429 Joe Ollis, Chairman of the Board & Chief Investment Officer | The Peak Group
Peak Housing Group on REITs
When I learned that my guest today had set up a REIT I invited him on the show to describe that process and in today's episode you are going to learn what's involved in that as well as about a different kind of tax free way to sell real estate and differ capital gains taxes - the 721 exchange.
Joe's business is in the buying and managing of single family homes for rent yet his innovative use of this type of exchange into a REIT can doubtless be applied to any real estate asset class and can help you persuade a willing seller of a property you want to consummate a deal if you can explain to them how they can save on taxes at the same time.
What You're Going to Learn
- What is a REIT
- Public private traded and non-traded REITs
- Saving taxes with a 721 exchange
- Avoiding a taxable event until sale of REIT shares
- A REIT without a load fee
- A massive opportunity in single family rental homes
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What Is a Real Estate Investment Trust? (REIT)
Adam Gower: We are going to be talking about REITs. A topic I know, you know, a lot about. So, why don't we start - let's start at the highest level. The 101 level and then let's dive deep. So, at that 101 level, forgive me for such a blatant question, what is a REIT?
Joe Ollis: So, very simply, a REIT is a real estate investment trust, and it is a definition of essentially an investment vehicle that allows a company to own real estate and primarily it is used for either privately traded REITs or publicly traded REITs, and it is a combination of multiple investors coming together to buy real estate. And the key distinguishing factor really is a lot of the tax rules and the rules associated with a REIT versus standard funds.
Public, Private Traded and Non-Traded REITs
Adam Gower: So you actually talked about tradable privately and publicly, but they're also non-traded REITs. So, just explain the difference between public and private traded and non-traded.
Joe Ollis: That's right. So, I think if you think about REITs, right now, a publicly traded REIT is one that an investor can literally go to their Schwab or Fidelity account, type in a ticker symbol and buy that REIT - buy that company. A non-traded REIT, is one that is not publicly listed. So, it doesn't allow an investor to actually go to their Schwab account and purchase that company or that REIT. A non-traded REIT is something that's privately traded. So typically requires somebody to come in and sign a subscription agreement or an investment agreement with that company and then invest directly in that investment vehicle.
Saving taxes with a 721 exchange
Adam Gower: I know that you set up a REIT. Actually, let me just have a quick look at it on the website here. It is the PEAK HOUSING REIT, INC. So, of all the options that you have to raise capital, why did you choose a REIT?
Joe Ollis: Yeah.
Adam Gower: What kind did you set up? Is it private, public, or traded, non-traded and why did you set it up?
Joe Ollis: That's right, OK? It is a privately traded REIT, which means investors can reach out to us and as long as they're accredited investors, they can invest directly into our REIT. We chose that structure because of one very specific special reason. So, let me take a step back and kind of dive through what our investment is and it will very clearly become why we chose a REIT.
Adam Gower: Ok.
Joe Ollis: So, our investment vehicle is for the aggregation of single family rental homes. So, we right now, an investor comes and joins us, it's to be part of a company that owns 1,200 homes today and is adding new homes, new rental homes, every month. So as we raise money, we're buying homes. But we're also building homes. So with those two structures, those two ways of our purchasing the houses, we could have chosen a fund model, we could have chosen a simple syndication model. Why did we choose the REIT? Well, it's because of this third reason. The third way we're acquiring houses is through what's called the "UPREIT" or is commonly referred to as the 721 Exchange.
Adam Gower: Ok.
Joe Ollis: Do you think your investors know what a 1031 Exchange is?
Adam Gower: I think a 1031 is probably, you know, a good bet. I certainly do. But tell me what's the 721.
Joe Ollis: So a 721 is exactly like a 1031. Same tax benefits, except for, instead of selling your property and purchasing another property, you're selling your property to a REIT - a Real Estate Investment Trust. When you do that, you exchange your equity for shares of the REIT.
Adam Gower: I see. Huh.
Joe Ollis: That's supported with a REIT structure. So the reason we chose a REIT, for our investment, is to support these UPREIT transactions. And that - the primary reason we did that, really pertains to the macro tailwinds of single family rental houses and who owns those today. So that people who own those today, really are looking for an exit. They might be selling and doing a 1031 exchange, or they might be selling and paying taxes. Now we give them a new option, which is to sell to our REIT, in a tax-free exchange.
Avoiding a Taxable Event
Adam Gower: Somebody wants to sell. They want to exit a home that either they rent - so now we're getting into the weeds a little bit - either that they're currently renting or currently living in. They sell it to you and instead of receiving cash, they receive shares in the REIT, for the equivalent value of whatever the sales price was and there's no taxable event at that point in time.
Joe Ollis: That is correct. There is no taxable event until they sell the shares of their REIT. So, that is the beauty of this. It takes an asset that's usually an "all or nothing" when you sell it, and it creates little tiny shares that you can sell whenever you want. So you can control your taxes, control your estate planning and have a lot more granularity when you do that. So it's a very powerful tool.
Adam Gower: Now, can they - let's say somebody sells and I'm just going to pick a number because I am in California numbers are - I actually really like this. Somebody sells a house for a million dollars. You buy the house for a million dollars from them and they receive a million dollars worth of shares at net asset value - whatever the price is at that point in time and they hold that asset for - they want to sell it in a year's time. They want to sell their shares. That's the taxable event. Can they 1031 out of the REIT into another acquisition or are they done with that?
Joe Ollis: They're done. That is really the - I guess, one downside of that transaction is, once it goes into the REIT, that's the final resting spot for that tax situation. And so, once they sell, when they sell those shares to the REIT, they will be creating a new gain effectively. But they've - and they'll be capturing under original gain that they invested into the REIT itself.
A REIT Without a Load Fee
Adam Gower: Let's go back to that moment when somebody actually invests. Either somebody sells a home to you, or a package of homes for a million dollars, let's say. Or, somebody invests $25,000 with you, which is what I see is the minimum investment over here in the REIT.
Joe Ollis: Yeah.
Adam Gower: So, I'm interested - one of the big downsides that I understand about REITs is fees. So when somebody writes a $25,000, let's say, and invests, what is their balance on day one? Like, tell me about the fees that are associated with a REIT.
Joe Ollis: Yeah, that's a really a good question. And that is oftentimes an incorrect assumption that because it's called a REIT, there's really high fees. Now historically, a lot of REITS and especially private REITs, have charged what are called "load fees".
Adam Gower: Right.
Joe Ollis: So, for an investor to come into the fund, they might be paying a load. So that load fee, you know, in some cases, could be very high, like 5 - 6%. Our REIT does not do that at all. And in fact, most REITs today don't charge that load fee. That just became such a turnoff to people and especially in kind of the new realm where there's a lot more disclosure. People started to pick up on those REITs.
Adam Gower: Right.
Joe Ollis: Our REIT has no load fee. So then you have to talk about the fees within the REIT itself. and that's where we like to do the apples to apples comparison of our REIT versus a standard fund, like a syndication fund or a fund that you can go and invest it. Typically, funds have an asset management fee. We have the same thing within the REIT. Our asset management fee is based off of our net asset value or the NAV. We charge a 1.35% net asset value - that's the equivalent of a fund charging 1.35% on the money they raise. That's it for fees, within the REIT.
Joe Ollis: Just like a fund, our REIT also has what's called the general partner promote.
Adam Gower: Mm hmm.
Joe Ollis: So a fund typically might have a preferred return followed by a split. Our REIT does the same thing. We have an 8% preferred return and then any excess profit above that 8% yearly, is split, with 80% of it going to investors and 20% going to the sponsor. Just like with the standard fund that you see, out there.
Adam Gower: That's interesting.
Joe Ollis: And believe it or not. We modeled ours, almost identical to the BlackRock, privately traded REIT. Very similar mechanism, very similar fees, same promote structures.
A Massive Opportunity in Single Family Rental Homes
Adam Gower: That's interesting. Of course, anything that you get in taxes, you give back somewhere else. Right? It's just the beauty of the IRS code, the tax code.
Joe Ollis: That's right.
Adam Gower: So, at some point, there is a tax event, and I noticed that your investment period is open- ended. So, what is the kind of overall plan for this REIT? And, at some point you are going to exit, right? I mean that is required and at that point, all these deferrals will come home to roost. Is that right? How will that work?
Joe Ollis: That is right. So you caught, kind of, our magic secret sauce here. So, there is something happening within the single family rental realm. It is an asset class that historically has only been owned, about 4-6%, by institutions. So, when I think of institutions, I think of the very large REITs, like Invitation Homes and American Homes 4 Rent. I think of pensions. I think of very large private capital groups like PCCP. They only own between 4 and 6% of single family rental houses today. Yet, the innovation that's happened in this industry over the last 10 years has made it possible for these scattered site homes to be managed more like multifamily. What that means is, everybody wants to buy them right now. And so, I think a lot of investors who have probably read the news, seen a lot of reports, and they've realized, there's good tailwinds behind it. What we've created, with The Peak Housing REIT, is the most efficient aggregation platform there is. And our premise is, we can go out and we can compile this large, say 10,000 to 20,000 home portfolio. Acquire these homes at the equivalent cap rates of around 6 - 6.5%, take a bundle, and liquidate that bundle through multiple means, taking it public, selling it to a larger REIT, selling large portfolios to pensions. There's lots of liquidity options. And here's where that arbitrage is that will make our REIT investors very happy. The equivalent cap rate of American Homes 4 Rent right now - do you want to venture a wild guess what it is?
Adam Gower: I've got no idea. I mean - when you say 6%, that sounds incredibly high. I've gotta guess. It's significantly lower than that.
Joe Ollis: Yup. So, the equivalent cap rate for American Homes 4 Rent today is 4.1.
Adam Gower: Ok. I was going to say 4. Yeah.
Joe Ollis: Yeah. So if you think about it. We're acquiring four 6. American Homes 4 Rent is trading for 4. That delta is massive.
Adam Gower: It is massive.
Joe Ollis: And so there is - and there are now portfolios, very large portfolios that you're starting to see make headlines of portfolio sales. And there are some that are selling for even below forecast now. And so we think that we're just at the very start of this movement. And we're one of aggregators out there. We're a little - a few steps ahead from other ones and we do know that there's a very large opportunity for us to grow this. So that's our exit plan. That's effectively what we're building to right now.
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