included or
incorporated by reference in this prospectus supplement and the information
included or incorporated by reference in the accompanying prospectus, the
information included or incorporated by reference in this prospectus supplement
updates and supersedes the information in the accompanying prospectus. All
references to “we,” “our,” “us” or “the company” in this prospectus supplement
and the accompanying prospectus mean Investors Real Estate Trust.
You should rely only on the
information contained in or incorporated by reference into this prospectus
supplement and the accompanying prospectus. We have not, and Robert W. Baird
& Co. Incorporated has not, authorized any other person to provide
you with additional or different information. We are not making an offer of
these securities in any jurisdiction where the offer or sale is not permitted.
You should not assume that the information contained in this prospectus
supplement or the accompanying prospectus or incorporated by reference herein is
accurate as of any date other than the respective dates of such documents or as
of other dates which are specified in those documents. Our business, financial
condition, results of operations and prospects may have changed since those
dates.
This
prospectus supplement and the accompanying prospectus include and incorporate by
reference forward-looking statements that are subject to risks and
uncertainties. These forward-looking statements are made in accordance with
Section 27A of the Securities Act of 1933, as amended, or the Securities Act,
and Section 21E of the Securities Exchange Act of 1934, as amended, or the
Exchange Act, and include information about possible or assumed future results
of our business, financial condition, liquidity, results of operations, plans
and objectives. Statements regarding the following subjects are forward-looking
by their nature:
• our
business strategy;
• our
projected operating results;
• our
ability to obtain future financing arrangements;
• our
ability to make distributions to our shareholders in the future;
• our
understanding of our competition;
• market
trends;
• our
future acquisitions or dispositions of properties;
• projected
capital expenditures; and
• our
use of the proceeds of this offering.
The
forward-looking statements are based on our beliefs, assumptions and
expectations of our future performance. These beliefs, assumptions and
expectations can change as a result of many possible events or factors, not all
of which are known to us. If a change occurs, our business, financial condition,
liquidity and results of operations may vary materially from those expressed in
our forward-looking statements. You should carefully consider these risks before
you make an investment decision with respect to our common shares, along with
the following factors that could cause actual results to vary from our
forward-looking statements:
• the
factors referenced in the accompanying prospectus and in the documents
incorporated by reference, including those set forth under the section captioned
“Risk Factors” in the accompanying prospectus and in our Annual Report on Form
10-K for the year ended April 30, 2008 and our Quarterly Report on Form 10-Q for
the three months ended January 31, 2009;
• general
volatility of the capital markets and the market price of our common
shares;
• changes
in our business strategy;
• availability,
terms and deployment of capital;
• availability
of qualified personnel;
• changes
in our industry, interest rates or the general economy;
• the
degree and nature of our competition;
• defaults
in the performance of lease terms by our tenants;
• the
financial condition of our tenants, including the extent of tenant bankruptcies
or defaults;
• risk
of our tenants not renewing their leases;
• the
concentration of leases among our largest tenants;
• our
continued qualification as a real estate investment trust, or REIT, for federal
income tax purposes;
• risks
relating to real estate ownership and development; and
• risks
associated with use of leverage to acquire properties.
When we
use the words “believe,” “expect,” “anticipate,” “estimate” or similar
expressions, we intend to identify forward-looking statements. You should not
place undue reliance on these forward-looking statements.
There are
a number of risk factors associated with the conduct of our business, and the
risks listed above or discussed in the section entitled “Risk Factors” beginning
on page 8 in the accompanying prospectus, on page 10 of our Annual Report on
Form 10-K for the year ended April 30, 2008, on page 33 of our Quarterly Report
on Form 10-Q for the three months ended January 31, 2009 and in the documents
incorporated by reference may not be exhaustive. New risks and uncertainties
arise from time to time, and it is impossible for us to predict these events or
how they may affect us. All forward-looking statements should be reviewed with
caution. Except to the extent required by applicable law, we undertake no
obligation to, and do not intend to, update any forward-looking statements, the
factors listed above or the matters discussed in the sections entitled “Risk
Factors” in the accompanying prospectus, in our Annual Report for the year ended
April 30, 2008 and in our Quarterly Report on Form 10-Q for the three months
ended January 31, 2009, or to publicly announce the results of any revisions to
any of the forward-looking statements contained herein to reflect future events
or developments.
Upon
written instructions from us, Robert W. Baird & Co. Incorporated will use
its commercially reasonable efforts consistent with its sales and trading
practices, to solicit offers to purchase the common shares under the terms and
subject to the conditions set forth in the sales agreement. Robert W. Baird
& Co. Incorporated’s solicitation will continue until we instruct Robert W.
Baird & Co. Incorporated to suspend the solicitations and offers. We will
instruct Robert W. Baird & Co. Incorporated as to the amount of common
shares to be sold by Robert W. Baird & Co. Incorporated. We may instruct
Robert W. Baird & Co. Incorporated not to sell common shares if the sales
cannot be effected at or above the price designated by us in any instruction. We
or Robert W. Baird & Co. Incorporated may suspend the offering of common
shares upon proper notice to the other party and subject to other
conditions.
Robert W.
Baird & Co. Incorporated will provide written confirmation to us no later
than the opening of the trading day on the NASDAQ Global Select Market following
the trading day in which common shares are sold under the sales agreement. Each
confirmation will include the number of shares sold on the preceding day, the
net proceeds to us and the compensation payable by us to Robert W. Baird &
Co. Incorporated in connection with the sales.
We will
pay Robert W. Baird & Co. Incorporated commissions for its services in
acting as agent in the sale of common shares. Robert W. Baird & Co.
Incorporated will be entitled to compensation equal to 2.0% of the gross sales
price per share for common shares sold under the sales agreement. We estimate
that the total expenses for the offering, excluding compensation payable to
Robert W. Baird & Co. Incorporated under the terms of the sales agreement,
will be approximately $150,000.
Settlement
for sales of common shares will occur on the third business day following the
date on which any sales are made, or on some other date that is agreed upon by
us and Robert W. Baird & Co. Incorporated in connection with a particular
transaction, in return for payment of the net proceeds to us. There is no
arrangement for funds to be received in an escrow, trust or similar
arrangement.
In
connection with the sale of the common shares on our behalf, Robert W. Baird
& Co. Incorporated may, and will with respect to sales effected in an “at
the market offering”, be deemed to be an “underwriter” within the meaning of the
Securities Act, and the compensation of Robert W. Baird & Co. Incorporated
may be deemed to be underwriting commissions or discounts. We have agreed to
provide indemnification and contribution to Robert W. Baird & Co.
Incorporated against certain civil liabilities, including liabilities under the
Securities Act. We have also agreed to reimburse Robert W. Baird & Co.
Incorporated for other specified expenses.
The
offering of our common shares pursuant to the sales agreement will terminate
upon the earlier of (1) the sale of all common shares subject to the sales
agreement or (2) termination of the sales agreement. The sales agreement may be
terminated by us in our sole discretion at any time by giving notice to Robert
W. Baird & Co. Incorporated. Robert W. Baird & Co. Incorporated may
terminate the sales agreement under the circumstances specified in the sales
agreement and in its sole discretion at any time by giving notice to
us.
The
following discussion supplements the discussion under the heading “Material
Federal Income Tax Considerations” in the prospectus. The following
is a summary of certain additional material federal income tax considerations
with respect to the acquisition, ownership and disposition of our common
shares.
You
should consult your own tax advisor regarding the specific tax consequences of
the acquisition, ownership and disposition of our common shares.
Federal
Income Taxation of Investors Real Estate Trust
We
elected to be taxed as a REIT under the federal income tax laws commencing with
our taxable year ended April 30, 1971. In the opinion of Hunton &
Williams LLP, we qualified to be taxed as a REIT under the federal income tax
laws for our taxable years ended April 30, 2006 through April 30, 2008, and our
organization and current and proposed method of operation will enable us to
continue to qualify as a REIT for our taxable year ending April 30, 2009 and in
the future. You should be aware that Hunton & Williams LLP’s
opinion is based on existing federal income tax law governing qualification as a
REIT, which is subject to change, possibly on a retroactive basis, is not
binding on the Internal Revenue Service, or IRS, or any court and speaks as of
the date
issued. In
addition, Hunton & Williams LLP’s opinion is based on customary assumptions
and is conditioned upon certain representations made by us as to factual
matters, including representations regarding the nature of our assets and the
future conduct of our business. Moreover, our continued qualification and
taxation as a REIT depends on our ability to meet, on a continuing basis,
through actual operating results, certain qualification tests in the federal
income tax laws. Those qualification tests involve the percentage of
our income that we earn from specified sources, the percentages of our assets
that fall within specified categories, the diversity of share ownership and the
percentage of earnings that we distribute. While Hunton &
Williams LLP has reviewed those matters in connection with the foregoing
opinion, Hunton & Williams LLP will not review our compliance with those
tests on a continuing basis. Accordingly, no assurance can be given
that the actual results of our operations for any particular taxable year will
satisfy such requirements. For a discussion of the tax consequences
of the failure to qualify as a REIT, see “Material Federal Income Tax
Considerations—Federal Income Taxation of Investors Real Estate Trust—Failure to
Qualify” in the accompanying prospectus.
Annual
Distribution Requirements
The IRS
recently issued Revenue Procedure 2009-15, which permits publicly-traded REITs
to satisfy the annual distribution requirements by paying taxable dividends of
cash and shares of stock or beneficial interest, at the election of each
shareholder, for taxable years ending on or before December 31,
2009. Under Revenue Procedure 2009-15, up to 90% of any such taxable
dividend could be payable in shares of stock or beneficial
interests. Taxable shareholders receiving such dividends would be
required to include the full amount of the dividend as ordinary income to the
extent of current and accumulated earnings and profits for federal income tax
purposes. As a result, a U.S. shareholder receiving such dividends
may be required to pay income taxes with respect to such dividends in excess of
the cash dividends received. If a U.S. shareholder sells the shares
it receives as a dividend in order to pay this tax, the sales proceeds may be
less than the amount included in income with respect to the dividend, depending
on the market price of the shares at the time of the
sale. Furthermore, withholding of U.S. tax on such dividends paid to
non-U.S. shareholders may be required. With respect to a shareholder who
receives all or a portion of a dividend in common shares, such shareholder would
have a tax basis in such shares equal to the amount of cash that could have been
received instead of such shares as described above, and the holding period in
such shares would begin on the day following the payment date of the dividend.
We do not currently intend to make taxable distributions of our common shares in
order to satisfy the annual distribution requirements. See “Material Federal
Income Tax Considerations—Federal Income Taxation of Investors Real Estate
Trust—Annual Distribution Requirements” in the accompanying
prospectus.
Certain
legal matters in connection with this offering will be passed upon for us by
Hunton & Williams LLP and by Pringle & Herigstad, P.C. The description
of federal income tax considerations under the caption “Material Federal Income
Tax Considerations” in the accompanying prospectus and under the caption
“Additional Material Federal Income Tax Considerations” in this prospectus
supplement is based upon the opinion of Hunton & Williams LLP. Certain legal
matters in connection with this offering will be passed upon for Robert W. Baird
& Co. Incorporated by Bass, Berry & Sims PLC.
The
consolidated financial statements and the related financial statement schedules
incorporated in the accompanying prospectus by reference from Investors Real
Estate Trust’s Annual Report on Form 10-K for the fiscal year ended April 30,
2008, and the effectiveness of Investors Real Estate Trust’s internal control
over financial reporting, have been audited by Deloitte & Touche LLP, an
independent registered public accounting firm, as stated in their reports, which
are incorporated herein by reference. Such consolidated financial
statements and financial statement schedules have been so
incorporated in reliance upon the reports of such firm given upon
their authority as experts in accounting and auditing.
The SEC
allows us to “incorporate by reference” into this prospectus supplement and the
accompanying prospectus the information we file with the SEC, which means that
we can disclose important business, financial and other information to you by
referring you to other documents separately filed with the SEC. All information
incorporated by reference is part of this prospectus supplement and the
accompanying prospectus. Any statement contained in a document which is
incorporated by reference in this prospectus supplement or the accompanying
prospectus is automatically updated and superseded if information contained in
this prospectus supplement, the accompanying prospectus, or information we later
file with the SEC, modifies or replaces that information.
We
incorporate by reference the documents listed below and any future filings we
make with the SEC under Sections 13(a), 13(c), 14 or 15(d) of the Exchange Act,
unless specifically stated otherwise, prior to completion of the offering of
common shares described in this prospectus supplement.
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Annual
Report on Form 10-K for the year ended April 30, 2008 filed on July 14,
2008;
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Quarterly
Report on Form 10-Q for the quarter ended July 31, 2008 filed on September
9, 2008;
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Quarterly
Report on Form 10-Q for the quarter ended October 31, 2008 filed on
December 10, 2008;
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Quarterly
Report on Form 10-Q for the quarter ended January 31, 2009 filed on March
12, 2009;
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Current
Report on Form 8-K/A filed on May 20,
2008;
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Current
Report on Form 8-K filed on January 16,
2009;
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Current
Report on Form 8-K filed on March 27,
2009;
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The
description of our common shares of beneficial interest contained in our
Registration Statement on Form 10 (File No. 0-14851), dated July 29, 1986,
as amended by the Amended Registration Statement on Form 10, dated
December 17, 1986, and the Second Amended Registration Statement on Form
10, dated March 12, 1987; and
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The
description of our Series A Cumulative Redeemable Preferred Shares of
Beneficial Interst contained in our registration statement on Form 8-A,
dated April 21, 2007 and filed April 22,
2004.
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To obtain
a free copy of any of the documents incorporated by reference in this prospectus
supplement (other than exhibits, unless they are specifically incorporated by
reference in the documents) please contact us at:
Investors
Real Estate Trust
12 Main
Street South
Minot, ND
58701
Attn:
Shareholder Relations
Telephone:
(701) 837-4738
Our SEC
filings also are available on our Internet website at http://www.iret.com. The
information on our website is not, and you must not consider the information to
be, a part of this prospectus supplement or the accompanying
prospectus.
We are
subject to the informational requirements of the Exchange Act, and in accordance
with those requirements, we file annual, quarterly and current reports, proxy
statement and other information with the SEC. The reports and other information
can be inspected and copied at the public reference facilities maintained by the
SEC at Room 1580, 100 F Street, N.E., Washington, D.C. 20549. Copies of this
material can be obtained by mail from the Public Reference Section of the SEC at
Room 1580,100 F Street, N.E., Washington, D.C. 20549 at prescribed rates. The
public may obtain information on the operation of the public reference room by
calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet website (http://www.sec.gov) that
contains reports, proxy and information statements and other materials that are
filed through the SEC Electronic Data Gathering, Analysis and Retrieval (EDGAR)
system. In addition, our common shares are listed on the NASDAQ Global Select
Market and we are required to file reports, proxy and information statements and
other information with the NASDAQ Global Select Market. These documents can be
inspected at the principal office of the NASDAQ Stock Market LLC, One Liberty
Plaza,165 Broadway, New York, NY 10006, Phone: 212-401-8700. We have
filed with the SEC a registration statement on Form S-3 (Registration File No.
333-153715) covering the securities offered by this prospectus supplement. You
should be aware that this prospectus supplement does not contain all of the
information contained or incorporated by reference in that registration
statement and its exhibits and schedules. You may inspect and obtain the
registration statement, including exhibits, schedules, reports and other
information that we have filed with the SEC, as described in this paragraph.
Statements contained in this prospectus supplement concerning the contents of
any document we refer you to are not necessarily complete and in each instance
we refer you to the applicable document filed with the SEC for more complete
information.
(This
page intentionally left blank)
Prospectus
$150,000,000
Common
Shares of Beneficial Interest
Preferred
Shares of Beneficial Interest
Investors
Real Estate Trust may from time to time offer to sell: (i) our common
shares of beneficial interest, no par value, and (ii) in one or more classes or
series, our preferred shares of beneficial interest, no par value, all with an
aggregate public offering price of up to $150,000,000, on terms to be determined
at the time of the offering. In this prospectus, we refer to our
common shares of beneficial interest as our common shares, our preferred shares
of beneficial interest as our preferred shares, and we refer to our common
shares and our preferred shares collectively as our securities. Our
securities may be offered, separately or together, in amounts, at prices and on
terms to be set forth in one or more supplements to this prospectus (each, a
prospectus supplement). The aggregate public offering price and terms
of the securities will be determined by market conditions at the time the
securities are offered.
The
specific terms of any securities we sell and the terms on which we are offering
such securities will be set forth in a prospectus supplement. The
specific terms may include limitations on direct or beneficial ownership and
restrictions on transfer of the securities, in each case as may be appropriate
to preserve our status as a real estate investment trust for federal income tax
purposes. The applicable prospectus supplement will also contain
information, where applicable, about material federal income tax considerations
relating to, and any listing on a securities exchange of, the securities offered
by the prospectus supplement. The applicable prospectus supplement
may also add to, update or change information contained in this
prospectus. You should carefully read this prospectus and any
applicable prospectus supplement, together with the addition information
described under the heading “Where You Can Find More Information,” before you
invest in any of our securities.
Our
common and preferred shares are traded on the NASDAQ Global Select Market under
the symbols “IRET” and “IRETP”, respectively. Our executive offices
are located at 12 Main Street South, Minot, North Dakota 58701, telephone
number: 701-837-4738. Our website address is
www.iret.com. The information set forth on, or otherwise accessible
through, our web site is not incorporated into, and does not form a part of,
this prospectus or any other report or document we file with or furnish to the
Securities and Exchange Commission (SEC).
We may
sell the securities offered by this prospectus directly, through agents
designated by us from time to time or to or through underwriters or
dealers. If any agents, underwriters or dealers are involved in the
sale of any of our securities, their names, and any applicable purchase price,
fee, commission or discount arrangements between or among them, will be set
forth, or will be calculable from the information set forth, in the applicable
prospectus supplement. None of our securities may be sold without
delivery of a prospectus supplement.
Investing
in our securities involves certain risks. See “Risk Factors” in our
Annual Report on Form 10-K for the fiscal year ended April 30, 2008 and “Risk
Factors” beginning on page 8 of this prospectus.
Neither
the Securities and Exchange Commission nor any state securities commission has
approved or disapproved these securities or determined if this prospectus is
truthful or complete. Any representation to the contrary is a
criminal offense.
The date
of this prospectus is September 29, 2008.
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This
prospectus is part of a registration statement that we filed with the SEC
utilizing a “shelf” registration process. Under this shelf registration process,
we may sell any combination of the securities described in this prospectus in
one or more offerings up to a total dollar amount of
$150,000,000. This prospectus provides you with a general description
of the securities we may offer. Each time we sell securities, we will
provide a prospectus supplement that will contain specific information about the
terms of that offering. The prospectus supplement may also add,
update or change information contained in this prospectus. You should
read both this prospectus and any prospectus supplement together with additional
information described under the heading “Where You Can Find More
Information.”
You
should rely only on the information contained and incorporated by reference in
this prospectus. We have not authorized any other person to provide
you with different or inconsistent information from that contained in this
prospectus and the applicable prospectus supplement. If anyone
provides you with different or inconsistent information, you should not rely on
it. You should assume that the information in this prospectus and the
applicable prospectus supplement, as well as the information we previously filed
with the SEC and incorporated by reference, is accurate only as of the date on
the front cover of this prospectus and the applicable prospectus
supplement. Our business, financial condition, results of operations
and prospects may have changed since those dates.
This
prospectus contains or incorporates by reference forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended
(Securities Act) and Section 21E of the Securities Exchange Act of 1934, as
amended (Exchange Act). You can identify some of the forward-looking
statements by their use of forward-looking words, such as “believes,” “expects,”
“may,” “should,” “seeks,” “approximately,” “intends,” “plans,” “estimates,” or
“anticipates,” or the negative of those words or similar
words. Forward-looking statements involve inherent risks and
uncertainties regarding events, conditions and financial trends that may affect
our future plans of operation, business strategy, results of operations and
financial position. A number of important factors could cause actual
results to differ materially from those included within or contemplated by such
forward-looking statements, including, but not limited to, the status of the
economy, the status of capital markets including prevailing interest rates,
compliance with and changes to regulations within environmental protection
regimes, changes in financing terms, competition within the commercial office,
medical (including senior housing), industrial, retail and multi-family housing
industries, and changes in federal, state and local legislation. For
a discussion of these and other factors that could cause actual results to
differ from those contemplated in the forward-looking statements in this
prospectus and in documents incorporated by reference in this prospectus, see
the discussion under “Risk Factors” contained in this prospectus and in other
information contained in our publicly available filings with the SEC, including
our annual report on Form 10-K for the year ended April 30, 2008. We
do not undertake any responsibility to update any of these factors or to
announce publicly any revisions to forward-looking statements, whether as a
result of new information, future events or otherwise.
Our
Company
We are a
self-advised real estate investment trust that owns and operates commercial
office, medical, industrial and retail properties and multi-family residential
properties located primarily in the upper Midwest. The charts below
show, as of July 31, 2008, the geographic distribution of our properties and
their classification by type, in both cases measured on the basis of our
investment in our properties (original investment plus improvements, if
any).
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Geographic
Distribution of Properties
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Classification
of Properties by Type
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As of
July 31, 2008, our real estate portfolio consisted of:
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76
multi-family residential properties, containing 9,528 apartment units and
having a total real estate investment amount net of accumulated
depreciation of $409.6 million; and
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163
commercial properties, containing approximately 11.5 million square feet
of leasable space and having a total real estate investment amount net of
accumulated depreciation of $1.0 billion, as
follows:
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65
office properties containing approximately 4.9 million square feet of
leasable space and having a total real estate investment amount net of
accumulated depreciation of $497.3
million;
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48
medical properties (including senior housing) containing approximately 2.3
million square feet of leasable space and having a total real estate
investment amount net of accumulated depreciation of $325.5
million;
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17
industrial properties containing approximately 2.8 million square feet of
leasable space and having a total real estate investment amount net of
accumulated depreciation of $93.1 million;
and
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retail properties containing approximately 1.5 million square feet of
leasable space and having a total real estate investment amount net of
accumulated depreciation of $100.6
million.
|
Our
commercial properties are typically leased to tenants under long term lease
arrangements, with no single tenant accounting for more than approximately 10.8%
of our total annualized commercial rental revenues as of July 31,
2008. At July 31, 2008, the economic occupancy rates for our
stabilized properties were as follows:
|
Multi-family
Residential
|
92.8 | % | ||
|
Commercial
Office
|
88.9 | % | ||
|
Commercial
Medical
|
95.7 | % | ||
|
Commercial
Industrial
|
95.9 | % | ||
|
Commercial
Retail
|
86.6 | % |
Economic
occupancy represents actual rental revenues recognized for the period indicated
as a percentage of scheduled rental revenues for the
period. Percentage rents, tenant concessions, straightline
adjustments and expense reimbursements are not considered in computing either
actual revenues or scheduled revenues.
Our
principal executive office is located at 12 Main Street South, Minot, North
Dakota, 58701, and our telephone number is (701) 837-4738.
Investment
Strategy
We employ
a disciplined investment strategy focused on growing assets in our target
geographical markets, achieving diversification by property type, adhering to
targeted returns in acquiring properties, and regularly increasing funds from
operations. We believe this investment strategy has enabled us to
achieve our goal of regularly increasing distributions on our
securities. We have increased our distributions per common share every year since our inception 37 years ago and every quarter since 1988.
We
attempt to concentrate our multi-family residential properties in communities
with populations of approximately 50,000 to 500,000 and we attempt to
concentrate our commercial properties in metropolitan areas with populations of
approximately 100,000 to 3.0 million. We focus most of our investment activity
in markets in the upper Midwest, due to our greater familiarity with these
markets, our existing market presence and our belief that these markets attract
less competition from other leading REITs and institutional investors. As of
July 31, 2008, approximately 67.7% of our properties, measured by investment
amount, net of accumulated depreciation, are located in the greater
Minneapolis/St. Paul metropolitan area.
We
continually receive, evaluate and identify opportunities for the acquisition and
development of commercial and multi-family residential properties, particularly
in the states in which we currently own properties. These investment and
development opportunities are sourced through various channels, including real
estate brokers, property owners, property management firms and our own business
development efforts. In evaluating commercial properties for acquisition, we
consider factors that include market size, economic and market rental
conditions, property type, property quality, existing occupancy and lease rates,
tenant makeup and quality, lease rollover risk and current and prospective cash
flow levels. In evaluating multi-family residential properties for acquisition,
we consider factors that include market size and growth characteristics,
demographic considerations, apartment rental conditions and trends, market rent
and occupancy levels, property quality, operating expense and maintenance
considerations, property occupancy rates and current and prospective cash flow
levels. Upon identifying properties that meet our investment criteria, we
conduct financial analyses, perform property inspections, identify borrowing
sources and terms and submit or negotiate acquisition proposals on terms that
allow us, under reasonable assumptions, to meet our targeted investment
returns. In evaluating multi-family residential and commercial
development opportunities, we consider factors that include property site
location, access, soil conditions and other physical characteristics of the
site, market size and growth characteristics, demographic considerations,
existing property development adjacent or near the site, prospective tenants and
cash flow levels.
Typically,
we seek to acquire existing, well-maintained properties that have a strong
tenant base and lease or rental revenues and terms that immediately support our
return on investment objectives. Due to varying market conditions over time,
this can lead to a greater concentration of investment activity in certain
property types during particular market cycles. For instance, during the 12
months ended July 31, 2008, approximately 74.1% of our property acquisitions,
based on investment amount, have been medical office and senior housing
properties, due to the greater availability of these properties on terms that
meet our return on investment objectives. As market conditions evolve, however,
this trend may be reversed and we may again purchase a greater percentage of
multi-family residential properties, or commercial, retail and industrial
properties. We typically seek to develop commercial projects when we
have identified or secured a tenant for the project. We typically
seek to develop multi-family residential projects when we have identified a
community with attractive economic and market rental conditions.
We
generally use available cash or short-term floating rate debt to acquire real
estate. We then replace the cash or short-term floating rate debt with
fixed-rate secured debt, typically in an amount equal to 65% to 75% of the
acquisition cost. In appropriate circumstances, we also may acquire one or more
properties in exchange for our shares of beneficial interest or LP units of IRET
Properties, which typically are convertible into our common shares on a
one-to-one basis or, at our option, cash, after the expiration of a minimum
one-year holding period. Subject to our continued ability to raise equity
capital and issue LP units of IRET Properties, we anticipate acquiring $100
million to $200 million of real estate assets on an annual basis. We
generally finance development projects with available cash or short-term
floating rate debt, and then replace the cash or short-term floating rate debt
with fixed-rate secured debt, typically in an amount equal to 65% to 75% of the
property’s appraised value.
Operations
We
conduct our operations from offices in Minot, North Dakota; Minneapolis,
Minnesota and Omaha, Nebraska. We also have property management
offices in St. Louis, Missouri and Kansas City, Kansas. In Minot, our
43-person staff is engaged in activities that include management and planning,
financial analysis and accounting, marketing, property sourcing and evaluation,
legal and compliance, information management and investor
relations. In Minneapolis, our 15-person staff is primarily engaged
in sourcing, evaluating and managing commercial properties in the
Minneapolis/St. Paul metropolitan area. In Omaha, Nebraska, our
7-person staff is engaged in sourcing, evaluating and managing commercial
properties in the Omaha metropolitan area, and in managing our capital markets
activities.
The
day-to-day management of our commercial properties is carried out by a
combination of our own employees and third-party property management
companies. In locations where the amount of rentable square footage
we own does not justify self-management, when properties acquired have effective
pre-existing property management in place, or when for other
reasons
particular properties are in our judgment not attractive candidates for self-management, we may utilize third-party professional management companies for day-to-day management. As of July 31, 2008, we have under internal management 93 commercial properties. The management and leasing of our multi-family residential properties is currently handled by locally-based, third-party management companies, which we believe allows us to benefit from local knowledge of the applicable real estate markets.
We
believe that our administrative, property management and corporate overhead
expenses as a percentage of our revenues are among the lowest of all public
REITs. We believe that this serves the interests of the holders of
our shares of beneficial interest by moderating the impact of cyclical downturns
and enhancing funds available for distribution.
Properties
The
tables set forth below present summary financial information regarding our
commercial and multi-family residential properties.
Commercial
and Multi-Family Residential Properties by State
The
following table presents, as of July 31, 2008, an analysis by state of each of
the five categories of properties owned by us — multi-family residential and
commercial office, medical, industrial and retail:
Total
Real Estate by Investment Amount
|
As
of July 31, 2008
|
||||||||||||||||||||||||||||
|
(in
thousands)
|
||||||||||||||||||||||||||||
|
Multi-Family
Residential
|
Commercial-Office
|
Commercial-Medical
|
Commercial-Industrial
|
Commercial-Retail
|
Total
|
Total
%
|
||||||||||||||||||||||
|
Minnesota
|
$ | 141,214 | $ | 359,154 | $ | 266,812 | $ | 69,979 | $ | 73,215 | $ | 910,374 | 55.0 | % | ||||||||||||||
|
North
Dakota
|
126,839 | 16,712 | 31,582 | 7,141 | 27,688 | 209,962 | 12.7 | % | ||||||||||||||||||||
|
Montana
|
40,848 | 0 | 4,335 | 0 | 5,270 | 50,453 | 3.0 | % | ||||||||||||||||||||
|
Colorado
|
43,224 | 22,454 | 0 | 0 | 0 | 65,678 | 4.0 | % | ||||||||||||||||||||
|
South
Dakota
|
33,928 | 7,088 | 7,472 | 0 | 0 | 48,488 | 2.9 | % | ||||||||||||||||||||
|
Texas
|
39,565 | 0 | 0 | 0 | 0 | 39,565 | 2.4 | % | ||||||||||||||||||||
|
Nebraska
|
35,851 | 79,512 | 24,820 | 0 | 3,699 | 143,882 | 8.7 | % | ||||||||||||||||||||
|
Kansas
|
42,779 | 14,733 | 0 | 0 | 0 | 57,512 | 3.5 | % | ||||||||||||||||||||
|
All
Other States
|
10,505 | 59,443 | 25,170 | 26,986 | 7,760 | 129,864 | 7.8 | % | ||||||||||||||||||||
|
Total
|
$ | 514,753 | $ | 559,096 | $ | 360,191 | $ | 104,106 | $ | 117,632 | $ | 1,655,778 | 100.0 | % | ||||||||||||||
Comparison
of Results from Commercial and Residential Properties
The
following table presents an analysis of the relative investment in
(corresponding to “Property owned” on the balance sheet, i.e., cost), and the
financial contribution of (i.e., the net operating income produced by), our
commercial and multi-family residential properties over the past three fiscal
years.
|
Fiscal
Years Ended April 30
|
||||||||||||||||||||||||
|
(in
thousands)
|
||||||||||||||||||||||||
|
2008
|
%
|
2007
|
%
|
2006
|
%
|
|||||||||||||||||||
|
Real
Estate Investments – (cost)
|
||||||||||||||||||||||||
|
Multi-Family
Residential
|
$ | 510,697 | 31.0 | % | $ | 489,644 | 32.9 | % | $ | 452,251 | 35.6 | % | ||||||||||||
|
Commercial
Office
|
556,712 | 33.8 | % | 536,431 | 36.0 | % | 383,280 | 30.2 | % | |||||||||||||||
|
Commercial
Medical
|
359,986 | 21.8 | % | 274,779 | 18.4 | % | 263,300 | 20.7 | % | |||||||||||||||
|
Commercial
Industrial
|
104,060 | 6.3 | % | 75,257 | 5.1 | % | 59,583 | 4.7 | % | |||||||||||||||
|
Commercial
Retail
|
116,804 | 7.1 | % | 113,176 | 7.6 | % | 111,009 | 8.8 | % | |||||||||||||||
|
Total
|
$ | 1,648,259 | 100.0 | % | $ | 1,489,287 | 100.0 | % | $ | 1,269,423 | 100.0 | % | ||||||||||||
|
Net
Operating Income (1)
|
||||||||||||||||||||||||
|
Multi-Family
Residential
|
$ | 38,190 | 28.6 | % | $ | 35,518 | 29.3 | % | $ | 31,967 | 30.9 | % | ||||||||||||
|
Commercial
Office
|
47,836 | 35.8 | % | 43,128 | 35.6 | % | 33,882 | 32.8 | % | |||||||||||||||
|
Commercial
Medical
|
28,656 | 21.4 | % | 26,108 | 21.5 | % | 23,356 | 22.6 | % | |||||||||||||||
|
Commercial
Industrial
|
9,162 | 6.8 | % | 6,838 | 5.7 | % | 5,120 | 5.0 | % | |||||||||||||||
|
Commercial
Retail
|
9,921 | 7.4 | % | 9,614 | 7.9 | % | 9,033 | 8.7 | % | |||||||||||||||
|
Total
|
$ | 133,765 | 100.0 | % | $ | 121,206 | 100.0 | % | $ | 103,358 | 100.0 | % | ||||||||||||
_____________________
|
(1)
|
We
define net operating income as total revenues less property operating
expenses and real estate taxes. We believe that net operating
income is an important supplemental measure of operating performance for a
real estate investment trust’s operating real estate because it provides a
measure of core operations that is unaffected by depreciation,
amortization, financing and general and administrative
expense. Net operating income does not represent cash generated
by operating activities in accordance with GAAP, and should not be
considered as an alternative to net income, net income available to common
shareholders or cash flow from operating activities as a measure of
financial performance. A reconciliation of net operating income
to Income before minority interest and discontinued operations and gain on
sale of other investments is as
follows:
|
|
(in
thousands)
|
||||||||||||||||||||||||
|
Year
Ended April 30, 2008
|
Multi-Family
Residential
|
Commercial-Office
|
Commercial-Medical
|
Commercial-Industrial
|
Commercial-Retail
|
Total
|
||||||||||||||||||
|
Real
estate revenue
|
$ | 72,827 | $ | 84,042 | $ | 38,412 | $ | 11,691 | $ | 14,198 | $ | 221,170 | ||||||||||||
|
Real
estate expenses
|
34,637 | 36,206 | 9,756 | 2,529 | 4,277 | 87,405 | ||||||||||||||||||
|
Net
operating income
|
$ | 38,190 | $ | 47,836 | $ | 28,656 | $ | 9,162 | $ | 9,921 | 133,765 | |||||||||||||
|
Interest
|
(63,439 | ) | ||||||||||||||||||||||
|
Depreciation/amortization
|
(51,518 | ) | ||||||||||||||||||||||
|
Administrative,
advisory and trustee fees
|
(5,203 | ) | ||||||||||||||||||||||
|
Other
expenses
|
(1,344 | ) | ||||||||||||||||||||||
|
Other
income
|
2,760 | |||||||||||||||||||||||
|
Income
before minority interest and discontinued operations and gain on sale of
other investments
|
$ | 15,021 | ||||||||||||||||||||||
|
(in
thousands)
|
||||||||||||||||||||||||
|
Year
Ended April 30, 2007
|
Multi-Family
Residential
|
Commercial-Office
|
Commercial-Medical
|
Commercial-Industrial
|
Commercial-Retail
|
Total
|
||||||||||||||||||
|
Real
estate revenue
|
$ | 66,972 | $ | 73,603 | $ | 34,783 | $ | 8,091 | $ | 14,089 | $ | 197,538 | ||||||||||||
|
Real
estate expenses
|
31,454 | 30,475 | 8,675 | 1,253 | 4,475 | 76,332 | ||||||||||||||||||
|
Net
operating income
|
$ | 35,518 | $ | 43,128 | $ | 26,108 | $ | 6,838 | $ | 9,614 | 121,206 | |||||||||||||
|
Interest
|
(58,424 | ) | ||||||||||||||||||||||
|
Depreciation/amortization
|
(45,501 | ) | ||||||||||||||||||||||
|
Administrative,
advisory and trustee fees
|
(4,451 | ) | ||||||||||||||||||||||
|
Other
expenses
|
(1,240 | ) | ||||||||||||||||||||||
|
Other
income
|
2,665 | |||||||||||||||||||||||
|
Income
before minority interest and discontinued operations and gain on sale of
other investments
|
$ | 14,255 | ||||||||||||||||||||||
|
(in
thousands)
|
||||||||||||||||||||||||
|
Year
Ended April 30, 2006
|
Multi-Family
Residential
|
Commercial-Office
|
Commercial-Medical
|
Commercial-Industrial
|
Commercial-Retail
|
Total
|
||||||||||||||||||
|
Real
estate revenue
|
$ | 61,669 | $ | 57,483 | $ | 31,670 | $ | 6,372 | $ | 12,977 | $ | 170,171 | ||||||||||||
|
Real
estate expenses
|
29,702 | 23,601 | 8,314 | 1,252 | 3,944 | 66,813 | ||||||||||||||||||
|
Net
operating income
|
$ | 31,967 | $ | 33,882 | $ | 23,356 | $ | 5,120 | $ | 9,033 | $ | 103,358 | ||||||||||||
|
Interest
|
(50,677 | ) | ||||||||||||||||||||||
|
Depreciation/amortization
|
(37,639 | ) | ||||||||||||||||||||||
|
Administrative,
advisory and trustee fees
|
(3,894 | ) | ||||||||||||||||||||||
|
Other
expenses
|
(1,269 | ) | ||||||||||||||||||||||
|
Other
income
|
1,240 | |||||||||||||||||||||||
|
Income
before minority interest and discontinued operations and gain on sale of
other investments
|
$ | 11,119 | ||||||||||||||||||||||
7
RISK
FACTORS
Risks
Related to Our Properties and Business
Our performance and share value are
subject to risks associated with the real estate industry. Our
results of operations and financial condition, the value of our real estate
assets, and the value of an investment in us are subject to the risks normally
associated with the ownership and operation of real estate
properties. These risks include, but are not limited to, the
following factors which, among others, may adversely affect the income generated
by our properties:
|
o
|
downturns
in national, regional and local economic conditions (particularly
increases in unemployment);
|
|
o
|
competition
from other commercial and multi-family residential
properties;
|
|
o
|
local
real estate market conditions, such as oversupply or reduction in demand
for commercial and multi-family residential
space;
|
|
o
|
changes
in interest rates and availability of attractive
financing;
|
|
o
|
declines
in the economic health and financial condition of our tenants and our
ability to collect rents from our
tenants;
|
|
o
|
vacancies,
changes in market rental rates and the need periodically to repair,
renovate and re-lease space;
|
|
o
|
increased
operating costs, including real estate taxes, state and local taxes,
insurance expense, utilities, and security
costs;
|
|
o
|
significant
expenditures associated with each investment, such as debt service
payments, real estate taxes and insurance and maintenance costs, which are
generally not reduced when circumstances cause a reduction in revenues
from a property;
|
|
o
|
weather
conditions, civil disturbances, natural disasters, or terrorist acts or
acts of war which may result in uninsured or underinsured
losses; and
|
|
o
|
decreases
in the underlying value of our real
estate.
|
Our property acquisition activities
subject us to various risks which could adversely affect our operating results.
We have acquired in the past and intend to continue to pursue the
acquisition of properties and portfolios of properties, including large
portfolios that could increase our size and result in alterations to our capital
structure. Our acquisition activities and their success are subject to numerous
risks, including, but not limited to:
|
|
•
|
even
if we enter into an acquisition agreement for a property, it is subject to
customary closing conditions, including completion of due diligence
investigations, and we may be unable to complete that acquisition after
making a non-refundable deposit and incurring other acquisition-related
costs;
|
|
|
•
|
we
may be unable to obtain financing for acquisitions on favorable terms or
at all;
|
|
|
•
|
acquired
properties may fail to perform as
expected;
|
|
|
•
|
the
actual costs of repositioning or redeveloping acquired properties may be
greater than our estimates; and
|
|
|
•
|
we
may be unable quickly and efficiently to integrate new acquisitions into
our existing operations.
|
These
risks could have an adverse effect on our results of operations and financial
condition.
8
Acquired properties may subject us
to unknown liabilities which could adversely affect our operating results.
We may acquire properties subject to liabilities and without any
recourse, or with only limited recourse against prior owners or other third
parties, with respect to unknown liabilities. As a result, if
liability were asserted against us based upon ownership of these properties, we
might have to pay substantial sums to settle or contest it, which could
adversely affect our results of operations and cash flows. Unknown
liabilities with respect to acquired properties might include liabilities for
clean-up of undisclosed environmental contamination; claims by tenants, vendors
or other persons against the former owners of the properties; liabilities
incurred in the ordinary course of business; and claims for indemnification by
general partners, directors, officers and others indemnified by the former
owners of the properties.
Our geographic concentration in
Minnesota and North Dakota may result in losses due to our significant
exposure to the effects of economic and real estate conditions in those
markets. For the fiscal year ended April 30, 2008, we received
approximately 67.4% of our gross revenue from properties in Minnesota and North
Dakota. As a result of this concentration, we are subject to
substantially greater risk than if our investments were more geographically
dispersed. Specifically, we are more significantly exposed to the effects of
economic and real estate conditions in those particular markets, such as
building by competitors, local vacancy and rental rates and general levels of
employment and economic activity. To the extent that weak economic or
real estate conditions affect Minnesota and/or North Dakota more severely than
other areas of the country, our financial performance could be negatively
impacted.
If we are not able to renew leases
or enter into new leases on favorable terms or at all as our existing leases
expire, our revenue, operating results and cash flows will be
reduced. We may be unable to renew leases with our existing
tenants or enter into new leases with new tenants due to economic and other
factors as our existing leases expire or are terminated prior to the expiration
of their current terms. As a result, we could lose a significant
source of revenue while remaining responsible for the payment of our
obligations. In addition, even if we were able to renew existing
leases or enter into new leases in a timely manner, the terms of those leases
may be less favorable to us than the terms of expiring leases, because the
rental rates of the renewal or new leases may be significantly lower than those
of the expiring leases, or tenant installation costs, including the cost of
required renovations or concessions to tenants, may be
significant. If we are unable to enter into lease renewals or new
leases on favorable terms or in a timely manner for all or a substantial portion
of space that is subject to expiring leases, our revenue, operating results and
cash flows will be adversely affected. As a result, our ability to make
distributions to the holders of our shares of beneficial interest may be
adversely affected. As of July 31, 2008, approximately 1.0 million square feet,
or 8.7% of our total commercial property square footage, was vacant.
Approximately 853 of our 9,528 apartment units, or 9.0%, were vacant. As of July
31, 2008, leases covering approximately 5.4% of our total commercial segments
net rentable square footage will expire in fiscal year 2009, 10.7% in fiscal
year 2010, 13.0% in fiscal year 2011, 13.4% in fiscal year 2012, and 9.3% in
fiscal year 2013.
We face potential adverse effects
from commercial tenant bankruptcies or insolvencies. The
bankruptcy or insolvency of our commercial tenants may adversely affect the
income produced by our properties. If a tenant defaults, we may
experience delays and incur substantial costs in enforcing our rights as
landlord. If a tenant files for bankruptcy, we cannot evict the
tenant solely because of such bankruptcy. A court, however, may
authorize the tenant to reject and terminate its lease with us. In
such a case, our claim against the tenant for unpaid future rent would be
subject to a statutory cap that might be substantially less than the remaining
rent actually owed under the lease, and it is unlikely that a bankrupt tenant
would pay in full amounts it owes us under a lease. This shortfall
could adversely affect our cash flow and results of operations. If a
tenant experiences a downturn in its business or other types of financial
distress, it may be unable to make timely rental payments. Under some
circumstances, we may agree to partially or wholly terminate the lease in
advance of the termination date in consideration for a lease termination fee
that is less than the agreed rental amount. Additionally, without
regard to the manner in which a lease termination occurs, we are likely to incur
additional costs in the form of tenant improvements and leasing commissions in
our efforts to lease the space to a new tenant, as well as possibly lower rental
rates reflective of declines in market rents.
Because real estate investments are
generally illiquid, and various factors limit our ability to dispose of assets,
we may not be able to sell properties when appropriate. Real
estate investments are relatively illiquid and, therefore, we have limited
ability to vary our portfolio quickly in response to changes in economic or
other conditions. In addition, the prohibitions under the federal
income tax laws on REITs holding property for sale and related regulations may
affect our ability to sell properties. Our ability to dispose of
assets may also be limited by constraints on our ability to utilize disposition
proceeds to make acquisitions on financially attractive terms, and the
requirement that we take additional impairment charges on certain
assets. More specifically, we are required to distribute or pay tax
on all capital gains generated from the sale of assets, and, in addition, a
significant number of our properties were acquired using limited partnership
units of IRET Properties, our operating partnership, and are subject to certain
agreements which restrict our ability to sell such properties in transactions
that would create current taxable income to the former owners. As a
result, we are motivated to structure the sale of these assets as tax-free
exchanges. To accomplish this we must identify attractive
re-investment opportunities. Recently, while capital market
conditions have been favorable for dispositions, investment yields on
acquisitions have been less attractive due to the abundant capital inflows into
the real estate sector. These considerations impact our decisions on
whether or not to dispose of certain of our assets.
9
Inability to manage our rapid growth
effectively may adversely affect our operating results. We have
experienced significant growth in recent years, increasing our total assets from
approximately $1.2 billion at April 30, 2006, to $1.6 billion at April 30, 2008,
principally through the acquisition of additional real estate properties.
Subject to our continued ability to raise equity capital and issue limited
partnership units of IRET Properties and identify suitable investment
properties, we intend to continue our acquisition of real estate properties.
Effective management of this level of growth presents challenges,
including:
|
|
•
|
the
need to expand our management team and
staff;
|
|
|
•
|
the
need to enhance internal operating systems and
controls;
|
|
|
•
|
increased
reliance on outside advisors and property managers;
and
|
|
|
•
|
the
ability to consistently achieve targeted returns on individual
properties.
|
We may
not be able to maintain similar rates of growth in the future, or manage our
growth effectively. Our failure to do so may have a material adverse
effect on our financial condition and results of operations and ability to make
distributions to the holders of our shares of beneficial interest.
Competition may negatively impact
our earnings. We compete with many kinds of institutions, including other
REITs, private partnerships, individuals, pension funds and banks, for tenants
and investment opportunities. Many of these institutions are active in the
markets in which we invest and have greater financial and other resources that
may be used to compete against us. With respect to tenants, this competition may
affect our ability to lease our properties, the price at which we are able to
lease our properties and the cost of required renovations or tenant
improvements. With respect to acquisition and development investment
opportunities, this competition may cause us to pay higher prices for new
properties than we otherwise would have paid, or may prevent us from purchasing
a desired property at all.
An inability to make accretive
property acquisitions may adversely affect our ability to increase our
operating income. From our fiscal year ended April 30, 2005, to our
fiscal year ended April 30, 2008, our operating income increased from $9.9
million to $12.3 million. The acquisition of additional real estate
properties is critical to our ability to increase our operating
income. If we are unable to continue to make real estate acquisitions
on terms that meet our financial and strategic objectives, whether due to market
conditions, a changed competitive environment or unavailability of capital, our
ability to increase our operating income may be materially and adversely
affected.
High leverage on our overall
portfolio may result in losses. As of April 30, 2008, our ratio of total
indebtedness to total Net Assets (as that term is used in our Bylaws, which
usage is not in accordance with GAAP, “Net Assets” means our total assets at
cost before deducting depreciation or other non-cash reserves, less total
liabilities) was approximately 143.8%. As of April 30, 2007 and 2006, our
percentage of total indebtedness to total Net Assets was approximately 149.6%
and 138.0%, respectively. Under our Bylaws we may increase our total
indebtedness up to 300.0% of our Net Assets, or by an additional approximately
$1.2 billion. There is no limitation on the increase that may be permitted if
approved by a majority of the independent members of our board of trustees and
disclosed to the holders of our securities in the next quarterly report, along
with justification for any excess.
This
amount of leverage may expose us to cash flow problems if rental income
decreases. Under those circumstances, in order to pay our debt obligations we
might be required to sell properties at a loss or be unable to make
distributions to the holders of our shares of beneficial interest. A failure to
pay amounts due may result in a default on our obligations and the loss of the
property through foreclosure. Additionally, our degree of leverage
could adversely affect our ability to obtain additional financing and may have
an adverse effect on the market price of our securities.
Our inability to renew, repay or
refinance our debt may result in losses. We incur a significant amount of
debt in the ordinary course of our business and in connection with acquisitions
of real properties. In addition, because we have a limited ability to retain
earnings as a result of the REIT distribution requirements, we will generally be
required to refinance debt that matures with additional debt or
equity. We are subject to the normal risks associated with debt
financing, including the risk that:
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our
cash flow will be insufficient to meet required payments of principal and
interest;
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we
will not be able to renew, refinance or repay our indebtedness when due;
and
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the
terms of any renewal or refinancing will be less favorable than the terms
of our current indebtedness.
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These
risks increase when credit markets are tight, as they are now; in general, when
the credit markets are constrained, we may encounter resistance from lenders
when we seek financing or refinancing for properties or proposed acquisitions,
and the terms of such financing or refinancing are likely to be less favorable
to us than the terms of our current indebtedness.
We
anticipate that only a small portion of the principal of our debt will be repaid
prior to maturity. Therefore, we are likely to need to refinance at
least a portion of our outstanding debt as it matures. We cannot
guarantee that any refinancing of debt with other debt will be possible on terms
that are favorable or acceptable to us. If we cannot refinance,
extend or pay principal payments due at maturity with the proceeds of other
capital transactions, such as new equity capital, our cash flows may not be
sufficient in all years to repay debt as it matures. Additionally, if
we are unable to refinance our indebtedness on acceptable terms, or at all, we
may be forced to dispose of one or more of our properties on disadvantageous
terms, which may result in losses to us. These losses could have a material
adverse effect on us, our ability to make distributions to the holders of our
shares of beneficial interest and our ability to pay amounts due on our debt.
Furthermore, if a property is mortgaged to secure payment of indebtedness and we
are unable to meet mortgage payments, the mortgagee could foreclose upon the
property, appoint a receiver and receive an assignment of rents and leases or
pursue other remedies, all with a consequent loss of our revenues and asset
value. Foreclosures could also create taxable income without accompanying cash
proceeds, thereby hindering our ability to meet the REIT distribution
requirements of the Internal Revenue Code.
As of
July 31, 2008, approximately $16.2 million of our mortgage debt will come due in
the remainder of fiscal year 2009, and approximately $132.3 million of our
mortgage debt is due for repayment in fiscal year 2010. As of July 31, 2008, we
had approximately $36.5 million of principal payments due on fixed and
variable-rate mortgages secured by our real estate in the remainder of fiscal
year 2009, and approximately $153.9 million due in fiscal year 2010. As of July
31, 2008, we had approximately $50.4 million and approximately $61.2 million,
respectively, of interest payments due on fixed and variable-rate mortgages
secured by our real estate in the remainder of fiscal year 2009 and fiscal year
2010.
The cost of our indebtedness may
increase. Portions of our fixed-rate indebtedness incurred for past
property acquisitions come due on a periodic basis. Rising interest
rates could limit our ability to refinance this existing debt when it matures,
and would increase our interest costs, which could have a material adverse
effect on us, our ability to make distributions to the holders of our shares of
beneficial interest and our ability to pay amounts due on our
debt. In addition, we have incurred, and we expect to continue to
incur, indebtedness that bears interest at a variable rate. As of April 30,
2008, $11.7 million, or approximately 1.1%, of the principal amount of our total
mortgage indebtedness was subject to variable interest rate
agreements. If short-term interest rates rise, our debt service
payments on adjustable rate debt would increase, which would lower our net
income and could decrease our distributions to the holders of our shares of
beneficial interest.
We depend on distributions and other
payments from our subsidiaries that they may be prohibited from making to us,
which could impair our ability to make distributions to holders of our shares of
beneficial interest. Substantially all of our assets are held
through IRET Properties, our operating partnership, and other of our
subsidiaries. As a result, we depend on distributions and other payments from
our subsidiaries in order to satisfy our financial obligations and make
distributions to the holders of our shares of beneficial
interest. The ability of our subsidiaries to make such distributions
and other payments depends on their earnings, and may be subject to statutory or
contractual limitations. As an equity investor in our subsidiaries,
our right to receive assets upon their liquidation or reorganization effectively
will be subordinated to the claims of their creditors. To the extent
that we are recognized as a creditor of such subsidiaries, our claims may still
be subordinate to any security interest in or other lien on their assets and to
any of their debt or other obligations that are senior to our
claims.
Our current or future insurance may
not protect us against possible losses. We carry comprehensive liability,
fire, extended coverage and rental loss insurance with respect to our properties
at levels that we believe to be adequate and comparable to coverage customarily
obtained by owners of similar properties. However, the coverage limits of our
current or future policies may be insufficient to cover the full cost of repair
or replacement of all potential losses. Moreover, this level of coverage may not
continue to be available in the future or, if available, may be available only
at unacceptable cost or with unacceptable terms. Additionally, there
may be certain extraordinary losses, such as those resulting from civil unrest,
terrorism or environmental contamination, that are not generally, or fully,
insured against because they are either uninsurable or not economically
insurable. For example, we do not currently carry insurance against losses as a
result of environmental contamination. Should an uninsured or underinsured loss
occur to a property, we could be required to use our own funds for restoration
or lose all or part of our investment in, and anticipated revenues from, the
property. In any event, we would continue to be obligated on any mortgage
indebtedness on the property. Any loss could have a material adverse effect on
us, our ability to make distributions to the holders of our shares of beneficial
interest and our ability to pay amounts due on our debt. In addition,
in most cases we have to renew our insurance policies on an annual basis and
negotiate acceptable terms for coverage, exposing us to the volatility of the
insurance markets, including the possibility of rate increases. Any
material increase in insurance rates or decrease in available
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coverage in the future could adversely affect our business and financial condition and results of operations, which could cause a decline in the market value of our securities.
We have significant investments in
medical properties and adverse trends in healthcare provider operations may
negatively affect our lease revenues from these properties. We have
acquired a significant number of specialty medical properties (including senior
housing/assisted living facilities) and may acquire more in the future. As of
July 31, 2008, our real estate portfolio consisted of 48 medical properties,
with a total real estate investment amount, net of accumulated depreciation, of
$325.5 million, or approximately 22.8% of the total real estate investment
amount, net of accumulated depreciation, of our entire real estate
portfolio. The healthcare industry is currently experiencing changes
in the demand for, and methods of delivery of, healthcare services; changes in
third-party reimbursement policies; significant unused capacity in certain
areas, which has created substantial competition for patients among healthcare
providers in those areas; continuing pressure by private and governmental payors
to reduce payments to providers of services; and increased scrutiny of billing,
referral and other practices by federal and state authorities. Sources of
revenue for our medical property tenants may include the federal Medicare
program, state Medicaid programs, private insurance carriers and health
maintenance organizations, among others. Efforts by such payors to reduce
healthcare costs will likely continue, which may result in reductions or slower
growth in reimbursement for certain services provided by some of our
tenants. These factors may adversely affect the economic performance
of some or all of our medical services tenants and, in turn, our lease revenues.
In addition, if we or our tenants terminate the leases for these properties, or
our tenants lose their regulatory authority to operate such properties, we may
not be able to locate suitable replacement tenants to lease the properties for
their specialized uses. Alternatively, we may be required to spend substantial
amounts to adapt the properties to other uses. Any loss of revenues and/or
additional capital expenditures occurring as a result could hinder our ability
to make distributions to the holders of our shares of beneficial
interest.
Adverse changes in applicable laws
may affect our potential liabilities relating to our properties and
operations. Increases in real estate taxes and income, service and
transfer taxes cannot always be passed through to all tenants in the form of
higher rents. As a result, any increase may adversely affect our cash available
for distribution, our ability to make distributions to the holders of our shares
of beneficial interest and our ability to pay amounts due on our debt.
Similarly, changes in laws that increase the potential liability for
environmental conditions existing on properties, that increase the restrictions
on discharges or other conditions or that affect development, construction and
safety requirements may result in significant unanticipated expenditures that
could have a material adverse effect on us, our ability to make distributions to
the holders of our shares of beneficial interest and our ability to pay amounts
due on our debt. In addition, future enactment of rent control or rent
stabilization laws or other laws regulating multi-family residential properties
may reduce rental revenues or increase operating costs.
Complying with laws benefiting
disabled persons or other safety regulations and requirements may affect our
costs and investment
strategies. Federal, state and local laws and regulations designed to
improve disabled persons’ access to and use of buildings, including the
Americans with Disabilities Act of 1990, may require modifications to, or
restrict renovations of, existing buildings. Additionally, these laws and
regulations may require that structural features be added to buildings under
construction. Legislation or regulations that may be adopted in the
future may impose further burdens or restrictions on us with respect to improved
access to, and use of these buildings by, disabled persons. Noncompliance could
result in the imposition of fines by government authorities or the award of
damages to private litigants. The costs of complying with these laws
and regulations may be substantial, and limits or restrictions on construction,
or the completion of required renovations, may limit the implementation of our
investment strategy or reduce overall returns on our investments. This could
have an adverse effect on us, our ability to make distributions to the holders
of our shares of beneficial interest and our ability to pay amounts due on our
debt. Our properties are also subject to various other federal, state
and local regulatory requirements, such as state and local fire and life safety
requirements. If we fail to comply with these requirements, we could
incur fines or private damage awards. Additionally, in the event that
existing requirements change, compliance with future requirements may require
significant unanticipated expenditures that may adversely affect our cash flow
and results of operations.
We may be responsible for potential
liabilities under environmental laws. Under various federal, state and
local laws, ordinances and regulations, we, as a current or previous owner or
operator of real estate may be liable for the costs of removal of, or
remediation of, hazardous or toxic substances in, on, around or under that
property. These laws may impose liability without regard to whether we knew of,
or were responsible for, the presence of the hazardous or toxic substances. The
presence of these substances, or the failure to properly remediate any property
containing these substances, may adversely affect our ability to sell or rent
the affected property or to borrow funds using the property as collateral. In
arranging for the disposal or treatment of hazardous or toxic substances, we may
also be liable for the costs of removal of, or remediation of, these substances
at that disposal or treatment facility, whether or not we own or operate the
facility. In connection with our current or former ownership (direct or
indirect), operation, management, development and/or control of real properties,
we may be potentially liable for removal or remediation costs with respect to
hazardous or toxic substances at those properties, as well as certain other
costs, including governmental fines and claims for injuries to persons and
property. A finding of liability for an environmental condition as to any one or
more properties could have a material adverse effect on us, our ability to make
distributions to the holders of our shares of beneficial interest and our
ability to pay amounts due on our debt.
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Environmental
laws also govern the presence, maintenance and removal of asbestos, and require
that owners or operators of buildings containing asbestos properly manage and
maintain the asbestos; notify and train those who may come into contact with
asbestos; and undertake special precautions if asbestos would be disturbed
during renovation or demolition of a building. Indoor air quality
issues may also necessitate special investigation and
remediation. These air quality issues can result from inadequate
ventilation, chemical contaminants from indoor or outdoor sources, or biological
contaminants such as molds, pollen, viruses and bacteria. Such
asbestos or air quality remediation programs could be costly, necessitate the
temporary relocation of some or all of the property’s tenants or require
rehabilitation of an affected property.
It is
generally our policy to obtain a Phase I environmental study on each property
that we seek to acquire. A Phase I environmental study generally
includes a visual inspection of the property and the surrounding areas, an
examination of current and historical uses of the property and the surrounding
areas and a review of relevant state and federal documents, but does not involve
invasive techniques such as soil and ground water sampling. If the Phase I
indicates any possible environmental problems, our policy is to order a Phase II
study, which involves testing the soil and ground water for actual hazardous
substances. However, Phase I and Phase II environmental studies, or any other
environmental studies undertaken with respect to any of our current or future
properties, may not reveal the full extent of potential environmental
liabilities. We currently do not carry insurance for environmental
liabilities.
We may be unable to retain or
attract qualified management. We are dependent upon our senior officers
for essentially all aspects of our business operations. Our senior officers have
experience in the specialized business segments in which we operate, and the
loss of them would likely have a material adverse effect on our operations, and
could adversely impact our relationships with lenders, industry personnel and
potential tenants. We do not have employment contracts with any of
our senior officers. As a result, any senior officer may terminate his or her
relationship with us at any time, without providing advance
notice. If we fail to manage effectively a transition to new
personnel, or if we fail to attract and retain qualified and experienced
personnel on acceptable terms, our business and prospects could be
harmed. The location of our company headquarters in Minot, North
Dakota, may make it more difficult and expensive to attract, relocate and retain
current and future officers and employees.
Failure to comply with changing
regulation of corporate governance and public disclosure could have a material
adverse effect on our business, operating results and stock price, and
continuing compliance will result in additional expenses. The
Sarbanes-Oxley Act of 2002, as well as new rules and standards subsequently
implemented by the Securities and Exchange Commission and NASDAQ, have required
changes in some of our corporate governance and accounting practices, and are
creating uncertainty for us and many other public companies, due to varying
interpretations of the rules and their evolving application in
practice. We expect these laws, rules and regulations to increase our
legal and financial compliance costs, and to subject us to additional
risks. In particular, if we fail to maintain the adequacy of our
internal controls in accordance with Section 404 of the Sarbanes-Oxley Act of
2002, as such standards may be modified, supplemented or amended from time to
time, a material misstatement could go undetected, and we may not be able to
ensure that we can conclude on an ongoing basis that we have effective internal
controls over financial reporting. Failure to maintain an effective
internal control environment could have a material adverse effect on our
business, operating results, and stock price. Additionally, our
efforts to comply with Section 404 of the Sarbanes-Oxley Act and the related
regulations have required, and we believe will continue to require, the
commitment of significant financial and managerial resources.
Risks
Related to Our Structure and Organization
We may incur tax liabilities as a
consequence of failing to qualify as a REIT. Although our management
believes that we are organized and have operated and are operating in such a
manner to qualify as a REIT, as that term is defined under the Internal Revenue
Code, we may not in fact have operated, or may not be able to continue to
operate, in a manner to qualify or remain so qualified. Qualification as a REIT
involves the application of highly technical and complex Internal Revenue Code
provisions for which there are only limited judicial or administrative
interpretations. Even a technical or inadvertent mistake could
endanger our REIT status. The determination that we qualify as a REIT
requires an ongoing analysis of various factual matters and circumstances, some
of which may not be within our control. For example, in order to qualify as a
REIT, at least 95% of our gross income in any year must come from certain
passive sources that are itemized in the REIT tax laws, and we are prohibited
from owning specified amounts of debt or equity securities of some
issuers. Thus, to the extent revenues from non-qualifying sources,
such as income from third-party management services, represent more than five
percent of our gross income in any taxable year, we will not satisfy the 95%
income test and may fail to qualify as a REIT, unless certain relief provisions
contained in the Internal Revenue Code apply. Even if relief provisions apply,
however, a tax would be imposed with respect to excess net income. We are also
required to make distributions to the holders of our securities of at least 90%
of our REIT taxable income, excluding net capital gains. The fact
that we hold substantially all of our assets (except for qualified REIT
subsidiaries) through IRET Properties, our operating partnership, and its
subsidiaries, and our ongoing reliance on factual determinations, such as
determinations related to the valuation of our assets, further complicates the
application of the REIT requirements for us.
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Additionally,
if IRET Properties, our operating partnership, or one or more of our
subsidiaries is determined to be taxable as a corporation, we may fail to
qualify as a REIT. Either our failure to qualify as a REIT, for any reason, or
the imposition of taxes on excess net income from non-qualifying sources, could
have a material adverse effect on us, our ability to make distributions to the
holders of our shares of beneficial interest and our ability to pay amounts due
on our debt. Furthermore, new legislation, regulations, administrative
interpretations or court decisions could change the tax laws with respect to our
qualification as a REIT or the federal income tax consequences of our
qualification.
If we
failed to qualify as a REIT, we would be subject to federal income tax
(including any applicable alternative minimum tax) on our taxable income at
regular corporate rates, which would likely have a material adverse effect on
us, our ability to make distributions to the holders of our shares of beneficial
interest and our ability to pay amounts due on our debt. In addition, we could
be subject to increased state and local taxes, and, unless entitled to relief
under applicable statutory provisions, we would also be disqualified from
treatment as a REIT for the four taxable years following the year during which
we lost our qualification. This treatment would reduce funds available for
investment or distributions to the holders of our securities because of the
additional tax liability to us for the year or years involved. In addition, we
would no longer be able to deduct, and would not be required to make,
distributions to holders of our securities. To the extent that distributions to
the holders of our securities had been made in anticipation of qualifying as a
REIT, we might be required to borrow funds or to liquidate certain investments
to pay the applicable tax.
Failure of our operating partnership
to qualify as a partnership would have a material adverse effect on
us. We believe that IRET Properties, our operating
partnership, qualifies as a partnership for federal income tax
purposes. No assurance can be given, however, that the Internal
Revenue Service will not challenge its status as a partnership for federal
income tax purposes, or that a court would not sustain such a
challenge. If the Internal Revenue Service were to be successful in
treating IRET Properties as an entity that is taxable as a corporation (such as
a publicly traded partnership taxable as a corporation), we would cease to
qualify as a REIT because the value of our ownership interest in IRET Properties
would exceed 5% of our assets, and because we would be considered to hold more
than 10% of the voting securities and value of the outstanding securities of
another corporation. Also, the imposition of a corporate tax on IRET
Properties would reduce significantly the amount of cash available for
distribution by it.
Certain provisions of our Articles
of Amendment and Third Restated Declaration of Trust may limit a change in control and deter a
takeover. In order to maintain our qualification as a REIT, our Third
Restated Declaration of Trust provides that any transaction, other than a
transaction entered into through the NASDAQ National Market, (renamed the NASDAQ
Global Market), or other similar exchange, that would result in our
disqualification as a REIT under Section 856 of the Internal Revenue Code,
including any transaction that would result in (i) a person owning in excess of
the ownership limit of 9.8%, in number or value, of our outstanding securities,
(ii) less than 100 people owning our securities, (iii) our being “closely held”
within the meaning of Section 856(h) of the Internal Revenue Code, or (iv) 50%
or more of the fair market value of our securities being held by persons other
than “United States persons,” as defined in Section 7701(a)(30) of the Internal
Revenue Code, will be void ab initio. If the transaction is not void ab initio,
then the securities in excess of the ownership limit, that would cause us to be
closely held, that would result in 50% or more of the fair market value of our
securities to be held by persons other than United States persons or that
otherwise would result in our disqualification as a REIT, will automatically be
exchanged for an equal number of excess shares, and these excess shares will be
transferred to an excess share trustee for the exclusive benefit of the
charitable beneficiaries named by our board of trustees. These limitations may
have the effect of preventing a change in control or takeover of us by a third
party, even if the change in control or takeover would be in the best interests
of the holders of our securities.
In order to maintain our REIT
status, we may be forced to borrow funds during unfavorable market
conditions. In order to maintain our REIT status, we may need
to borrow funds on a short-term basis to meet the REIT distribution
requirements, even if the then-prevailing market conditions are not favorable
for these borrowings. To qualify as a REIT, we generally must
distribute to our shareholders at least 90% of our net taxable income each year,
excluding net capital gains. In addition, we will be subject to a 4%
nondeductible excise tax on the amount, if any, by which certain distributions
made by us with respect to the calendar year are less than the sum of 85% of our
ordinary income, 95% of our capital gain net income for that year, and any
undistributed taxable income from prior periods. We intend to make
distributions to our shareholders to comply with the 90% distribution
requirement and to avoid the nondeductible excise tax and will rely for this
purpose on distributions from our operating partnership. However, we
may need short-term debt or long-term debt or proceeds from asset sales or sales
of common shares to fund required distributions as a result of differences in
timing between the actual receipt of income and the recognition of income for
federal income tax purposes, or the effect of non-deductible capital
expenditures, the creation of reserves or required debt or amortization
payments. The inability of our cash flows to cover our distribution
requirements could have an adverse impact on our ability to raise short and
long-term debt or sell equity securities in order to fund distributions required
to maintain our REIT status.
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Complying with REIT requirements may
force us to forego otherwise attractive opportunities or liquidate otherwise
attractive investments. To qualify and maintain our status as
a REIT, we must satisfy certain requirements with respect to the character of
our assets. If we fail to comply with these requirements at the end
of any quarter, we must correct such failure within 30 days after the end of the
quarter (by, possibly, selling asses not withstanding their prospects as an
investment) to avoid losing our REIT status. If we fail to comply
with these requirements at the end of any quarter, and the failure exceeds a
minimum threshold, we may be able to preserve our REIT status if (a) the failure
was due to reasonable cause and not to willful neglect, (b) we dispose of the
assets causing the failure within six months after the last day of the quarter
in which we identified the failure, (c) we file a schedule with the IRS
describing each asset that caused the failure, and (d) we pay an additional tax
of the greater of $50,000 or the product of the highest applicable tax rate
multiplied by the net income generated on those assets. As a result,
compliance with the REIT requirements may require us to liquidate or forego
otherwise attractive investments. These actions could have the effect
of reducing our income and amounts available for distribution to our
shareholders.
Even if we qualify as a REIT, we may
face other tax liabilities that reduce our cash flow. Even if
we qualify for taxation as a REIT, we may be subject to certain federal, state
and local taxes on our income and assets, including taxes on any undistributed
income, tax on income from some activities conducted a a result of a
foreclosure, and state or local income, property and transfer taxes, such as
mortgage recording taxes. Any of these taxes would decrease cash
available for distribution to our shareholders. In addition, in order
to meet the REIT qualification requirements, or to avert the imposition of a
100% tax that applies to certain gains derived by a REIT from dealer property or
inventory, we may in the future hold some of our assets through a taxable REIT
subsidiary.
We may be subject to adverse
legislative or regulatory tax changes that could reduce the market price of our
common shares. At any time, the federal income tax laws
governing REITs or the administrative interpretations of those laws may be
amended. Any of those new laws or interpretations may take effect
retroactively and could adversely affect us or the market price of our common
shares of beneficial interest.
The U.S. federal income tax laws
governing REITs are complex. We intend to operate in a manner
that will qualify us as a REIT under the U.S. federal income tax
laws. The REIT qualification requirements are extremely complex,
however, and interpretations of the U.S. federal income tax laws governing
qualification as a REIT are limited. Accordingly, we cannot be certain that we
will be successful in operating so we can continue to qualify as a
REIT. At any time, new laws, interpretations, or court decisions may
change the federal tax laws or the U.S. federal income tax consequences of our
qualification as a REIT.
Our board of trustees may make
changes to our major policies without approval of the holders of our shares of
beneficial interest. Our operating and financial policies, including
policies relating to development and acquisition of real estate, financing,
growth, operations, indebtedness, capitalization and distributions, are
exclusively determined by our board of trustees. Our board of trustees may amend
or revoke those policies, and other policies, without advance notice to, or the
approval of, the holders of our shares of beneficial
interest. Accordingly, our shareholders do not control these
policies, and policy changes could adversely affect our financial condition and
results of operations.
Risks
Related to the Purchase of our Shares of Beneficial Interest
Our future growth depends, in part,
on our ability to raise additional equity capital, which will have the
effect of diluting the interests of the holders of our common shares.
Our future growth depends upon, among other things, our ability to raise
equity capital and issue limited partnership units of IRET Properties. The
issuance of additional common shares, and of limited partnership units for which
we subsequently issue common shares upon the redemption of the limited
partnership units, will dilute the interests of the current holders of our
common shares. Additionally, sales of substantial amounts of our
common shares or preferred shares in the public market, or issuances of our
common shares upon redemption of limited partnership units in our operating
partnership, or the perception that such sales or issuances might occur, could
adversely affect the market price of our common shares.
We may issue additional classes or
series of our shares of beneficial interest with rights and preferences
that are superior to the rights and preferences of our common shares.
Without the approval of the holders of our common shares, our board of
trustees may establish additional classes or series of our shares of beneficial
interest, and such classes or series may have dividend rights, conversion
rights, voting rights, terms of redemption, redemption prices, liquidation
preferences or other rights and preferences that are superior to the rights of
the holders of our common shares.
Payment of distributions on our
shares of beneficial interest is not guaranteed. Our board of
trustees must approve our payment of distributions and may elect at any time, or
from time to time, and for an indefinite duration, to reduce the
distributions
15
payable on our shares of beneficial interest or to not pay distributions on our shares of beneficial interest. Our board of trustees may reduce distributions for a variety of reasons, including, but not limited to, the following:
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operating
and financial results below expectations that cannot support the current
distribution payment;
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unanticipated
costs or cash requirements; or
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a
conclusion that the payment of distributions would cause us to breach the
terms of certain agreements or contracts, such as financial ratio
covenants in our debt financing
documents.
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Our distributions are not eligible
for the lower tax rate on dividends except in limited
situations. The tax rate applicable to qualifying corporate
dividends received by shareholders taxed at individual rates prior to 2010 has
been reduced to a maximum rate of 15%. This special tax rate is
generally not applicable to distributions paid by a REIT, unless such
distributions represent earnings on which the REIT itself had been taxed. As a
result, distributions (other than capital gain distributions) paid by us to
shareholders taxed at individual rates will generally be subject to the tax
rates that are otherwise applicable to ordinary income which, currently, are as
high as 35%. Although the earnings of a REIT that are distributed to
its shareholders are still generally subject to less federal income taxation
than earnings of a non-REIT C corporation that are distributed to its
shareholders net of corporate-level income tax, this law change may make an
investment in our securities comparatively less attractive relative to an
investment in the shares of other entities which pay dividends but are not
formed as REITs.
Changes in market conditions could
adversely affect the price of our securities. As is the case
with any publicly-traded securities, certain factors outside of our control
could influence the value of our common shares, Series A preferred shares and
any other securities to be issued in the future. These conditions include, but
are not limited to:
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market
perception of REITs in general;
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market
perception of REITs relative to other investment
opportunities;
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market
perception of our financial condition, performance, distributions and
growth potential;
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prevailing
interest rates;
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general
economic and business conditions;
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government
action or regulation, including changes in the tax laws;
and
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relatively
low trading volumes in securities of
REITS.
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Higher market interest rates may
adversely affect the market price of our securities, and low trading volume on
the NASDAQ Global Select Market may prevent the timely resale of our securities. One
of the factors that investors may consider important in deciding whether to buy
or sell shares of a REIT is the distribution with respect to such REIT’s shares
as a percentage of the price of those shares, relative to market interest
rates. If market interest rates rise, prospective purchasers of REIT
shares may expect a higher distribution rate in order to maintain their
investment. Higher market interest rates would likely increase our
borrowing costs and might decrease funds available for
distribution. Thus, higher market interest rates could cause the
market price of our common shares to decline. In addition, although
our common shares of beneficial interest are listed on the NASDAQ Global Select
Market, the daily trading volume of our shares may be lower than the trading
volume for other companies. The average daily trading volume for the
period of May 1, 2007, through April 30, 2008, was 194,469 shares and the
average monthly trading volume for the period of May 1, 2007 through April 30,
2008 was 4,100,054 shares. As a result of this trading volume, an
owner of our securities may encounter difficulty in selling our shares in a
timely manner and may incur a substantial loss.
Unless
otherwise described in the applicable prospectus supplement, we intend to use
the net proceeds from any sale of our securities for general business purposes,
including the acquisition, development, renovation, expansion or improvement of
income-producing real estate properties. Pending such use, the net
proceeds may be invested in short-term income-producing investments, such as
United States Treasury Bonds with terms of six months or less.
16
We may
offer under this prospectus one or more of the following categories of our
securities:
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common
shares of beneficial interest, no par value per share;
and
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preferred
shares of beneficial interest, no par value per share, in one or more
series.
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The terms
of any specific offering of securities will be set forth in a prospectus
supplement relating to such offering.
Pursuant
to our Third Restated Declaration of Trust, we are authorized to issue an
unlimited number of our common shares of beneficial interest, and an unlimited
number of our preferred shares of beneficial interest. As of July 31,
2008, 58,202,448 common shares were outstanding, and 1,150,000 of our 8.25%
Series A Cumulative Redeemable Preferred Shares of Beneficial Interest, no par
value (“Series A Preferred Shares”) were outstanding. For a
description of our Series A Preferred Shares, we refer you to our registration
statement on Form 8-A, filed with the SEC on April 22, 2004 and incorporated
into this prospectus pursuant to SEC rules. The SEC allows us to
“incorporate by reference” the information we file with the SEC, which means
incorporated documents are considered to be part of the prospectus and we may
disclose important information to you by referring you to those documents. See
the section entitled “Documents Incorporated By Reference” below.
Our
common shares are listed on the NASDAQ Global Select Market under the symbol
“IRET.” Our Series A Preferred Shares are listed on the NASDAQ Global
Select Market under the symbol “IRETP.” We may apply to list the
securities which are offered and sold hereunder, as described in the prospectus
supplement relating to such securities.
The
following description of our common shares sets forth certain general terms and
provisions of the common shares to which any prospectus supplement may relate,
including a prospectus supplement providing that common shares will be issuable
upon conversion of preferred shares. The statements below describing
our common shares are in all respects subject to and qualified in their entirety
by reference to the applicable provisions of our Third Restated Declaration of
Trust and Bylaws, including any applicable amendments. The
description of our common shares is also subject to any terms specified in any
applicable prospectus supplement. All of our common shares offered by
this prospectus will be duly authorized, fully paid and
nonassessable.
General. Our Third Restated
Declaration of Trust authorizes the issuance of an unlimited number of our
common shares. As of September 22, 2008, (i) there were 58,270,296 of
our common shares outstanding and 21,409,361 limited partnership units of IRET
Properties, our operating partnership, outstanding, of which 12,648,548 were
then eligible for redemption for cash or (at our option) for common shares on a
one-to-one basis; (ii) we had no classes or series of shares other than our
common shares and our Series A Preferred Shares, and (iii) there were no
warrants, stock options or other contractual arrangements, other than the
limited partnership units, requiring redemption for cash or through the issuance
of our common shares or other shares.
Voting
Rights. Subject to the provisions of our Third Restated
Declaration of Trust regarding the restriction on the transfer of our common
shares, our common shares have non-cumulative voting rights at the rate of one
vote per common share on all matters submitted to the shareholders, including
the election of members of our Board of Trustees.
Our Third
Restated Declaration of Trust generally provides that whenever any action is to
be taken by the holders of our common shares, including the amendment of our
Third Restated Declaration of Trust if such amendment is previously approved by
our Board of Trustees, such action will be authorized by a majority of the
holders of our common shares present in person or by proxy at a meeting at which
a quorum is present, except as otherwise required by law, our Third Restated
Declaration of Trust or our Bylaws. Our Third Restated Declaration of
Trust further provides the following:
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(i)
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that
the following actions will be authorized by the affirmative vote of the
holders of our common shares holding common shares possessing a majority
of the voting power of our common shares then outstanding and entitled to
vote on such action:
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our
termination;
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the
merger of us with or into another
entity;
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our
consolidation with one or more other entities into a new
entity;
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the
disposition of all or substantially all of our assets,
and
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the
amendment of the Third Restated Declaration of Trust, if such amendment
has not been previously approved by our Board of Trustees;
and
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(ii)
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that
a member of our Board of Trustees may be removed with or without cause by
the holders of our common shares by the affirmative vote of not less than
two-thirds of our common shares then outstanding and entitled to vote on
such matter.
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Our Third
Restated Declaration of Trust also permits our Board of Trustees, by a
two-thirds vote and without any action by the holders of our common shares, to
amend our Third Restated Declaration of Trust from time to time as necessary to
enable us to continue to qualify as a real estate investment trust under the
Code.
Dividend, Distribution, Liquidation
and Other Rights. Subject to the preferential rights of any
preferred shares that we may issue in the future and the provisions of the Third
Restated Declaration of Trust regarding the restriction on the transfer of our
common shares, holders of our common shares are entitled to receive dividends on
their common shares if, as and when authorized and declared by the Board of
Trustees and to share ratably in our assets legally available for distribution
to our shareholders in the event of our liquidation, dissolution or winding up
after payment of, or adequate provision for, all known debts and
liabilities. Our common shares have equal dividend, distribution,
liquidation and other rights. Our common shares have no preference,
conversion, exchange, sinking fund or redemption rights.
Ownership and Transfer
Restrictions. Our common shares are fully transferable and
alienable subject only to certain restrictions set forth in our Third Restated
Declaration of Trust that are intended to help preserve our status as a REIT for
federal income tax purposes. For a summary description of these
restrictions, see “Restrictions on Ownership and Transfer” below.
Transfer Agent and
Registrar. We act as our own transfer agent and registrar with
respect to our common shares.
Our Third
Restated Declaration of Trust authorizes the issuance of an unlimited number of
preferred shares. Our Board of Trustees has the authority, under our
Third Restated Declaration of Trust, to establish by resolution one or more
classes or series of preferred shares and to fix the number and relative rights
and preferences of such different classes or series of preferred shares without
any further vote or action by our shareholders. Unless otherwise
designated in our Third Restated Declaration of Trust, all series of preferred
shares will constitute a single class of preferred shares.
The
following description of our preferred shares sets forth certain general terms
and provisions of the preferred shares to which any prospectus supplement may
relate. The statements below describing our preferred shares are in
all respects subject to and qualified in their entirety by reference to our
Third Restated Declaration of Trust and our Bylaws, including any amendments
thereto, and by reference to any applicable designating amendment to our Third
Declaration of Trust establishing terms of a class or series of our preferred
shares. Our preferred shares will, when issued, be fully paid and
nonassessable.
General
As our
Board of Trustees has the power to establish the rights and preferences of each
class or series of our preferred shares, our Board of Trustees may afford the
holders of any class or series of our preferred shares rights and preferences,
voting or otherwise, senior to the rights of holders of our common
shares. The issuance of classes or series of preferred shares could
have the effect of delaying or preventing a change of control that might involve
a premium price for shareholders or otherwise be in their best
interest.
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The
rights and preferences of our preferred shares of each class or series will be
fixed by the designating amendment relating to the class or series. A
prospectus supplement, relating to each class or series, will specify the terms
of our preferred shares, as follows:
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the
title and stated value of our preferred
shares;
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the
number of preferred shares offered, the liquidation preference per share
and the offering price of our preferred
shares;
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the
dividend rate(s), period(s) and/or payment date(s) or method(s) of
calculation applicable to our preferred
shares;
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the
date from which dividends on our preferred shares will accumulate, if
applicable;
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the
procedures for any auction and remarketing, if any, for our preferred
shares;
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the
provision for a sinking fund, if any, for our preferred
shares;
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the
provision for redemption, if applicable, of our preferred
shares;
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any
listing of our preferred shares on any securities exchange or
association;
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the
transfer agent and registrar for our preferred
shares;
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the
terms and conditions, if applicable, upon which our preferred shares will
be convertible into our common shares, including the conversion price (or
manner of calculation) and conversion
period;
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a
discussion of certain material federal income tax considerations
applicable to our preferred shares;
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the
relative ranking and preferences of our preferred shares as to dividend
rights and rights upon the liquidation, dissolution or winding up of our
affairs;
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any
limitation on issuance of any series of our preferred shares ranking
senior to or on a parity with the series of preferred shares as to
dividend rights and rights upon the liquidation, dissolution or winding up
of our affairs;
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any
limitations on direct or beneficial ownership and restrictions on transfer
of our preferred shares, in each case as may be appropriate to preserve
our status as a REIT; and
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any
other specific terms, preferences, rights, limitations or restrictions of
our preferred shares.
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Rank
Unless
otherwise specified in the applicable prospectus supplement, our preferred
shares will, with respect to rights to the payment of dividends and distribution
of our assets and rights upon our liquidation, dissolution or winding up, rank
(i) senior to our common shares and all other equity securities the terms of
which provide that such equity securities are junior to our preferred shares;
(ii) on a parity with all equity securities other than those referred to in
clauses (i) and (iii); and (iii) junior to all equity securities the terms of
which provide that such equity securities will rank senior to our preferred
shares.
Dividends
Holders
of our preferred shares will be entitled to receive, when, as and if authorized
by our Board of Trustees and declared by us, out of our assets legally available
for payment, cash dividends at rates and on dates as will be set forth in the
applicable prospectus supplement. Each dividend will be payable to holders of
record as they appear in our records on the record dates as will be fixed by our
Board of Trustees.
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Dividends
on any class or series of our preferred shares may be cumulative or
non-cumulative, as provided in the applicable prospectus supplement. Dividends,
if cumulative, will accumulate from and after the date set forth in the
applicable prospectus supplement. If our Board of Trustees fails to authorize a
dividend payable on a dividend payment date on any class or series of our
preferred shares for which dividends are noncumulative, then the holders of that
class or series of our preferred shares will have no right to receive a dividend
in respect of the dividend period ending on that dividend payment date, and we
will have no obligation to pay the dividend accrued for that period, whether or
not dividends on that class or series are declared payable on any future
dividend payment date.
If any
class or series of our preferred shares are outstanding, no full dividends will
be authorized or paid or set apart for payment on any other class or series of
our preferred shares ranking, as to dividends, on a parity with or junior to
that class or series of our preferred shares for any period unless (i) with
respect to classes or series of our preferred shares having a cumulative
dividend, full cumulative dividends have been or contemporaneously are
authorized and paid or authorized and a sum sufficient for the payment thereof
set apart for payment for all past dividend periods and the then current
dividend period, or (ii) with respect to classes or series of our preferred
shares not having a cumulative dividend, full dividends have been or
contemporaneously are authorized and paid or authorized and a sum sufficient for
the payment thereof set aside for payment,
When
dividends are not paid in full (or a sum sufficient for their full payment is
not so set apart) upon any class or series of our preferred shares and any other
class or series of our preferred shares ranking on a parity as to dividends with
that class or series of our preferred shares, all dividends declared upon that
class or series of preferred shares and any other class or series of our
preferred shares ranking on a parity as to dividends with those preferred shares
will be authorized pro rata so that the amount of dividends authorized per share
on that class or series of preferred shares and that other class or series of
our preferred shares will in all cases bear to each other the same ratio that
accrued and unpaid dividends per share on that class or series of our preferred
shares (which will not include any accumulation in respect of unpaid dividends
for prior dividend periods if those preferred shares do not have a cumulative
dividend) and that other class or series of our preferred shares bear to each
other. No interest, or sum of money in lieu of interest, will be payable in
respect of any dividend payment or payments on our preferred shares of that
series that may be in arrears.
Except as
provided in the immediately preceding paragraph, unless (i) with respect to
classes or series of our preferred shares having a cumulative dividend, full
cumulative dividends have been or contemporaneously are authorized and paid or
authorized and a sum sufficient for the payment thereof set apart for payment
for all past dividend periods and the then current dividend period, or (ii) with
respect to classes or series of our preferred shares not having a cumulative
dividend, full dividends have been or contemporaneously are authorized and paid
or authorized and a sum sufficient for the payment thereof set aside for payment
for the then current dividend period, no dividends (other than in our common
shares or other equity securities ranking junior to our preferred shares of that
class or series as to dividends and upon our liquidation, dissolution or winding
up) will be authorized or paid or set aside for payment, no other distribution
will be authorized or made upon our common shares or any other equity securities
ranking junior to or on a parity with our preferred shares of that class or
series as to dividends or upon liquidation, and no common shares or other equity
securities ranking junior to or on a parity with our preferred shares of such
class or series as to dividends or upon our liquidation, dissolution or winding
up will be redeemed, purchased or otherwise acquired for any consideration (or
any monies be paid to or made available for a sinking fund for the redemption of
any shares) by us (except by conversion into or exchange for other equity
securities ranking junior to our preferred shares of that class or series as to
dividends and upon our liquidation, dissolution or winding up).
Any
dividend payment made on a class or series of our preferred shares will first be
credited against the earliest accrued but unpaid dividend due with respect to
shares of that class or series which remains payable.
Redemption
If the
applicable prospectus supplement so states, our preferred shares will be subject
to mandatory redemption or redemption at our option, in whole or in part, in
each case on the terms, at the times and at the redemption prices set forth in
that prospectus supplement.
The
prospectus supplement relating to a class or series of our preferred shares that
is subject to mandatory redemption will specify the number of our preferred
shares that will be redeemed by us in each year commencing after a date to be
specified, at a redemption price per share to be specified, together with an
amount equal to all accrued and unpaid dividends thereon (which will not, if our
preferred shares do not have a cumulative dividend, include any accumulation in
respect of unpaid dividends for
20
prior dividend periods) to the date of redemption. The redemption price may be payable in cash or other property, as specified in the applicable prospectus supplement. If the redemption price for any class or series of our preferred shares is payable only from the net proceeds of the issuance of our common shares or other equity securities, the terms of our preferred shares may provide that, if no such common shares or other equity securities have been issued or to the extent the net proceeds from any issuance are insufficient to pay in full the aggregate redemption price then due, that our preferred shares will automatically and mandatorily be converted into our common shares or other equity securities, as applicable, pursuant to conversion provisions specified in the applicable prospectus supplement.
None of
our preferred shares of any class or series will be redeemed unless all
outstanding shares of that class or series of our preferred shares are
simultaneously redeemed; provided, however, that the foregoing will not prevent
the purchase or acquisition of our preferred shares of that class or series
pursuant to a purchase or exchange offer made on the same terms to holders of
all outstanding shares of that class or series of our preferred
shares.
In
addition, unless (i) with respect to classes or series of our preferred shares
having a cumulative dividend, full cumulative dividends have been or
contemporaneously are authorized and paid or authorized and a sum sufficient for
the payment thereof set apart for payment for all past dividend periods and the
then current dividend period, or (ii) with respect to classes or series of our
preferred shares not having a cumulative dividend, full dividends have been or
contemporaneously are authorized and paid or authorized and a sum sufficient for
the payment thereof set aside for payment for the then current dividend period,
we will not purchase or otherwise acquire directly or indirectly any of our
preferred shares of that class or series (except by conversion into or exchange
for common shares or other equity securities ranking junior to our preferred
shares of that class or series as to dividends and upon our liquidation,
dissolution or winding up).
If fewer
than all of the outstanding shares of any class or series of our preferred
shares are to be redeemed, the number of shares to be redeemed will be
determined by us and those shares may be redeemed pro rata from the holders of
record of those shares in proportion to the number of those shares held by those
holders (with adjustments to avoid redemption of fractional shares) or any other
equitable method determined by us that will not result in the issuance of any
excess shares.
Notice of
redemption will be mailed at least 30 days but not more than 60 days before
the redemption date to each holder of record of any class or series of our
preferred shares to be redeemed at the address shown in our records. Each notice
will state:
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the
redemption date;
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the
number of shares and class or series of our preferred shares to be
redeemed;
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the
redemption price;
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the
place or places where certificates for our preferred shares are to be
surrendered for payment of the redemption
price;
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that
dividends on the shares to be redeemed will cease to accrue on that
redemption date; and
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the
date upon which the holder’s conversion rights, if any, as to those shares
will terminate.
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If fewer
than all of shares of any class or series of our preferred shares are to be
redeemed, the notice mailed to each holder thereof will also specify the number
of shares to be redeemed from each holder. If notice of redemption of any of our
preferred shares has been given and if the funds necessary for that redemption
have been set apart by us in trust for the benefit of the holders of any of our
preferred shares so called for redemption, then from and after the redemption
date dividends will cease to accrue on those shares, those shares will no longer
be deemed outstanding and all rights of the holders of those shares will
terminate, except the right to receive the redemption price.
Liquidation
Preference
Upon our
voluntary or involuntary liquidation, dissolution or winding up, then, before
any distribution or payment will be made to the holders of our common shares or
other equity securities ranking junior to that class or series of our preferred
shares in the distribution of assets upon our liquidation, dissolution or
winding up, the holders of each class or series of our preferred shares will be
entitled to receive out of our assets legally available for distribution to
shareholders liquidating distributions in the
21
amount of the liquidation preference per share (set forth in the applicable prospectus supplement), plus an amount equal to all dividends accrued and unpaid on such preferred shares (which will not include any accumulation in respect of unpaid dividends for prior dividend periods if that class or series of preferred shares does not have a cumulative dividend). After payment of the full amount of the liquidating distributions to which they are entitled, the holders of that class or series of our preferred shares will have no right or claim to any of our remaining assets. If, upon our voluntary or involuntary liquidation, dissolution or winding up, our legally available assets are insufficient to pay the amount of the liquidating distributions on all outstanding shares of that class or series of our preferred shares and the corresponding amounts payable on all shares of other classes or series of shares ranking on a parity with that class or series of our preferred shares in the distribution of assets upon our liquidation, dissolution or winding up, then the holders of that class or series of our preferred shares and all other classes or series of shares will share ratably in that distribution of assets in proportion to the full liquidating distributions to which they would otherwise be respectively entitled.
If
liquidating distributions have been made in full to all holders of shares of
that class or series of our preferred shares, our remaining assets will be
distributed among the holders of our common shares and other equity securities
ranking junior to that class or series of our preferred shares upon our
liquidation, dissolution or winding up, according to their respective rights and
preferences and in each case according to their respective number of shares. For
those purposes, neither our consolidation or merger with or into any other
corporation, trust or other entity, nor the sale, lease, transfer or conveyance
of all or substantially all of our property or business, will be deemed to
constitute our liquidation, dissolution or winding up.
Voting Rights
Except as
otherwise described below, as otherwise required by law or as indicated in the
applicable prospectus supplement, holders of our preferred shares will not have
any voting rights. Whenever dividends on any class or series of our preferred
shares are in arrears for six or more quarterly periods, regardless of whether
those quarterly periods are consecutive, the holders of that class or series of
our preferred shares (voting separately as a class with all other classes or
series of our preferred shares upon which like voting rights have been conferred
and are exercisable) will be entitled to vote for the election of two additional
directors to our Board of Trustees (and our entire Board of Trustees will be
increased by two trustees) until (i) with respect to classes or series of our
preferred shares having a cumulative dividend, full cumulative dividends have
been or contemporaneously are authorized and paid or authorized and a sum
sufficient for the payment thereof set apart for payment for all past dividend
periods and the then current dividend period, or (ii) with respect to classes or
series of our preferred shares not having a cumulative dividend, full dividends
have been or contemporaneously are authorized and paid or authorized and a sum
sufficient for the payment thereof set aside for payment for the then current
dividend period.
Unless
otherwise provided for any class or series of our preferred shares, so long as
any preferred shares remain outstanding, we will not, without the affirmative
vote or consent of the holders of at least two-thirds of each class or series of
our preferred shares outstanding at the time, given in person or by proxy,
either in writing or at a meeting (that class or series voting separately as a
class):
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authorize
or create, or increase the authorized or issued amount of, any class or
series of our preferred shares ranking senior to that class or series of
our preferred shares with respect to payment of dividends or the
distribution of assets upon our liquidation, dissolution or winding up, or
reclassify any of our equity securities into equity securities that rank
senior to those preferred shares with respect to payment of dividends or
the distribution of assets upon our liquidation, dissolution or winding
up, or create, authorize or issue any obligation or equity security
convertible into or evidencing the right to purchase any equity securities
that rank senior to those preferred shares with respect to payment of
dividends or the distribution of assets upon our liquidation, dissolution
or winding up; or
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ii.
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amend,
alter or repeal the provisions of our Third Restated Declaration of Trust,
including any applicable amendments and designating amendments, whether by
merger, consolidation or otherwise, so as to materially and adversely
affect any right, preference, privilege or voting power of that class or
series of our preferred shares; provided, however, that any increase in
the amount of the authorized preferred shares or the authorization or
issuance of any other equity securities, or any increase in the number of
authorized shares of that class or series of our preferred shares or any
other equity securities, in each case ranking on a parity with or junior
to any class or series of our preferred shares with respect to payment of
dividends and the distribution of assets upon liquidation, dissolution or
winding up, will not be deemed to materially and adversely affect those
rights, preferences, privileges or voting
powers.
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The foregoing
voting provisions will not apply if, at or prior to the time when the act with
respect to which that vote would otherwise be required to be effected, all
outstanding shares of that class or series of our preferred shares has been
redeemed or called for redemption upon proper notice and sufficient funds have
been irrevocably deposited in trust to effect that redemption.
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Conversion Rights
The terms
and conditions, if any, upon which any class or series of our preferred shares
are convertible into our common shares or other equity securities will be set
forth in the applicable prospectus supplement. Such terms will include the
number of common shares or other equity securities into which our preferred
shares are convertible, the conversion price (or manner of calculation of the
conversion price), the conversion period, provisions as to whether conversion
will be at our option or at the option of the holders of that class or series of
our preferred shares, the events requiring an adjustment of the conversion price
and provisions affecting conversion in the event of the redemption of that class
or series of our preferred shares.
Restrictions on
Ownership
Our
preferred shares are fully transferable and alienable subject only to certain
restrictions to be set forth in the applicable designating amendment to our
Third Restated Declaration of Trust, which are intended to help preserve our
status as a REIT for federal income tax purposes. For a summary description of
these restrictions, see “Restrictions on Ownership and Transfer”
below.
In
addition to other qualifications, for us to qualify as a REIT, (1) not more than
50% in value of our outstanding capital stock may be owned, actually or
constructively, by five or fewer individuals during the last half of our taxable
year, and (2) such capital stock must be beneficially owned by 100 or more
persons during at least 335 days of a taxable year of 12 months or during a
proportionate part of a shorter taxable year.
To ensure
that we continue to meet the requirements for qualification as a REIT, our Third
Restated Declaration of Trust, subject to some exceptions, provides that any
transaction, other than a transaction entered into through the NASDAQ National
Market or other similar exchange, that would result in (i) a person owning our
securities in excess of 9.8%, in number or value, of our outstanding securities
(the “Ownership Limit”), (ii) fewer than 100 people owning our securities, (iii)
us being “closely held” within the meaning of Section 856(h) of the Code, (iv)
50.0% or more of the fair market value of our securities being held by persons
other than United States Persons, as defined in Section 7701(a)(30) of the Code
(“Non-U.S. Persons”), or (v) our disqualification as a REIT under Section 856 of
the Code, will be void ab initio. If any transaction is not void ab
initio, then the securities in excess of the Ownership Limit, that cause us to
be “closely held,” that result in 50.0% or more of the fair market value of our
securities to be held on Non-U.S. Persons or that result in our disqualification
as a REIT, would automatically be exchanged for an equal number of “Excess
Shares,” and these Excess Shares will be transferred to an “Excess Share
Trustee” for the exclusive benefit of the charitable beneficiaries named by our
Board of Trustees.
In such
event, any dividends on Excess Shares will be paid to the Excess Share Trust for
the benefit of the charitable beneficiaries. The Excess Share Trustee
will be entitled to vote the Excess Shares, if applicable, on any
matter. The Excess Share Trustee may only transfer the Excess Shares
held in the Excess Share Trust as follows: (i) at the direction of
our Board of Trustees to a person whose ownership of our securities would not
violate the Ownership Limit; (ii) if securities were transferred to the Excess
Share Trustee due to a transaction or event that would have caused a violation
of the Ownership Limit or would have caused us to be “closely held,” the Excess
Share Trustee will transfer the Excess Shares to the person who makes the
highest offer for the Excess Shares, pays the purchase price and whose ownership
will not violate the Ownership Limit or cause us to be “closely held”; and (iii)
if Excess Shares were transferred to the Excess Share Trustee due to a
transaction or event that would have caused Non-U.S. Persons to own more than
50% of the value of our securities, the Excess Share Trustee will transfer the
Excess Shares to the United States person who makes the highest offer for the
Excess Shares, pays the purchase price and whose ownership will not violate the
Ownership Limit or cause us to be “closely held.”
When the
Excess Share Trustee makes any transfer, the person whose shares were exchanged
for Excess Shares (the “Purported Record Transferee”) will receive (i) the
lesser of (A) the price paid by the Purported Record Transferee, or if the
Purported Record Transferee did not give value for the securities, the market
price of the securities on the day the securities were exchanged for Excess
Shares, and (B) the price received by the Excess Share Trust for securities,
minus (ii) any dividends received by the Purported Record Transferee that the
Purported Record Transferee was under an obligation to pay over to the Excess
Share Trustee but has not repaid at the time of the distribution of proceeds,
and minus (iii) any compensation for or expense of the Excess Share
Trustee.
The
preceding description of the restrictions on ownership and transfer of our
capital stock is only a summary. For a complete description, we refer
you to our Third Declaration of Trust and Bylaws and any amendments
thereto. We have
23
incorporated by reference our Third Declaration of Trust and Bylaws as exhibits to the registration statement of which this prospectus is a part.
EARNINGS
TO COMBINED FIXED CHARGES
AND
PREFERRED SHARE DIVIDENDS
The
following table sets forth our ratios of earnings to fixed charges and earnings
to combined fixed charges and preferred share dividends for the periods
indicated. The ratio of earnings to fixed charges was computed by
dividing earnings by our fixed charges. The ratio of earnings to
combined fixed charges and preferred share dividends was computed by dividing
earnings by our combined fixed charges and preferred share
dividends. For purposes of calculating these ratios, earnings consist
of income from continuing operations before minority interest plus fixed
charges. Fixed charges consist of interest charges on all
indebtedness, whether expensed or capitalized, the interest component of rental
expense and the amortization of debt discounts and issue costs, whether expensed
or capitalized. Preferred share dividends consist of dividends on our
Series A Preferred Shares.
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Fiscal
Year ended April 30,
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Three
Months ended
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2008
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2007
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2006
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2005
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2004
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July
31, 2008
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Consolidated
ratio of earnings to fixed charges
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1.23 | x | 1.24 | x | 1.21 | x | 1.20 | x | 1.23 | x | 1.15 | x | ||||||||||||
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Consolidated
ratio of earnings to combined fixed charges and preferred
distributions
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1.19 | x | 1.19 | x | 1.16 | x | 1.14 | x | 1.23 | x | 1.12 | x | ||||||||||||
The
following is a summary of material federal income tax
considerations relating to our qualification
and taxation
as a REIT and the acquisition, ownership, and
disposition of our securities, which are anticipated to be
material to purchasers of the securities to which any prospectus supplement may
relate. However, because this is only a
summary, it may not contain all of the information that may be important in your
specific circumstances. As you review this discussion, you should keep in mind
that:
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the
tax consequences to you may vary depending upon your particular tax
situation;
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special
rules that we do not discuss below may apply if, for example, you are a
tax-exempt organization (except to the
extent discussed below), a broker-dealer, a non-U.S. person (except to the extent discussed below), a
trust, an estate, a regulated investment company, a financial institution,
an insurance company or otherwise subject to special tax treatment under
the Internal Revenue Code;
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this
summary generally does not address alternative minimum tax, state, local or
non-U.S. tax considerations;
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this
summary deals only with shareholders that hold our common shares as
“capital assets” within the meaning of Section 1221 of the Internal
Revenue Code; and
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we
do not intend this discussion to be, and you should not construe it as,
tax advice.
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You should review the following discussion
and any applicable prospectus
supplement
and consult with your
own tax advisor to determine the tax consequences to you of the acquisition,
ownership and disposition of the securities to which any applicable prospectus
supplement may relate, including the federal, state, local, foreign and other
tax consequences.
We base
the information in this discussion on the current Internal Revenue Code,
current,
final, temporary and proposed Treasury regulations, the legislative history of
the Internal Revenue Code, current administrative interpretations and practices
of the Internal Revenue Service (the “IRS”), including its practices and
policies as endorsed in private letter rulings, which are not binding on the
IRS, and existing court decisions. Future legislation, regulations,
administrative interpretations and court decisions could change current law or
adversely affect existing interpretations of current law. Any change could apply
retroactively. It is possible that the IRS could challenge the statements in
this discussion, which do not bind the IRS or the courts, and that a court could
agree with the IRS.
24
Taxation of Investors Real Estate
Trust as a REIT
We
elected to be taxed as a REIT under the federal income tax laws commencing with
our taxable year ended April 30, 1971. We believe that, commencing with such
taxable year, we have been organized and have operated in such a manner as to
qualify for taxation as a REIT under the Internal Revenue Code, and we intend to
continue to be organized and to operate in such a manner. However, we cannot
assure you that we have operated or will operate in a manner so as to qualify or
remain qualified as a REIT. Qualification as a REIT depends on our continuing to
satisfy numerous asset, income, stock ownership and distribution tests described
below, the satisfaction of which depends, in part, on our operating results. The
sections of the Internal Revenue Code relating to qualification and operation as
a REIT, and the federal income taxation of a REIT and its shareholders, are
highly technical and complex. The following discussion sets forth only the
material aspects of those sections. This summary is qualified in its entirety by
the applicable Internal Revenue Code provisions and the related rules and
regulations.
Federal Income Taxation of Investors
Real Estate Trust
In the
opinion of Pringle & Herigstad, P.C., we qualified to be taxed as a REIT for
our taxable years ended April 30, 2001 through April 30, 2008, and our
organization and current and proposed method of operation will enable us to
continue to qualify as a REIT for our taxable year ending April 30, 2009 and in
the future. Investors should be aware that Pringle & Herigstad’s opinion is
based upon customary assumptions, is conditioned upon certain representations
made by us as to factual matters, including representations regarding the nature
of our properties and the future conduct of our business, and is not binding
upon the Internal Revenue Service or any court. In addition, Pringle &
Herigstad’s opinion is based on existing federal income tax law governing
qualification as a REIT, which is subject to change, possibly on a retroactive
basis. Moreover, our continued qualification and taxation as a REIT depend upon
our ability to meet on a continuing basis, through actual annual operating
results, certain qualification tests set forth in the federal tax laws. Those
qualification tests involve the percentage of income that we earn from specified
sources, the percentage of our assets that falls within specified categories,
the diversity of our share ownership, and the percentage of our earnings that we
distribute. While Pringle & Herigstad has reviewed those matters in
connection with the foregoing opinion, Pringle & Herigstad will not review
our compliance with those tests on a continuing basis. Accordingly, with respect to our current and future taxable years,
no assurance can be given that the actual results of our operations for
any particular taxable year will satisfy such requirements. For a discussion of
the tax consequences of our failure to qualify as a REIT, see “-Failure to Qualify.”
If we
qualify as a REIT, we generally will not be subject to federal corporate income
tax on that portion of our ordinary income or capital gain that is timely
distributed to shareholders. The REIT provisions of the Internal Revenue Code
generally allow a REIT to deduct distributions paid to its shareholders,
substantially eliminating the federal “double taxation” on earnings (that is,
taxation at the corporate level when earned, and again at the shareholder level
when distributed) that usually results from investments in a corporation.
Nevertheless, we will be subject to federal income tax as follows:
First, we
will be taxed at regular corporate rates on our undistributed “REIT taxable
income,” including undistributed net capital gains.
Second,
under some circumstances, we may be subject to the “alternative minimum tax” as
a consequence of our items of tax preference,
including any deductions of net operating losses.
Third, if
we have net income from the sale or other disposition of “foreclosure property”
that we hold primarily for sale to customers in the ordinary course of business
or other non-qualifying income from foreclosure property, we will be subject to
tax at the highest corporate rate on such income.
Fourth,
if we have net income from “prohibited transactions” (which are, in general,
certain sales or other dispositions of property, other than foreclosure
property, held primarily for sale to customers in the ordinary course of
business), such income will be subject to a 100% tax.
Fifth, if
we should fail to satisfy one or both of
the 75% gross income test or the 95% gross income test as described below under “—Requirements for
Qualification—Income Tests,” but have nonetheless maintained our
qualification as a REIT because we have met other requirements, we will be
subject to a 100% tax on the greater of (1)(a) the amount by which we fail the 75% gross income test or (b) the amount by which 90% (or 95%
commencing with taxable years beginning on or after January 1, 2005) of our
gross income exceeds the amount of our
income qualifying for the 95% gross
income test, multiplied in either case by
(2) a fraction intended to reflect our profitability.
25
Sixth, if
we fail any of the asset tests (other than a de minimis failure of the 5% asset
test or the 10% vote or value test) commencing
with taxable years beginning on or after January 1, 2005, as described below
under “— Requirements for Qualification — Asset Tests,” as long as (1) the
failure was due to reasonable cause and not to willful neglect, (2) we file a
description of each asset that caused such failure with the IRS, and (3) we
dispose of the assets or otherwise comply with the asset tests within six months
after the last day of the quarter in which we identify such failure, we will pay
a tax equal to the greater of $50,000 or 35% of the net income from the
nonqualifying assets during the period in which we failed to satisfy the asset
tests.
Seventh, if we fail to satisfy one or more requirements
for REIT qualification commencing with taxable years beginning on or after
January 1, 2005, other than the gross income tests and the asset tests, and such failure
is due to reasonable cause and not to
willful neglect, we will be required to
pay a penalty of $50,000 for each such
failure.
Eighth, if we fail to distribute during each year
at least the sum of:
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85%
of our REIT ordinary income for such
year,
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95%
of our capital gain net income for such year,
and
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any
undistributed taxable income required to be
distributed from prior
periods,
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then we
will be subject to a 4% excise tax on the excess of this required distribution
amount over the amounts actually distributed.
Ninth, if we should acquire any asset from a “C”
corporation (i.e., a corporation generally subject to full corporate-level tax)
in a carryover-basis transaction and no election is made for the transaction to
be currently taxable, and we subsequently recognize gain on the disposition of
such asset during the 10-year period beginning on the date on which we acquired
the asset, we generally will be subject to tax at the highest regular corporate
rate applicable on the lesser of the amount
of gain that we recognize at the time of the sale or disposition and the amount
of gain that we would have recognized if we had sold the asset at the time we
acquired the asset, the “Built-in Gains Tax.”
Tenth, if we own taxable REIT subsidiaries, we
will be subject to a 100% excise tax on transactions with them that are not
conducted on an arm’s-length basis. Currently we do not own any direct or
indirect interests in taxable REIT subsidiaries.
Eleventh, we may elect to retain and pay income
tax on our net long-term capital gain. In that case, a U.S. shareholder would be
taxed on its proportionate share of our undistributed long-term capital gain (to
the extent that we make a timely designation of such gain to the shareholder)
and would receive a credit or refund for its proportionate share of the tax we
paid.
Twelfth, we may be required to pay monetary penalties to
the Internal Revenue Service in certain circumstances, including if we fail to
meet record-keeping requirements intended to monitor our compliance with rules
relating to the composition of a REIT’s shareholders, as described below in
“—Recordkeeping Requirements.”
Thirteenth, the earnings of our lower-tier entities, if
any, that are subchapter C corporations, including taxable REIT subsidiaries,
are subject to federal corporate income tax.
In addition, we may be subject to a variety of taxes,
including payroll taxes and state, local and foreign income, property and other
taxes on our assets and operations. We could also be subject to tax
in situations and on transactions not presently
contemplated.
Requirements for
Qualification
To
qualify as a REIT, we must elect to be treated as a REIT and must meet the
requirements, discussed below, relating to our organization, sources of income,
nature of assets and distributions.
The
Internal Revenue Code defines a REIT as a corporation, trust or
association:
26
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that
is managed by one or more trustees or
directors;
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the
beneficial ownership of which is evidenced by transferable shares or by
transferable certificates of beneficial
interest;
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that
would be taxable as a domestic corporation but for application of the REIT
rules;
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that
is neither a financial institution nor an insurance company subject to
certain provisions of the Internal Revenue
Code;
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that
has at least 100 persons as beneficial owners (determined without reference to any rules of
attribution);
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during
the last half of each taxable year, not more than 50% in value of the
outstanding stock of which is owned, directly or indirectly, through the
application of certain attribution rules, by five or fewer individuals (as
defined in the Internal Revenue Code to include certain
entities);
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which elects to be a REIT, or has made such
election for a previous taxable year, and
satisfies all relevant filing and other administrative requirements
established by the IRS that must be met to elect and maintain REIT
status;
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that
(unless the entity qualified as a REIT for any taxable year beginning on
or before October 4, 1976, which is the case with us) uses the calendar
year as its taxable year and complies with the recordkeeping requirements
of the federal income tax laws; and
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that
satisfies the income tests, the asset tests, and the distribution tests,
described below.
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The
Internal Revenue Code provides that REITs must satisfy all of the first
four, the eighth (if applicable) and the
ninth preceding requirements during the entire taxable year. REITs must
satisfy the fifth requirement during at least 335 days of a taxable year of 12
months or during a proportionate part of a taxable year of less than 12 months.
For purposes of determining stock ownership under
the sixth requirement, an “individual” generally includes a supplemental
unemployment compensation benefits plan, a private foundation, or a portion of a
trust permanently set aside or used for charitable purposes. An
“individual,” however, generally does not include a trust that is a qualified
employee pension or profit sharing trust under the federal income tax laws, and
beneficiaries of such a trust will be treated as holding our stock in proportion
to their actuarial interests in the trust for purposes of the sixth requirement
above.
We will be treated as having met the sixth requirement if we comply with certain
Treasury Regulations for ascertaining the ownership of our securities for such year and if we did not know
(or after the exercise of reasonable diligence would not have known) that the
sixth condition was not satisfied for such year. Our Third Restated Declaration of Trust currently
includes restrictions regarding transfer of our securities that, among other
things, assist us in continuing to satisfy the fifth and sixth of these
requirements.
If a REIT
owns a corporate subsidiary that is a “qualified REIT subsidiary,” the separate
existence of that subsidiary from its parent REIT
will be disregarded for federal income tax purposes. Generally, a
qualified REIT subsidiary is a corporation, other than a taxable REIT
subsidiary, all of the capital stock of which is owned by the REIT. All assets,
liabilities and items of income, deduction and credit of the qualified REIT
subsidiary will be treated as assets, liabilities and items of income, deduction
and credit of the REIT itself for purposes of applying the requirements herein.
Our qualified REIT subsidiaries will not be subject to federal corporate income
taxation, although they may be subject to state and local taxation in some
states.
An unincorporated domestic entity, such as a partnership
or limited liability company that has a single owner, generally is not treated
as an entity separate from its parent for federal income tax
purposes. An unincorporated domestic entity with two or more owners
is generally treated as a partnership for federal income tax
purposes. In the case of a REIT that is a partner in a
partnership, the REIT is deemed to own its
proportionate share of the assets of the partnership and to earn its
proportionate share of the partnership’s gross
income for purposes of the applicable REIT qualification tests. The character of the
assets and gross income of the partnership retain the same character in the
hands of the REIT for purposes of the gross income and asset tests. Thus, our
proportionate share of the assets, liabilities and items of income of IRET
Properties, our operating partnership (including our operating partnership’s
share of the assets, liabilities and items of income with respect to any
partnership in which it holds an interest) is treated as our assets, liabilities
and items of income for purposes of applying the requirements described
herein. For purposes of the 10% value test (see
“—Asset Tests”), our proportionate share is based on our proportionate interest
in the equity interests and certain debt securities issued by the
partnership. For all of the other asset and income tests, our
proportionate share is based on our proportionate interest in the capital of the
partnership.
27
A REIT is
permitted to own up to 100% of the stock of one or more “taxable REIT
subsidiaries.” A taxable REIT subsidiary is a fully taxable corporation that may
earn income that would not be qualifying income if earned directly by the parent
REIT. However, a taxable REIT subsidiary may not
directly or indirectly operate or manage any hotels or health care facilities or
provide rights to any brand name under which any hotel or health care facility
is operated, unless such rights are provided to an “eligible independent
contractor” to operate or manage a hotel (or, with respect to taxable years
beginning after July 30, 2008, a health care facility) if such rights are held
by the taxable REIT subsidiary as a franchisee, licensee, or in a similar
capacity and such hotel (or, with respect to taxable years beginning after July
30, 2008, such health care facility) is either owned by the taxable REIT
subsidiary or leased to the taxable REIT subsidiary by its parent
REIT. A taxable REIT subsidiary will not be considered to operate or
manage a “qualified health care property” or a “qualified lodging facility”
solely because the taxable REIT subsidiary directly or indirectly possesses a
license, permit, or similar instrument enabling it to do so. Further,
a taxable REIT subsidiary will not be considered to operate or manage a
qualified health care property or qualified lodging facility located outside of
the United States, as long as an “eligible independent contractor” is
responsible for the daily supervision and direction of such individuals on
behalf of the taxable REIT subsidiary pursuant to a management agreement or
similar service contract. The subsidiary and the REIT must jointly elect
to treat the subsidiary as a taxable REIT subsidiary. A taxable REIT subsidiary
will pay income tax at regular corporate rates on any income that it earns. In
addition, the taxable REIT subsidiary rules limit the deductibility of interest
paid or accrued by a taxable REIT subsidiary to its parent REIT to assure that
the taxable REIT subsidiary is subject to an appropriate level of corporate
taxation. Further, the rules impose a 100% excise tax on transactions between a
taxable REIT subsidiary and its parent REIT or the REIT’s tenants that are not
conducted on an arm’s-length basis. Although we previously owned an interest in
a taxable REIT subsidiary, currently we do not own any direct or indirect
interests in taxable REIT subsidiaries. However, it is possible that in the future
we may engage in activities indirectly through one or more taxable REIT
subsidiaries to obtain the benefit of income or services that would jeopardize
our REIT status if we engaged in the activities directly.
Income Tests. In
order to maintain qualification as a REIT, we must satisfy two gross income
requirements. First, we must derive, directly or indirectly, at least 75% of our
gross income (excluding gross income from prohibited transactions) for each
taxable year from investments relating to real property or mortgages on real
property, including “rents from real property,” gains on disposition of real
estate, dividends paid by another REIT and interest on obligations secured by
real property or on interests in real property, or from certain types of
temporary investments. Second, we must derive at least 95% of our gross income
(excluding gross income from prohibited transactions) for each taxable year from
any combination of income qualifying under the 75% test and dividends, interest,
and gain from the sale or disposition of stock or securities. For taxable years
beginning on or after January 1, 2005, income and
gain from “hedging transactions,” as defined below, that are clearly and timely identified as such will be excluded from both the numerator and the
denominator for purposes of the 95%
gross income test (but not the 75% gross income
test). Income and gain from “hedging transactions” entered into after July 30,
2008 that are clearly and timely identified as such will also be excluded from
both the numerator and the denominator for purposes of the 75% gross income
test. In addition, as discussed below, certain foreign currency gains
recognized after July 30, 2008 will be excluded from gross income for purposes
of one or both of the gross income tests. The following paragraphs
discuss the specific application of the gross income tests to
us.
Rents
that we receive from our real property will
qualify as “rents from real property” in satisfying the gross income
requirements for a REIT described above only if several conditions are
met.
First,
the amount of rent must not be based in whole or in part on the income or
profits of any person but can be based on a fixed percentage of gross receipts
or gross sales, provided that such percentage (a) is fixed at the time
the lease is entered into, (b) is not renegotiated during the term of the lease
in a manner that has the effect of basing percentage rent on income or profits,
and (c) conforms with normal business practice.
Second,
“rents from real property” generally excludes any amount received directly or
indirectly from any tenant if we, or an owner of 10% of more of our outstanding
shares, directly or constructively, own 10% or more of such tenant taking into
consideration the applicable attribution rules, which we refer to as a “related
party tenant.” Under a pair of exceptions from the
related-party tenant rule for taxable REIT subsidiaries, rent that we receive
from a taxable REIT subsidiary will qualify as “rents from real property,” (i)
so long as (a) at least 90% of the leased space in the property in question is
leased to persons other than taxable REIT subsidiaries and related-party
tenants, (b) the amount paid by the taxable REIT subsidiary to rent space at the
property is substantially comparable to rents paid by other tenants of the
property for comparable space, and (c) the amount paid is not attributable to
increased rent as a result of a modification of a lease with a taxable REIT
subsidiary in which we own, directly or indirectly, more than 50% of the voting
power or value of the stock, or (ii) if we lease a “qualified lodging facility”
to a taxable REIT subsidiary and such facility is operated by an “eligible
independent contractor.” For taxable years beginning after July 30, 2008, rental
payments from a taxable REIT subsidiary will also qualify as “rents from real
property” if we lease a “qualified health care property” to a taxable REIT
subsidiary and such property is operated by an “eligible independent
contractor.” If in the future we receive rent from a taxable REIT
subsidiary, we will seek to comply with these exceptions.
28
Third,
“rents from real property” excludes rent attributable to personal property
except where such personal property is leased in connection with a lease of real
property and the rent attributable to such personal property is less than or
equal to 15% of the total rent received under the lease. The rent attributable
to personal property under a lease is the amount that bears the same ratio to
total rent under the lease for the taxable year as the average of the fair
market values of the leased personal property at the beginning and at the end of
the taxable year bears to the average of the aggregate fair market values of
both the real and personal property covered by the lease at the beginning and at
the end of such taxable year.
Finally,
amounts that are attributable to services furnished or rendered in connection
with the rental of real property, whether or not separately stated, will not
constitute “rents from real property” unless such services are customarily
provided in the geographic area. Customary services that are not considered to
be provided to a particular tenant (e.g., furnishing heat and light, the
cleaning of public entrances, and the collection of trash) can be provided
directly by us. Where, on the other hand, such services are provided primarily
for the convenience of the tenants or are provided to such tenants, such
services must be provided by an independent contractor from whom we do not
receive any income or a taxable REIT subsidiary. Non-customary services that are
not performed by an independent contractor or taxable REIT subsidiary in
accordance with the applicable requirements will result in impermissible tenant
service income to us to the extent of the income earned (or deemed earned) with
respect to such services. If the impermissible tenant service income exceeds 1%
of our total income from a property, all of the income from that property will
fail to qualify as rents from real property. If the total amount of
impermissible tenant services does not exceed 1% of our total income from the
property, the services will not cause the rent paid by tenants of the property
to fail to qualify as rents from real property, but the impermissible tenant
services income will not qualify as “rents from real property.”
We do not
currently charge and do not anticipate charging rent that is based in whole or
in part on the income or profits of any person (unless based on a fixed
percentage or percentages of receipts or sales, as is permitted). We also do not
anticipate either deriving rent attributable to personal property leased in
connection with real property that exceeds 15% of the total rents or receiving
rent from related party tenants.
Our operating partnership does provide some
services with respect to our properties. We believe that the services with
respect to our properties that are and will be provided directly are usually or
customarily rendered in connection with the rental of space for occupancy only
and are not otherwise considered rendered to particular tenants and, therefore,
that the provision of such services will not cause rents received with respect
to the properties to fail to qualify as rents from real property. Services with
respect to the properties that we believe may not be provided by us or the
operating partnership directly without jeopardizing the qualification of rent as
“rents from real property” are and will be performed by independent contractors
or taxable REIT subsidiaries.
We may,
directly or indirectly, receive fees for property management and brokerage and
leasing services provided with respect to some properties not owned entirely by
the operating partnership. These fees, to the extent paid with respect to the
portion of these properties not owned, directly or indirectly, by us, will not
qualify under the 75% gross income test or the 95% gross income test. The
operating partnership also may receive other types of income with respect to the
properties it owns that will not qualify for either of these tests. We believe,
however, that the aggregate amount of these fees and other non-qualifying income
in any taxable year will not cause us to exceed the limits on non-qualifying
income under either the 75% gross income test or the 95% gross income
test.
Tenants
may be required to pay, besides base rent, reimbursements for certain amounts we
are obligated to pay to third parties (such as a lessee’s proportionate share of
a property’s operational or capital expenses), penalties for nonpayment or late
payment of rent or additions to rent. These and other similar payments should
qualify as “rents from real property.” To the extent they do not, they should be
treated as interest that qualifies for the 95% gross income test.
A REIT will incur a 100% tax on the net income derived
from any sale or other disposition of property, other than foreclosure property,
that the REIT holds primarily for sale to customers in the ordinary course of a
trade or business. Whether a REIT holds an asset “primarily for sale to
customers in the ordinary course of a trade or business” depends, however, on
the facts and circumstances in effect from time to time, including those related
to a particular asset. A safe harbor to the characterization of the sale of
property by a REIT as a prohibited transaction and the 100% prohibited
transaction tax is available if the following requirements are
met:
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the REIT has held the property for not less than
four years (or, for sales made after July 30, 2008, two
years);
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the aggregate expenditures made by the REIT, or
any partner of the REIT, during the four-year period (or, for sales made
after July 30, 2008, two-year period) preceding the date of the sale that
are includable in the basis of the property do not exceed 30% of the
selling price of the
property;
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either (1) during the year in question, the REIT
did not make more than seven sales of property, other than foreclosure
property or sales to which Section 1033 of the Internal Revenue Code
applies, (2) the aggregate adjusted bases of all such properties sold by
the REIT during the year did not exceed 10% of the aggregate bases of all
of the assets of the REIT at the beginning of the year or (3) for sales
made after July 30, 2008, the aggregate fair market value of all such
properties sold by the REIT during the year did not exceed 10% of the
aggregate fair market value of all of the assets of the REIT at the
beginning of the year;
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in the case of property not acquired through
foreclosure or lease termination, the REIT has held the property for at
least four years (or, for sales made after July 30, 2008, two years) for
the production of rental income;
and
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if the REIT has made more than seven sales of
non-foreclosure property during the taxable year, substantially all of the
marketing and development expenditures with respect to the property were
made through an independent contractor from whom the REIT derives no
income.
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We will attempt to comply with the terms of the
safe-harbor provisions in the federal income tax laws prescribing when an asset
sale will not be characterized as a prohibited transaction. We cannot assure
you, however, that we can comply with the safe-harbor provisions or that we will
avoid owning property that may be characterized as property held “primarily for
sale to customers in the ordinary course of a trade or business.” We may,
however, form or acquire a taxable REIT subsidiary to hold and dispose of those
properties we conclude may not fall within the safe-harbor
provisions.
We will
be subject to tax at the maximum corporate rate on any income from foreclosure
property, which includes certain foreign currency
gains and related deductions recognized subsequent to July 30, 2008,
other than income that otherwise would be qualifying income for purposes
of the 75% gross income test, less expenses directly connected with the
production of that income. However, gross income from foreclosure property will
qualify under the 75% and 95% gross income tests. “Foreclosure property” is any
real property, including interests in real property, and any personal property
incident to such real property (a) that is
acquired by a REIT as the result of such REIT having bid on the property at
foreclosure, or having otherwise reduced such property to ownership or
possession by agreement or process of law after actual or imminent default on a
lease of the property or on indebtedness secured by the property, (b) for which the related loan or leased property was
acquired by the REIT at a time when the default was not imminent or anticipated,
and (c) for which the REIT makes a proper election to treat the property
as foreclosure property.
A REIT
will not be considered to have foreclosed on a property where the REIT takes
control of the property as a mortgagee-in-possession and cannot receive any
profit or sustain any loss except as a creditor of the mortgagor. Property
generally ceases to be foreclosure property at the end of the third taxable year
following the taxable year in which the REIT acquired the property (or longer if
an extension is granted by the Secretary of the Treasury). This period (as
extended, if applicable) terminates, and foreclosure property ceases to be
foreclosure property on the first day:
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on
which a lease is entered into for the property that, by its terms, will
give rise to income that does not qualify for purposes of the 75% gross
income test, or any amount is received or accrued, directly or indirectly,
pursuant to a lease entered into on or after such day that will give rise
to income that does not qualify for purposes of the 75% gross income
test;
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on
which any construction takes place on the property, other than completion
of a building or, any other improvement, where more than 10% of the
construction was completed before default became imminent;
or
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which
is more than 90 days after the day on which the REIT acquired the property
and the property is used in a trade or business which is conducted by the
REIT, other than through an independent contractor from whom the REIT
itself does not derive or receive any
income.
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From time to time, we may enter into
hedging transactions with respect to our assets or liabilities. Our hedging
activities may include entering into interest rate swaps, caps, and floors,
options to purchase such items, and futures and forward contracts. For taxable
years beginning prior to January 1, 2005, any periodic income or gain from the
disposition of any financial instrument for these or similar transactions to
hedge indebtedness we incurred to acquire or carry “real estate assets” was
qualifying income for purposes of the 95% gross income test, but not the 75%
gross income test. To the extent we hedged with other types of financial
instruments, or in other situations, it is not entirely clear how the income
from those transactions should have been treated for the gross income tests. For
taxable years beginning on or after January 1, 2005, income and gain from
“hedging transactions” will be excluded from gross income for purposes of the
95% gross income test, but not the 75% gross income test. For hedging
transactions entered into after July 30, 2008, income and gain from “hedging
transactions” will be
30
excluded
from gross income for purposes of both the 75% and 95% gross income tests. For
those taxable years, a “hedging transaction” means either (1) any transaction
entered into in the normal course of our trade or business primarily to manage
the risk of interest rate, price changes, or currency fluctuations with respect
to borrowings made or to be made, or ordinary obligations incurred or to be
incurred, to acquire or carry real estate assets or (2) for transactions
entered into after July 30, 2008, any transaction entered into primarily to
manage the risk of currency fluctuations with respect to any item of income or
gain that would be qualifying income under the 75% or 95% gross income test (or
any property which generates such income or gain). We will be required to
clearly identify any such hedging transaction before the close of the day on
which it was acquired, originated, or entered into and to satisfy other
identification requirements. We intend to structure any hedging or similar
transactions so as not to jeopardize our status as a REIT.
The term
“interest” generally does not include any amount received or accrued, directly
or indirectly, if the determination of the amount depends in whole or in part on
the income or profits of any person. However, an amount received or accrued
generally will not be excluded from the term “interest” solely because it is
based on a fixed percentage or percentages of receipts or sales. Furthermore, to
the extent that interest from a loan that is based on the profit or net cash
proceeds from the sale of the property securing the loan constitutes a “shared
appreciation provision,” income attributable to such participation feature will
be treated as gain from the sale of the secured property.
Certain foreign currency gains recognized after June 30,
2008 will be excluded from gross income for purposes of one or both of the gross
income tests. “Real estate foreign exchange gain” will be excluded
from gross income for purposes of the 75% gross income test. Real
estate foreign exchange gain generally includes foreign currency gain
attributable to any item of income or gain that is qualifying income for
purposes of the 75% gross income test, foreign currency gain attributable to the
acquisition or ownership of (or becoming or being the obligor under) obligations
secured by mortgages on real property or on interest in real property and
certain foreign currency gain attributable to certain “qualified business units”
of a REIT. “Passive foreign exchange gain” will be excluded from
gross income for purposes of the 95% gross income test. Passive
foreign exchange gain generally includes real estate foreign exchange gain as
described above, and also includes foreign currency gain attributable to any
item of income or gain that is qualifying income for purposes of the 95% gross
income test and foreign currency gain attributable to the acquisition or
ownership of (or becoming or being the obligor under) obligations secured by
mortgages on real property or on interest in real property. Because
passive foreign exchange gain includes real estate foreign exchange gain, real
estate foreign exchange gain is excluded from gross income for purposes of both
the 75% and 95% gross income test. These exclusions for real estate
foreign exchange gain and passive foreign exchange gain do not apply to any
certain foreign currency gain derived from dealing, or engaging in substantial
and regular trading, in securities. Such gain is treated as
nonqualifying income for purposes of both the 75% and 95% gross income
tests.
If we
fail to satisfy one or both of the 75%
gross income test or the 95% gross income test for any taxable year, we may
nevertheless qualify as a REIT for that year if we are eligible for relief under
the Internal Revenue Code. For taxable years beginning prior to January 1, 2005,
the relief provisions generally will be available if:
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our
failure to meet these tests was due to reasonable cause and not due to
willful neglect;
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we
file a disclosure schedule with the IRS after we determine that we have
not satisfied one of the gross income tests;
and
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any
incorrect information on the schedule is not due to fraud with intent to
evade tax.
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Commencing
with taxable years beginning on or after January 1, 2005, those relief
provisions will be available if:
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our
failure to meet these tests is due to reasonable cause and not to willful
neglect; and
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we
file a disclosure schedule with the IRS after we determine that we have
not satisfied one of the gross income tests in accordance with regulations
prescribed by the Secretary of the
Treasury.
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We cannot
predict whether in all
circumstances we would be entitled to the benefit of the relief provisions. For example, if we fail to satisfy
the gross income tests because non-qualifying income that we intentionally earn
exceeds the limits on such income, the IRS could conclude that our failure to
satisfy the tests was not due to reasonable cause. Even if this relief provision
applies, the Internal Revenue Code imposes a 100% tax with respect to a portion
of the non-qualifying income, as described above.
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Asset Tests. At
the close of each quarter of our taxable year, we also must satisfy the following asset tests to maintain our qualification as a
REIT:
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At
least 75% of the value of our total assets must be represented by real
estate assets (including interests in real property (including leaseholds and options to acquire real
property and leaseholds), interests in mortgages on real property,
and stock in other REITs), cash and cash items (including receivables),
government securities and investments in stock or debt instruments during
the one year period following our receipt of new capital that we raise
through equity offerings or public offerings of debt with at least a
five-year-term.
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No
more than 25% of the value of our total assets may be represented by
securities of taxable REIT subsidiaries or
other assets that are not qualifying for purposes of the 75% asset
test.
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Except
for equity investments in REITs, partnerships, qualified REIT subsidiaries or
taxable REIT subsidiaries or other investments that qualify as “real estate
assets” for purposes of the 75% asset
test:
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the
value of any one issuer’s securities that we own may not exceed 5% of the
value of our total assets (the “5% asset
test”);
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we
may not own more than 10% of the voting
power or value of any one issuer’s outstanding voting
securities (the “10% vote or value
test”).
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No
more than 20% of our total assets (or, with
respect to taxable years beginning after July 30, 2008, 25% of the value
of our total assets) may be represented by securities of one of
more taxable REIT subsidiaries.
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Certain
types of securities are disregarded as securities for purposes of the 10% value
limitation discussed above, including (i) straight debt securities (including
straight debt that provides for certain contingent payments); (ii) any loan to
an individual or an estate; (iii) any rental agreement described in Section 467
of the Internal Revenue Code, other than with a “related person”; (iv) any
obligation to pay rents from real property; (v) certain securities issued by a
State or any political subdivision thereof, the District of Columbia, a foreign
government, or any political subdivision thereof, or the Commonwealth of Puerto
Rico; (vi) any security issued by a REIT; and (vii) any other arrangement that,
as determined by the Secretary of the Treasury, is excepted from the definition
of a security. In addition, (a) a REIT’s interest as a partner in a partnership
is not considered a “security” for purposes of applying the 10% value test to
securities issued by the partnership; (b) any debt instrument issued by a
partnership (other than straight debt or another excluded security) will not be
considered a security issued by the partnership if at least 75% of the
partnership’s gross income (excluding income from prohibited transactions) is
derived from sources that would qualify for the 75% REIT gross income test, and
(c) any debt instrument issued by a partnership (other than straight debt or
another excluded security) will not be considered a security issued by the
partnership to the extent of the REIT’s interest as a partner in the
partnership. For taxable years beginning after October 22, 2004, a special look-through rule applies for determining
a REIT’s share of securities held by a partnership in which the REIT holds an
interest for purposes of the 10% value test. Under that
look-through rule, our proportionate share of the assets of a partnership is our
proportionate interest in any securities issued by the partnership, without
regard to securities described in items (b) and (c) above.
We
believe that substantially all of our assets consist of (1) real properties, (2)
stock or debt investments that earn qualified temporary investment income, (3)
other qualified real estate assets, and (4) cash, cash items and government
securities. We monitor the status of our assets for purposes of the various
asset tests, and manage our portfolio in order to comply with such
tests.
After
initially meeting the asset tests at the close of any quarter, we will not lose
our qualification as a REIT for failure to satisfy the asset tests at the end of
a later quarter solely by reason of changes in asset values. If the failure to
satisfy the asset tests
results from an acquisition of securities or other property during a quarter, we
can cure the failure by disposing of a sufficient amount of non-qualifying
assets within 30 days after the close of that quarter. We intend to maintain
adequate records of the value of our assets to ensure compliance with the asset
tests and to take such other actions within 30 days after the close of any
quarter as necessary to cure any noncompliance.
Commencing
with taxable years beginning on or after January 1, 2005, after the 30-day cure
period, if a REIT violates the 5% asset test or
the 10% vote or value test described above, a REIT may avoid
disqualification as a REIT by disposing of sufficient assets to cure a violation
that does not exceed the lesser of 1% of the REIT’s assets at the end of the
relevant quarter or $10,000,000, provided that the disposition occurs within six
months following the last day of the quarter in which the REIT first identified
the assets causing the violation. In the
event of any other failure of the
asset tests for taxable years beginning on or
32
after January 1, 2005, a REIT may avoid disqualification as a REIT after the 30-day cure period, if such failure was due to reasonable cause and not due to willful neglect, by taking certain steps, including the disposition of sufficient assets within the six month period described above to meet the applicable asset test, paying a tax equal to the greater of $50,000 or the highest corporate tax rate multiplied by the net income generated by the non-qualifying assets during the period of time that the assets were held as non-qualifying assets, and filing a schedule with the IRS that describes the non-qualifying assets.
Annual Distribution
Requirements
To
qualify for taxation as a REIT, the Internal Revenue Code requires that we make
distributions (other than capital gain distributions and deemed distributions of retained capital
gain) to our shareholders in an amount at least equal to (a) the sum of:
(1) 90% of our “REIT taxable income” (computed without regard to the dividends
paid deduction and our net capital gain or loss), and (2) 90% of the net income,
if any, from foreclosure property in excess of the special tax on income from
foreclosure property, minus (b) the sum of certain items of non-cash
income.
Generally, we must pay distributions in the
taxable year to which they relate. Dividends paid in the subsequent calendar
year, however, will be treated as if paid in the prior calendar year for
purposes of the prior year’s distribution requirement if the dividends satisfy
one of the following two sets of criteria:
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We
declare the dividends in October, November or December, the dividends are
payable to shareholders of record on a specified date in such a month, and
we actually pay the dividends during January of the subsequent year;
or
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We
declare the dividends before we timely file our federal income tax return
for such year, we pay the dividends in the 12-month period following the
close of the prior year and not later than the first regular dividend
payment after the declaration, and we elect on our federal income tax
return for the prior year to have a specified amount of the subsequent
dividend treated as if paid in the prior
year.
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The distributions under the first bullet point above are
treated as received by shareholders on December 31 of the prior taxable year,
while the distributions under the second bullet point are taxable to
shareholders in the year paid.
Even if
we satisfy the foregoing distribution requirements, we will be subject to tax
thereon to the extent that we do not distribute all of our net capital gain or
“REIT taxable income” as adjusted. Furthermore, if we fail to distribute at
least the sum of 85% of our REIT ordinary
income for that year; 95% of our REIT
capital gain net income for that year; and any undistributed taxable
income from prior periods, we would be subject to a 4% non-deductible excise tax
on the excess of the required distribution over the amounts actually
distributed.
We may
elect to retain rather than distribute all or a portion of our net capital gains
and pay the tax on the gains. In that case, we may elect to have our
shareholders include their proportionate share of the undistributed net capital
gains in income as long-term capital gains and receive a credit for their share
of the tax we paid. For purposes of the 4% excise tax described, any such
retained amounts would be treated as having been distributed.
We intend
to make timely distributions sufficient to satisfy the annual distribution
requirements. We expect that our REIT taxable income will be less than our cash
flow due to the allowance of depreciation and other non-cash charges in
computing REIT taxable income. Accordingly, we anticipate that we generally will
have sufficient cash or liquid assets to enable us to satisfy the 90%
distribution requirement. It is possible, however, that we, from time to time,
may not have sufficient cash or other liquid assets to meet the 90% distribution
requirement or to distribute such greater amount as may be necessary to avoid
income and excise taxation. In this event, we may find it necessary to arrange
for borrowings or, if possible, pay taxable dividends in order to meet the
distribution requirement or avoid such income or excise
taxation.
In the
event that we are subject to an adjustment to our REIT taxable income (as
defined in Section 860(d)(2) of the Internal Revenue Code) resulting from an
adverse determination by either a final court decision, a closing agreement
between us and the IRS under Section 7121 of the Internal Revenue Code, or an
agreement as to tax liability between us and an IRS district director, or, an
amendment or supplement to our federal income tax return for the applicable tax
year, we may be able to rectify any resulting failure to meet the 90% annual
distribution requirement by paying “deficiency dividends” to shareholders that
relate to the adjusted year but that are paid in a subsequent year. To qualify
as a deficiency dividend, we must make the distribution within 90 days of the
adverse determination and we also must satisfy other procedural requirements. If
we satisfy the statutory requirements of Section 860 of the Internal Revenue
Code, a deduction is allowed for any deficiency dividend we subsequently paid to
offset an increase in our REIT taxable income resulting from the adverse
determination. We, however, must pay statutory interest on the amount of any
deduction taken for deficiency dividends to compensate for the deferral of the
tax liability.
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Recordkeeping
Requirements
We must
maintain certain records in order to qualify as a REIT. In addition, to avoid
paying a penalty, we must request on an annual basis information from our
shareholders designed to disclose the actual ownership of our outstanding
shares. We have complied and intend to continue to comply with these
requirements.
Failure To
Qualify
Commencing
with taxable years beginning on or after January 1, 2005, a violation of a REIT
qualification requirement other than the gross income tests or the asset tests
will not disqualify us if the violation is due to reasonable cause and not due
to willful neglect and we pay a penalty of $50,000 for each such violation. If
we fail to qualify for taxation as a REIT in any taxable year and the relief
provisions do not apply, we will be subject to tax (including any applicable
alternative minimum tax) on our taxable income at regular corporate rates.
Distributions to shareholders in any year in which we fail to qualify as a REIT
will not be deductible by us nor will they be required to be made. In that
event, to the extent of our positive current and accumulated earnings and
profits, distributions to shareholders will be dividends, generally taxable to
non-corporate shareholders at long-term capital gains tax rates (through 2010, as described below) and, subject to
certain limitations of the Internal Revenue Code, corporate distributees may be
eligible for the dividends received deduction. Unless we are entitled to relief
under specific statutory provisions, we also will be disqualified from taxation
as a REIT for the four taxable years following the year during which we lost our
REIT qualification. We cannot state whether in all circumstances we would be
entitled to such statutory relief. For example, if we fail to satisfy the gross
income tests because non-qualifying income that we intentionally earn exceeds
the limit on such income, the IRS could conclude that our failure to satisfy the
tests was not due to reasonable cause.
Taxation of U.S.
Shareholders
As used
in this prospectus, the term “U.S. Shareholder” means a holder of our securities
that, for federal income tax purposes:
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is
a citizen or resident of the United
States;
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is
a corporation (including an entity treated as a corporation for federal
income tax purposes) created or organized in or under the laws of the
United States or of any political subdivision
thereof;
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is
an estate, the income of which is subject to federal income taxation
regardless of its source;
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is
a trust and a court within the United States is able to exercise primary
supervision over the administration of the trust, and one or more United
States persons have the authority to control all substantial decisions of
the trust; or
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is
an eligible trust that elects to be taxed as a U.S. person under
applicable Treasury Regulations.
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If a partnership, entity, or arrangement treated as a
partnership for federal income tax purposes holds our securities, the federal
income tax treatment of a partner in the partnership will generally depend on
the status of the partner and the activities of the partnership. If
you are a partner in a partnership holding our securities, you should consult
your tax advisor regarding the consequences of the purchase, ownership, and
disposition of our securities by the partnership.
For any
taxable year for which we qualify for taxation as a REIT, amounts distributed to
taxable U.S. Shareholders will be taxed as discussed below.
Distributions
Generally. Distributions to taxable U.S. Shareholders, other than capital
gain dividends discussed below, will constitute dividends up to the amount of
our positive current and accumulated earnings and profits and, to that extent,
will constitute ordinary income to U.S. Shareholders. For purposes of determining whether a distribution is
made out of our current or accumulated earnings and profits, our earnings and
profits will be allocated first to our preferred share distributions and then to
our common share distributions.
These
distributions are not eligible for the dividends received deduction generally
available to corporations. Certain “qualified dividend income” received by U.S.
Shareholders in taxable years 2003 through 2010 is subject to tax at the same
tax
34
rates as long-term capital gain (generally, a maximum rate of 15% for such taxable years). Qualified dividend income generally includes dividends paid to U.S. Shareholders taxed at individual rates by domestic corporations and certain qualified foreign corporations. Dividends received from REITs, however, generally do not constitute qualified dividend income, are not eligible for these reduced rates and, therefore, will continue to be subject to tax at higher ordinary income rates (generally, a maximum rate of 35% for taxable years 2003 through 2010), subject to two narrow exceptions. Under the first exception, dividends received from a REIT may be treated as “qualified dividend income” eligible for the reduced tax rates to the extent that the REIT itself has received qualified dividend income from other corporations (such as taxable REIT subsidiaries). Under the second exception, dividends paid by a REIT in a taxable year may be treated as qualified dividend income in an amount equal to the sum of (i) the excess of the REIT’s “REIT taxable income” for the preceding taxable year over the corporate-level federal income tax payable by the REIT for such preceding taxable year and (ii) the excess of the REIT’s income that was subject to the Built-in Gains Tax in the preceding taxable year over the tax payable by the REIT on such income for such preceding taxable year. We do not anticipate that a material portion of our distributions will be treated as qualified dividend income. In general, to qualify for the reduced tax rate on qualified dividend income, a U.S. Shareholder must hold our securities for more than 60 days during the 121-day period beginning on the date that is 60 days before the date on which our securities become ex-dividend.
To the
extent that we make a distribution in excess of our positive current and
accumulated earnings and profits, the distribution will be treated first as a
tax-free return of capital, reducing the tax basis in the U.S. Shareholder’s
shares, and then the distribution in excess of such basis will be taxable to the
U.S. Shareholder as gain realized from the sale of its shares. Such gain will generally be treated as long-term capital
gain, or short-term capital gain if the securities have been held for less than
one year, assuming the securities are a capital asset in the hands of the U.S.
Shareholder. Dividends we declared in October, November or December of
any year payable to a U.S. Shareholder of record on a specified date in any such
month will be treated as both paid by us and received by the shareholders on
December 31 of that year, provided that we actually pay the dividends during
January of the following calendar year.
Capital Gain
Distributions. Distributions to U.S. Shareholders that we
properly designate as capital gain dividends will be treated as long-term
capital gains (to the extent they do not exceed our actual net capital gain) for
the taxable year without regard to the period for which the U.S. Shareholder has
held his or her shares. However, corporate U.S. shareholders may be required to
treat up to 20% of certain capital gain dividends as ordinary income. Capital
gain dividends are not eligible for the dividends received deduction for
corporations. If, for any taxable year, we elect
to designate as capital gain dividends any portion of the distributions paid for
the year to our shareholders, the portion of the amount so designated (not in
excess of our net capital gain for the year) that will be allocable to holders
of our preferred shares will be the amount so designated, multiplied by a
fraction, the numerator of which will be the total dividends (within the meaning
of the Internal Revenue Code) paid to holders of our preferred shares for the
year and the denominator of which will be the total dividends paid to holders of
all classes of our shares for the year.
We may
elect to retain and pay income tax on net long-term capital gain that we recognized during the tax year. In this instance,
U.S. Shareholders will include in their income their proportionate share of our
undistributed long-term capital gains. U.S. Shareholders will also be deemed to
have paid their proportionate share of the tax we paid, which would be credited
against such shareholders’ U.S. income tax liability (and refunded to the extent
it exceeds such liability). In addition, the basis of the U.S. Shareholders’
shares will be increased by the excess of the amount of capital gain included in
our income over the amount of tax it is deemed to have paid.
Any
capital gain with respect to capital assets held for more than one year that is
recognized or otherwise properly taken into account before January 1, 2011,
generally will be taxed to U.S. Shareholders taxed
at individual rates at a maximum rate of 15%. In the case of capital gain
attributable to the sale of real property held for more than one year, such gain
will be taxed at a maximum rate of 25% to the extent of the amount of
depreciation deductions previously claimed with respect to such property. With
respect to distributions we designated as capital gain dividends (including any
deemed distributions of retained capital gains), subject to certain limits, we
may designate, and will notify our shareholders, whether the dividend is taxable
to U.S. Shareholders taxed at individual
rates at regular long-term capital gains rates (currently at a minimum
rate of 15%) or at the 25% rate applicable to unrecaptured depreciation. Thus, the tax rate differential between capital gain and
ordinary income for non-corporate taxpayers may be significant. In
addition, the characterization of income as capital gain or ordinary income may
affect the deductibility of capital losses. A non-corporate taxpayer may deduct
capital losses not offset by capital gains against its ordinary income only up
to a maximum of $3,000 annually. A non-corporate taxpayer may carry unused
capital losses forward indefinitely. A corporate taxpayer must pay tax on its
net capital gain at corporate ordinary-income rates. A corporate taxpayer may
deduct capital losses only to the extent of capital gains, with unused losses
carried back three years and forward five years.
Passive Activity Loss and Investment
Interest Limitations. Distributions from us and gain from the
disposition of our shares will not be treated as passive activity income and,
therefore, U.S. Shareholders will not be able to apply any “passive activity
losses” against such income. Dividends from us (to the extent they do not
constitute a return of capital) generally will be treated
35
as investment income for purposes of the investment interest limitations. Net capital gain from the disposition of our shares or capital gain dividends generally will be excluded from investment income unless the U.S. Shareholder elects to have the gain taxed at ordinary income rates. Shareholders are not allowed to include on their own federal income tax returns any net operating losses that we incur. Instead, these losses are generally carried over by us for potential affect against future income.
Dispositions of Securities. In
general, U.S. Shareholders who are not dealers in securities will realize
capital gain or loss on the disposition of our securities equal to the difference between the
amount of cash and the fair market value of any property received on the
disposition and that shareholder’s adjusted basis in the securities. The applicable tax rate will depend
on the U.S. Shareholder’s holding period in the asset (generally, if the U.S.
Shareholder has held the asset for more than one year, it will produce long-term
capital gain) and the shareholder’s tax bracket (the maximum long-term capital gain rate for U.S.
Shareholders taxed at individual rates currently being 15%).
The maximum tax rate on long-term capital gain from the sale
or exchange of “section 1250 property” (i.e., generally, depreciable real
property) is 25% to the extent the gain would have been treated as ordinary
income if the property were “section 1245 property” (i.e., generally,
depreciable personal property). In general, any loss recognized by a U.S.
Shareholder upon the sale or other disposition of securities that the U.S. shareholder has held for
six months or less, after applying the holding period rules, will be treated as
a long-term capital loss, to the extent of distributions received by the U.S.
Shareholder from us that were required to be treated as long-term capital
gains.
Redemptions of Preferred
Shares. A redemption of our
preferred shares will be treated under Section 302 of the Internal Revenue Code
as a distribution that is taxable as dividend income (to the extent of our
current or accumulated earnings and profits), unless the redemption satisfies
certain tests set forth in Section 302(b) of the Internal Revenue Code enabling
the redemption to be treated as a sale of our preferred shares (in which case
the redemption will be treated in the same manner as a sale described above in
“—Dispositions of Securities”). The redemption will satisfy such tests if it (i)
is “substantially disproportionate” with respect to the holder's interest in our
shares of beneficial interest, (ii) results in a “complete termination” of the
holder’s interest in all our classes of
beneficial interest, or (iii) is “not essentially equivalent to a dividend” with
respect to the holder, all within the meaning of Section 302(b) of the Internal
Revenue Code. In determining whether any of these tests have been
met, shares considered to be owned by the holder by reason of certain
constructive ownership rules set forth in the Internal Revenue Code, as well as
shares actually owned, generally must be taken into account. Because
the determination as to whether any of the three alternative tests of Section
302(b) of the Internal Revenue Code
described above will be satisfied with respect to any particular holder of our
preferred shares depends upon the facts and circumstances at the time that the
determination must be made, prospective investors are urged to consult their tax
advisors to determine such tax treatment.
If a redemption of our preferred shares does not meet
any of the three tests described above, the redemption proceeds will be treated as a distribution,
as described above. In that case, a shareholder's adjusted tax basis
in the redeemed preferred shares will be transferred to such shareholder's
remaining share holdings in us. If the shareholder does not retain any of our
shares, such basis could be transferred to a related person that holds our
shares or it may be lost.
Treatment of Tax-Exempt
Shareholders. Tax-exempt entities,
including qualified employee pension and profit sharing trusts and individual
retirement accounts and annuities, generally are exempt from federal income
taxation. However, they are subject to taxation on their “unrelated business
taxable income” (“UBTI”). While many investments in real estate
generate unrelated business taxable income, the Internal Revenue Service has
issued a ruling that dividend distributions from a REIT to an exempt employee
pension trust do not constitute unrelated business taxable income so long as the
exempt employee pension trust does not otherwise use the shares of the REIT in
an unrelated trade or business of the pension trust. Based on that ruling,
distributions from us to tax-exempt shareholders generally will not
constitute UBTI, unless the shareholder has
borrowed to acquire or carry its shares or has used the securities in an unrelated trade or
business.
However,
for tax-exempt shareholders that are social clubs, voluntary employee benefit
associations, supplemental unemployment benefit trusts and qualified group legal
services plans exempt from federal income taxation under Sections 501(c)(7),
(c)(9), (c)(17) and (c)(20) of the Internal Revenue Code, respectively, income
from an investment in us will constitute UBTI unless the organization properly
sets aside or reserves such amounts for purposes specified in the Internal
Revenue Code. These tax-exempt shareholders should consult their own tax
advisors concerning these “set aside” and reserve requirements.
Qualified
trusts that hold more than 10% (by value) of the shares of “pension-held REITs”
may be required to treat a certain percentage of such a REIT’s distributions as
UBTI. A REIT is a “pension-held REIT” only if the REIT would not qualify as a
REIT for federal income tax purposes but for the application of a “look-through”
exception to the five or fewer requirement applicable to shares held by
qualified trusts and the REIT is “predominantly held” by qualified trusts. A
REIT is predominantly held if either (1) at least one qualified trust holds more
than 25% by value of the REIT’s shares or
(2) a group of qualified trusts, each
owning more than 10% by value of the REIT’s
shares, holds in the aggregate more than 50% of the REIT’s shares. The percentage of any REIT dividend
treated as UBTI is equal to the ratio of (a) the UBTI earned by the REIT
(treating the REIT as if it were a qualified trust and therefore subject to tax
on UBTI) to (b) the total gross income (less certain associated expenses) of the
REIT.
36
In the
event that this ratio is less than 5% for any year, then the qualified trust
will not be treated as having received UBTI as a result of the REIT dividend.
For these purposes, a qualified trust is any trust described in Section 401(a)
of the Internal Revenue Code and exempt from tax under Section 501(a) of the
Internal Revenue Code.
Special Tax Considerations For
Non-U.S. Shareholders
A
“non-U.S. Shareholder” is a shareholder that is not a U.S. Shareholder or a partnership (or entity treated as a partnership
for federal income tax purposes). The rules governing the federal income
taxation of nonresident alien individuals, foreign corporations, foreign
partnerships, and other foreign shareholders are complex. This section is only a
summary of such rules. We urge non-U.S. Shareholders to consult their own tax
advisors to determine the impact of federal, foreign, state, and local income
tax laws on the purchase, ownership, and disposition of our securities,
including any reporting requirements.
In
general, non-U.S. Shareholders will be subject to federal income tax at
graduated rates with respect to their investment in us if the income from the
investment is “effectively connected” with the non-U.S. Shareholder’s conduct of
a trade or business in the United States in the same manner that U.S.
shareholders are taxed. A corporate non-U.S. Shareholder that receives income
that is (or is treated as) effectively connected with a U.S. trade or business
also may be subject to the branch profits tax under Section 884 of the Internal
Revenue Code, which is imposed in addition to regular federal income tax at the
rate of 30%, subject to reduction under a tax treaty, if applicable. Effectively
connected income that meets various certification requirements will generally be
exempt from withholding. The following discussion will apply to non-U.S.
Shareholders whose income from their investments in us is not so effectively
connected (except to the extent that the “FIRPTA” rules discussed below treat
such income as effectively connected income).
Distributions
by us that are not attributable to gain from the sale or exchange by us of a
“United States real property interest” (a
“USRPI”), as defined below, and that we do not designate as a capital
gain distribution will be treated as an ordinary income dividend to the extent
that we pay the distribution out of our current or accumulated earnings and
profits. Generally, any ordinary income dividend will be subject to a federal
income tax, required to be withheld by us, equal to 30% of the gross amount of
the dividend, unless an applicable tax treaty reduces this tax. Such a
distribution in excess of our earnings and profits will be treated first as a
return of capital that will reduce a non-U.S. Shareholder’s basis in its shares
(but not below zero) and then as gain from the disposition of such securities, the tax treatment of which is
described under the rules discussed below with respect to dispositions of securities. Because we generally cannot determine
at the time we make a distribution whether the distribution will exceed our
current and accumulated earnings and profits, we normally will withhold tax on
the entire amount of any distribution at the same rate as we would withhold on a
dividend. However, a non-U.S. Shareholder may obtain a refund of amounts we
withhold if we later determine that a distribution in fact exceeded our current
and accumulated earnings and profits.
For any year in which we qualify as a REIT, a non-U.S.
Shareholder may incur tax on distributions that are attributable to gain from
our sale or exchange of a USRPI under the Foreign Investment in Real Property
Tax Act of 1980 (“FIRPTA”). The term USRPI includes certain interests
in real property and stock in corporations at least 50% of whose assets consist
of interests in real property. Under the FIRPTA rules, a non-U.S.
Shareholder is taxed on distributions attributable to gain from sales of USRPIs
as if such gain were effectively connected with a U.S. business of the non-U.S.
Shareholder. A non-U.S. Shareholder thus would be taxed on such a
distribution at the normal capital gains rates applicable to U.S. Shareholders,
subject to applicable alternative minimum tax and a special alternative minimum
tax in the case of a nonresident alien individual. A corporate non-U.S.
Shareholder not entitled to treaty relief or exemption also may be subject to
the 30% branch profits tax on such a distribution. Unless the exception
described in the next paragraph applies, we must withhold 35% of any
distribution that we could designate as a capital gain dividend. A
non-U.S. Shareholder may receive a credit against its tax liability for the
amount we withhold.
Distributions
by us with respect to our securities that
are attributable to gain from the sale or exchange of a USRPI will be treated as ordinary dividends
(taxed as described above) to a non-U.S. Shareholder rather than as gain from the sale of a USRPI as
long as (1) the applicable class of shares
are “regularly traded” on an established securities market in the United States
and (2) the non-U.S. Shareholder did not
own more than 5% of such class of shares at
any time during the one-year period preceding the date of the distribution. Capital gain dividends
distributed to a non-U.S. Shareholder that held more than 5% of the applicable class of shares in the year
preceding the distribution, or to all non-U.S. Shareholders in the event that
the applicable class of shares ceases to be regularly traded
on an established securities market in the United
States, will be taxed under FIRPTA as
described in the preceding paragraph. Moreover, if a non-U.S. Shareholder
disposes of our shares during the 30-day period preceding a dividend payment,
and such non-U.S. Shareholder (or a person related to such non-U.S. Shareholder)
acquires or enters into a contract or option to acquire our shares within 61
days of the 1st day of the 30-day period described above, and any portion of
such dividend payment would, but for the disposition, be treated as a USRPI capital gain to such
non-U.S. Shareholder, then such non-U.S. Shareholder shall be treated as having
USRPI capital gain in an amount that, but
for the disposition, would have been treated as USRPI capital gain.
37
Although
the law is not clear on this matter, it appears that amounts designated by us as
undistributed capital gains in respect of our shares generally should be treated
with respect to non-U.S. Shareholders in the same manner as actual distributions
by us of capital gain dividends.
Although
tax treaties may reduce our withholding obligations, we generally will be
required to withhold from distributions to non-U.S. Shareholders, and remit to
the IRS, 30% of ordinary dividends paid out of earnings and profits. Special
withholding rules apply to capital gain dividends that are not recharacterized
as ordinary dividends. In addition, we may be required to withhold 10% of
distributions in excess of our current and accumulated earnings and profits.
Consequently, although we intend to withhold at a
rate of 30% on the entire amount of any distribution, to the extent we do not do
so, we may withhold at a rate of 10% on any portion of a distribution not
subject to a withholding rate of 30%. If the amount of tax withheld by us
with respect to a distribution to a non-U.S. Shareholder exceeds the
shareholder’s U.S. tax liability, the non-U.S. Shareholder may file for a refund
of such excess from the IRS.
We expect
to withhold federal income tax at the rate of 30% on all distributions
(including distributions that later may be determined to have been in excess of
current and accumulated earnings and profits) made to a non-U.S. Shareholder
unless:
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a
lower treaty rate applies and the non-U.S. Shareholder files with us an
IRS Form W-8BEN evidencing eligibility for that reduced treaty
rate;
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the
non-U.S. Shareholder files with us an IRS Form W-8ECI claiming that the
distribution is income effectively connected with the non-U.S.
Shareholder’s trade or business so that no withholding tax is required;
or
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the
distributions are treated for FIRPTA withholding tax purposes as
attributable to a sale of a USRPI, in
which case tax will be withheld at a 35%
rate.
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Unless
our securities constitute a USRPI within the meaning of FIRPTA, a sale of our
shares by a non-U.S. Shareholder generally will not be subject to federal income
taxation. Our securities will not constitute a
USRPI if we are a
“domestically controlled qualified investment entity.” A REIT is a domestically
controlled qualified investment entity if at all times during a specified
testing period less than 50% in value of its shares is held directly or
indirectly by non-U.S. Shareholders. We believe that we are a domestically
controlled qualified investment entity and, therefore, that the sale of our
securities will not be subject to taxation
under FIRPTA. However, because our common
shares and Series A preferred shares are publicly
traded, we cannot assure you that we are or will be a domestically controlled
qualified investment entity at all times in the
future. If we were not a domestically controlled qualified investment
entity, a non-U.S. Shareholder’s sale of our securities would be a taxable sale of a USRPI unless the shares were “regularly traded”
on an established securities market (such as NASDAQ) and the selling shareholder
owned, actually or constructively, no more
than 5% of the shares of the applicable class throughout the
applicable testing period. If the gain on the sale of securities were subject to taxation under FIRPTA,
the non-U.S. Shareholder would be subject to the same treatment as a U.S.
Shareholder with respect to the gain (subject to applicable alternative minimum
tax and a special alternative minimum tax in the case of nonresident alien
individuals). However, even if our securities are not a USRPI, a nonresident alien individual’s gains
from the sale of securities will be taxable
if the nonresident alien individual is present in the United States for 183 days
or more during the taxable year and certain other conditions apply, in which
case the nonresident alien individual will be subject to a 30% tax on his or her
U.S. source capital gains.
A
purchaser of our securities from a non-U.S.
Shareholder will not be required to withhold under FIRPTA on the purchase price
if the purchased securities are “regularly
traded” on an established securities market or if we are a domestically
controlled qualified investment entity. Otherwise, the purchaser of our shares
from a non-U.S. Shareholder may be required to withhold 10% of the purchase
price and remit this amount to the IRS. Our shares currently are traded on the
NASDAQ. We believe that our common shares and
Series A preferred shares qualify as “regularly traded” and that we are
a domestically controlled qualified investment entity but we cannot
provide any assurance to that effect.
Upon the
death of a nonresident alien individual, that individual’s ownership of our
shares will be treated as part of his or her U.S. estate for purposes of the
U.S. estate tax, except as may be otherwise provided in an applicable estate tax
treaty.
Information
Reporting Requirements and Backup Withholding Tax
U.S.
Shareholders. In general, information reporting requirements
will apply to payments of distributions on our securities and payments of the proceeds of the
sale of our securities, unless an exception
applies. Further, a payee may be subject to backup withholding at a rate of up
to 28% if:
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the
payee fails to furnish a taxpayer identification number to the payer or to
establish an exemption from backup
withholding;
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the
IRS notifies the payer that the taxpayer identification number furnished
by the payee is incorrect;
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a
notified payee has been under-reporting with respect to interest,
dividends or original issue discount described in Section 3406(c) of the
Internal Revenue Code; or
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the
payee has failed to certify under the penalty of perjury that the payee is
not subject to backup withholding under the Internal Revenue
Code.
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Some
shareholders, including corporations, will be exempt from backup withholding.
Any amounts withheld under the backup withholding rules from a payment to a
shareholder will be allowed as a credit against the shareholder’s federal income
tax and may entitle the shareholder to a refund, provided that the shareholder
furnishes the required information to the IRS. A
U.S. Shareholder who does not provide us with its correct tax identification
number may be subject to penalties imposed by the IRS.
Non-U.S.
Shareholders. Generally, information reporting will apply to
payments of distributions on our securities, and backup withholding may apply,
unless the payee certifies that it is not a U.S. person or otherwise establishes
an exemption.
The
payment of the proceeds from the disposition of our securities to or through the U.S. office of a
U.S. or foreign broker will be subject to information reporting and, possibly,
backup withholding unless the non-U.S. Shareholder certifies as to its non-U.S.
status or otherwise establishes an exemption, provided that the broker does not
have actual knowledge that the shareholder is a U.S. person or that the
conditions of any other exemption are not, in fact, satisfied. The proceeds of
the disposition by a non-U.S. Shareholder of our securities to or through a foreign office of a
broker generally will not be subject to information reporting or backup
withholding. However, if the broker is a U.S. person, a controlled foreign
corporation for U.S. tax purposes or a foreign person 50% or more whose gross
income from all sources for specified periods is from activities that are
effectively connected with a U.S. trade or business, information reporting
generally will apply unless the broker has documentary evidence as to the
non-U.S. Shareholder’s foreign status and has no actual knowledge to the
contrary.
Applicable
Treasury regulations provide presumptions regarding the status of shareholders
when payments to the shareholders cannot be reliably associated with appropriate
documentation provided to the payer. Because the application of
these Treasury
regulations varies depending on the shareholder’s particular
circumstances, you
should consult your tax advisor regarding the information reporting
requirements applicable
to you.
Other Tax
Consequences
Tax Aspects of Our Investments in
the Operating Partnership. The following discussion summarizes
certain material federal income tax
considerations applicable to our direct or indirect investment in our operating
partnership and any subsidiary partnerships or limited liability companies we
form or acquire that are treated as partnerships for federal income tax
purposes, each individually referred to as a “Partnership” and, collectively, as
“Partnerships.” The following discussion does not cover state or local tax laws
or any federal tax laws other than income tax laws.
Classification as
Partnerships. We are entitled to include in our income our
distributive share of each Partnership’s income and to deduct our distributive
share of each Partnership’s losses only if such Partnership is classified for
federal income tax purposes as a partnership (or an entity that is disregarded
for federal income tax purposes if the entity has only one owner or member),
rather than as a corporation or an association taxable as a corporation. An
organization with at least two owners or members will be classified as a
partnership, rather than as a corporation, for federal income tax purposes if
it:
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is
treated as a partnership under the Treasury regulations relating to entity
classification (the “check-the-box regulations”);
and
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is
not a “publicly traded”
partnership.
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Under the
check-the-box regulations, an unincorporated entity with at least two owners or
members may elect to be classified either as an association taxable as a
corporation or as a partnership. If such an entity does not make an election,
it
39
generally will be treated as a partnership for federal income tax purposes. We intend that each Partnership will be classified as a partnership for federal income tax purposes (or else a disregarded entity where there are not at least two separate beneficial owners).
A
publicly traded partnership is a partnership whose interests are traded on an
established securities market or are readily tradable on a secondary market (or
a substantial equivalent). A publicly traded partnership is generally treated as
a corporation for federal income tax purposes, but will not be so treated if,
for each taxable year beginning after December 31, 1987 in which it was
classified as a publicly traded partnership, at least 90% of the partnership’s
gross income consisted of specified passive income, including real property
rents (which includes rents that would be qualifying income for purposes of the
75% gross income test, with certain modifications that make it easier for the
rents to qualify for the 90% passive income exception), gains from the sale or
other disposition of real property, interest, and dividends (the “90% passive
income exception”).
Treasury
regulations, referred to as PTP regulations, provide limited safe harbors from
treatment as a publicly traded partnership. Pursuant to one of those safe
harbors (the “private placement exclusion”), interests in a partnership will not
be treated as readily tradable on a secondary market or the substantial
equivalent thereof if (1) all interests in the partnership were issued in a
transaction or transactions that were not required to be registered under the
Securities Act of 1933, as amended, and (2) the partnership does not have more
than 100 partners at any time during the partnership’s taxable year. For the
determination of the number of partners in a partnership, a person owning an
interest in a partnership, grantor trust, or S corporation that owns an interest
in the partnership is treated as a partner in the partnership only if (1)
substantially all of the value of the owner’s interest in the entity is
attributable to the entity’s direct or indirect interest in the partnership and
(2) a principal purpose of the use of the entity is to permit the partnership to
satisfy the 100-partner limitation. Each Partnership (excluding the operating
partnership, which has more than 100 partners) should qualify for the private
placement exclusion.
The
operating partnership does not qualify for the private placement exclusion.
While units of the operating partnership are not and will not be traded on an
established securities market, and while the exchange rights of limited partners
of the operating partnership are restricted by the agreement of limited
partnership in ways that we believe, taking into account all of the facts and
circumstances, prevent the limited partners from being able to buy, sell or
exchange their limited partnership interests in a manner such that the limited
partnership interests would be considered “readily tradable on a secondary
market or the substantial equivalent thereof” under the PTP regulations, no
complete assurance can be provided that the IRS will not successfully assert
that the operating partnership is a publicly traded partnership.
As noted
above, a publicly traded partnership will be treated as a corporation for
federal income tax purposes unless at least 90% of such partnership’s gross
income for each taxable year in which the partnership is a publicly traded
partnership consists of “qualifying income” under Section 7704 of the Code.
“Qualifying income” under Section 7704 of the Code includes interest, dividends,
real property rents, gains from the disposition of real property, and certain
income or gains from the exploitation of natural resources. In addition,
qualifying income under Section 7704 of the Code generally includes any income
that is qualifying income for purposes of the 95% gross income test applicable
to REITs. We believe the operating partnership has satisfied the 90% qualifying
income test under Section 7704 of the Code in each year since its formation and
will continue to satisfy that exception in the future. Thus, the operating
partnership has not and will not be taxed as a corporation.
There is
one significant difference, however, regarding rent received from related party
tenants. For a REIT, rent from a tenant does not qualify as rents from real
property if the REIT and/or one or more actual or constructive owners of 10% or
more of the REIT actually or constructively own 10% or more of the tenant. Under
Section 7704 of the Code, rent from a tenant is not qualifying income if a
partnership and/or one or more actual or constructive owners of 5% or more of
the partnership actually or constructively own 10% or more of the
tenant.
Accordingly,
we will need to monitor compliance with both the REIT rules and the publicly
traded partnership rules. The operating partnership has not requested, nor does
it intend to request, a ruling from the IRS that it will be treated as a
partnership for federal income tax purposes. In the opinion of Pringle &
Herigstad, which is based on the provisions of the limited partnership agreement
of the operating partnership and on certain factual assumptions and
representations made by us, the operating partnership has since its formation
and will continue to be taxed as a partnership rather than a corporation.
Pringle & Herigstad’s opinion is not binding on the IRS or the
courts.
We have
not requested, and do not intend to request, a ruling from the Internal Revenue
Service that the Partnerships will be classified as partnerships (or disregarded
entities, if the entity has only one owner or member) for federal income tax
purposes. If for any reason a Partnership were taxable as a corporation, rather
than as a partnership, for federal income tax purposes, we would not be able to
qualify as a REIT. See “–Requirements for Qualification – Income Tests” and
“–Requirements for Qualification – Asset Tests.” In addition, any change in a
Partnership’s status for tax purposes might be treated as a taxable event, in
which case we might incur tax liability without any related cash distribution.
See “–Annual Distribution Requirements.” Further, items of income and deduction
of such Partnership would not pass through to its partners, and its partners
would be
40
treated as shareholders for tax purposes. Consequently, such Partnership would be required to pay income tax at corporate rates on its net income, and distributions to its partners would constitute dividends that would not be deductible in computing such Partnership’s taxable income.
Income Taxation of the Partnerships
and Their Partners
Partners, Not the Partnerships,
Subject to Tax. A partnership is not a taxable entity for
federal income tax purposes. We will therefore take into account our allocable
share of each Partnership’s income, gains, losses, deductions, and credits for
each taxable year of the Partnership ending with or within our taxable year,
even if we receive no distribution from the Partnership for that year or a
distribution less than our share of taxable income. Similarly, even if we
receive a distribution, it may not be taxable if the distribution does not
exceed our adjusted tax basis in our interest in the Partnership.
Partnership
Allocations. Although a partnership agreement generally will
determine the allocation of income and losses among partners, allocations will
be disregarded for tax purposes if they do not comply with the provisions of the
federal income tax laws governing partnership allocations. If an allocation is
not recognized for federal income tax purposes, the item subject to the
allocation will be reallocated in accordance with the partners’ interests in the
partnership, which will be determined by taking into account all of the facts
and circumstances relating to the economic arrangement of the partners with
respect to such item. Each Partnership’s allocations of taxable income, gain,
and loss are intended to comply with the requirements of the federal income tax
laws governing partnership allocations.
Tax Allocations With Respect to
Contributed Properties. Income, gain, loss, and deduction
attributable to (a) appreciated or depreciated property that is contributed to a
partnership in exchange for an interest in the partnership or (b) property
revalued on the books of a partnership must be allocated in a manner such that
the contributing partner is charged with, or benefits from, respectively, the
unrealized gain or unrealized loss associated with the property at the time of
the contribution. The amount of such unrealized gain or unrealized loss,
referred to as “built-in gain” or “built-in loss,” is generally equal to the
difference between the fair market value of the contributed or revalued property
at the time of contribution or revaluation and the adjusted tax basis of such
property at that time, referred to as a book-tax difference. Such allocations
are solely for federal income tax purposes and do not affect the book capital
accounts or other economic or legal arrangements among the partners. The U.S.
Treasury Department has issued regulations requiring partnerships to use a
“reasonable method” for allocating items with respect to which there is a
book-tax difference and outlining several reasonable allocation methods. Unless
we as general partner select a different method, our operating partnership will
use the traditional method for allocating items with respect to which there is a
book-tax difference.
Basis in Partnership
Interest. Our adjusted tax basis in any partnership interest
we own generally will be:
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the
amount of cash and the basis of any other property we contribute to the
partnership;
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increased
by our allocable share of the partnership’s income (including tax-exempt
income) and our allocable share of indebtedness of the partnership;
and
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reduced,
but not below zero, by our allocable share of the partnership’s loss, the
amount of cash and the basis of property distributed to us, and
constructive distributions resulting from a reduction in our share of
indebtedness of the partnership.
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Loss
allocated to us in excess of our basis in a partnership interest will not be
taken into account until we again have basis sufficient to absorb the loss. A
reduction of our share of partnership indebtedness will be treated as a
constructive cash distribution to us, and will reduce our adjusted tax basis.
Distributions, including constructive distributions, in excess of the basis of
our partnership interest will constitute taxable income to us. Such
distributions and constructive distributions normally will be characterized as
long-term capital gain.
Depreciation Deductions Available to
Partnerships. The initial tax basis of property is the amount
of cash and the basis of property given as consideration for the property. A
partnership in which we are a partner generally will depreciate property for
federal income tax purposes under the alternative depreciation system of
depreciation, referred to as ADS. Under ADS, the partnership generally will
depreciate (1) furnishings and equipment over a nine year recovery period using
a straight line method and a mid-month convention, (2) buildings and
improvements over a 40-year recovery period using a straight line method and a
mid-month convention, and (3) land improvements such as landscaping and parking
lots over a 20-year recovery period using a straight line method. The
partnership’s initial basis in properties acquired in exchange for units of the
partnership should be the same as the transferor’s basis in such properties on
the date of acquisition. Although the law is not entirely clear, the partnership
41
generally will depreciate such property for federal income tax purposes over the same remaining useful lives and under the same methods used by the transferors. The partnership’s tax depreciation deductions will be allocated among the partners in accordance with their respective interests in the partnership, except to the extent that the partnership is required under the federal income tax laws governing partnership allocations to use a method for allocating tax depreciation deductions attributable to contributed or revalued properties that results in our receiving a disproportionate share of such deductions.
Sale of a Partnership’s
Property. Generally, any gain realized by a Partnership on the
sale of property held for more than one year will be long-term capital gain,
except for any portion of the gain treated as depreciation or cost recovery
recapture. Any gain or loss recognized by a Partnership on the disposition of
contributed or revalued properties will be allocated first to the partners who
contributed the properties or who were partners at the time of revaluation, to
the extent of their built-in gain or loss on those properties for federal income
tax purposes. The partners’ built-in gain or loss on contributed or revalued
properties is the difference between the partners’ proportionate share of the
book value of those properties and the partners’ tax basis allocable to those
properties at the time of the contribution or revaluation. Any remaining gain or
loss recognized by the Partnership on the disposition of contributed or revalued
properties, and any gain or loss recognized by the Partnership on the
disposition of other properties, will be allocated among the partners in
accordance with their percentage interests in the Partnership.
Our share
of any Partnership gain from the sale of inventory or other property held
primarily for sale to customers in the ordinary course of the Partnership’s
trade or business will be treated as income from a prohibited transaction
subject to a 100% tax. Income from a prohibited transaction may have an adverse
effect on our ability to satisfy the gross income tests for REIT status. See
“–Requirements for Qualification – Income Tests.” We do not presently intend to
acquire or hold, or to allow any Partnership to acquire or hold, any property
that is likely to be treated as inventory or property held primarily for sale to
customers in the ordinary course of our, or the Partnership’s, trade or
business.
State
and Local Tax
We and
our shareholders may be subject to state and local tax in various states and
localities, including those in which we or they transact business, own property
or reside. The tax treatment of us and our shareholders in such jurisdictions
may differ from the federal income tax treatment described above. Consequently,
prospective shareholders should consult their own tax advisors regarding the
effect of state and local tax laws on an investment in our securities.
We may
sell the securities offered by this prospectus directly, through agents
designated by us from time to time or to or through underwriters or
dealers. If any agents, underwriters or dealers are involved in the
sale of any of our securities, their names, and any applicable purchase price,
fee, commission or discount arrangements between or among them, will be set
forth, or will be calculable from the information set forth, in the applicable
prospectus supplement. Underwriters may sell the securities offered
by this prospectus to or through dealers, and those dealers may receive
compensation in the form of discounts, concessions or commissions from the
underwriters and/or commissions from the purchasers for whom they may act as
agent.
The
securities may be offered and sold at a fixed price or prices, which may be
subject to change, at prices related to the prevailing market prices at the time
of sale, at negotiated prices or at other prices determined at the time of
sale.
If so
indicated in an applicable prospectus supplement, we may authorize dealers
acting as our agents to solicit offers by certain institutions to purchase the
securities offered by this prospectus from us at the public offering price set
forth in that prospectus supplement pursuant to delayed delivery contracts
providing for payment and delivery on the date or dates stated and the terms set
forth in that prospectus supplement.
Any
underwriting compensation paid by us to underwriters or agents in connection
with the offering of the securities offered by this prospectus, and any
discounts, concessions or commissions allowed by underwriters to participating
dealers, will be set forth in any applicable prospectus
supplement. Underwriters, dealers and agents participating in the
distribution of the securities offered by this prospectus may be deemed to be
underwriters, and any discounts and commissions received by them and any profit
realized by them on resale of the securities offered by this prospectus may be
deemed to be underwriting discounts and commissions, under the Securities
Act. Underwriters, dealers and agents may be entitled, under
agreements entered into with us, to indemnification against and contribution
toward certain civil liabilities, including liabilities under the Securities
Act.
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Unless
otherwise indicated in an applicable prospectus supplement, the obligations of
the underwriters to purchase any offered securities will be subject to
conditions precedent and the underwriters will be obligated to purchase all of
the offered securities if any are purchased.
Underwriters,
agents and dealers, and their affiliates, may be customers of, engage in
transactions with, and perform services for us and our subsidiaries in the
ordinary course of business.
The
validity of the securities offered by this prospectus, the federal and state tax
aspects of the organization and operation of the Company and IRET Properties and
other legal matters will be passed upon for us by Pringle & Herigstad, P.C.,
Minot, North Dakota.
The
consolidated financial statements and the related financial statement schedules
incorporated in this Prospectus by reference from the Company’s Annual Report on
Form 10-K, and the effectiveness of the Company’s internal control over
financial reporting, have been audited by Deloitte & Touche LLP, an
independent registered public accounting firm, as stated in their reports, which
are incorporated herein by reference. Such consolidated financial statements and
financial statement schedules have been so incorporated in reliance upon the
reports of such firm given upon their authority as experts in accounting and
auditing.
This
prospectus is part of a registration statement on Form S-3 that we have filed
with the SEC covering the securities that may be offered under this prospectus.
The registration statement, including the attached exhibits and schedules,
contains additional relevant information about the securities.
We file
annual, quarterly and current reports, proxy statements and other information
with the SEC. You may read and copy the registration statement and
any reports, statements or other information on file at the SEC’s public
reference room at 100 F Street, N.E., Washington, D.C. 20549. You can
request copies of those documents upon payment of a duplicating fee to the
SEC. Please call the SEC at 1-800-SEC-0330 for further information on
the operation of the public reference room. You can review our SEC
filings, including the registration statement, by accessing the SEC’s Internet
site at http://www.sec.gov or our web site at
http://www.irets.com. The information set forth on, or otherwise
accessible through, our website is not incorporated into, and does not form a
part of, this prospectus or any other report or document we file with or furnish
to the SEC.
The SEC
allows us to “incorporate by reference” the information we file with the SEC,
which means that we consider incorporated documents to be part of the
prospectus; we may disclose important information to you by referring you to
those documents; and information we subsequently file with the SEC will
automatically update and/or supersede the information in this
prospectus. This prospectus incorporates by reference the following
documents:
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Our
Annual Report on Form 10-K for the year ended April 30,
2008;
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Our
Quarterly Report on Form 10-Q for the quarter ended July 31,
2008;
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Our
Current Report on Form 8-K, filed with the Securities and Exchange
Commission on May 20, 2008;
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The
description of our common shares contained in our Registration Statement
on Form 10 (File No. 0-14851), dated July 29, 1986, as amended by the
Amended Registration Statement on Form 10, dated December 17, 1986, and
the Second Amended Registration Statement on Form 10, dated March 12,
1987; and
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The
description of our Series A Cumulative Redeemable Preferred Shares of
Beneficial Interest contained in our registration statement on Form 8-A,
dated April 21, 2004 and filed with the Securities and Exchange Commission
on April 22, 2004.
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We also
incorporate by reference into this prospectus all documents that we file with
the Securities and Exchange Commission pursuant to Sections 13(a), 13(c), 14 or
15(d) of the Exchange Act after the date of this prospectus and prior to the
termination of the sale of our securities offered by this
prospectus.
We will
provide copies of all documents that are incorporated by reference into this
prospectus and any applicable prospectus Supplement (not including the exhibits
other than exhibits that are specifically incorporated by reference) without
charge to each person who so requests in writing or by calling us at the
following address and telephone number:
Investors
Real Estate Trust
12 Main
Street South
Minot,
N.D. 58701
Attn: Michael
Bosh, General Counsel and Corporate Secretary
(701)
837-4738
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