Hey guys hope everyone's week is rounding out well. I'm looking at a multifamily deal in the midwest. I'm reviewing someone's underwriting on the deal and they don't bump taxes for the sale. When I spoke to them on this they said it's common practice in the market to structure the sale as an entity sale instead of an asset sale, thereby avoiding reassessment on the taxes.
Can anyone with midwest experience comment on this? Is this common practice? Is it a safe assumption to underwrite to? What are the risks of being reassessed despite the entity sale structure? Many thanks in advance guys.
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I've done an acquisition like this in the Midwest before. We underwrote RE taxes halfway between their original level and the reassessed level to account for the risk the plan might not work. This is definitely not a "common practice", there is definitely risk word will get out and you will still be reassessed eventually. Our sale documents required that no one could discuss or disclose the sale, but those requirements had no teeth and all the risk was on the new owner. I'd underwrite assuming taxes will go up, but this can definite create some additional value if you get lucky.
I wouldn't necessarily limit this to the Midwest, I was involved with a multifamily transaction that utilized this structure in Georgia a few years ago, and we've considered it various other markets. It is capable of hiding the real property transaction and purchase price from local assessors, but your company would be assuming all future liabilities for the prior actions of the entity you're acquiring. This is obviously more palatable if the development entity was an SPE for only this project, but for example, it would be particularly important to have a thorough review ADA/FHA requirements and compare to the design and as-builts, because your company is now held to the standard of the developer (you are the developer now) and would be responsible for any failures to comply. I'm sure you could structure your PSA to assign to the seller, but they won't allow themselves to be on the hook indefinitely.
Also, it's important that you have a thorough understanding of the assessment process in the county/state you're looking in, because if they reassess every 3-5 years regardless of a transaction, your savings could be limited and may not be worth the added risk.
Definitely interested in this topic and hearing other experiences.
I have seen these "non arms-length transactions" done in PA, and you really have to understand the county doing reassessments. Often times, low profile middle market transactions will fly under the radar, but you will still be hit with a transfer tax which is calulated by using the county common level ratio and current assessment.
Regardless, I would definitely NOT assume no increase in tax assessment in your underwriting. You are looking at typical brokerage number fudging.
Say waaaah???! You mean brokers scrub financials?
Well, you asked if it was a "safe assumption to underwrite to". The answer is: no.
Thank you everyone for your responses. All were excellent contributions.
Taking this a step further. If you've executed on this type of transaction or at least tried to, can you comment on how this approach was received from a lender perspective? Has anyone been able to get an agency execution (or at least an approval) with this approach? Bank?
this concept also works in refis when you are funding a deal off your corporate line of credit/balance sheet. Local jurisdictions typically charge you recordation tax every time a new loan is originated based on the total value of the note. You can create an internal SPE to lend the property level SPE those funds so that you only pay recordation on any incremental increase in proceeds instead of the full nut.
Do yourself a favor and hire a tax protestor before doing this. We've done this multiple times both via buying REITs and via a traditional LLC sale. Whether you get caught has less to do with the purchase structure and more to do with the sales volume of assets and how overworked certain tax aasessors are. We've done LLC structures and the assessors absolutely saw through that and we've done straight fee simple purchases and the assessors haven't reassessed still 3 years later. First scenario was a small county with little trade volume and the latter was where there's was an influx of trades the assessors got behind so they focused on the largest $ trades and forgot about the little guys.
^This, all of this. You also need to do your DD to make sure you understand what liabilities, if any, you're taking on through the acquisition of the old entity.
exaclty what picklemonkey said. SUCH bullshit when people say you can skirt the issue w an entity sale.
maybe I'm just a pussy, but the deal better work in underwriting w/ full property tax assessments and anything above that is just extra If I was an investor, I would be pretty fucking pissed if a GP came back to me and said "well the deal would have been great, but our questionable strategy to avoid an increase in property taxes didn't work"
You're not a pussy, you just won't do deals :). Tag along conversation is what the true tax adjusted cap rates are when talking to brokers. They'll quote you a 5.75 with a 75% reassessment but you start pushing those reassessments up and we're looking at C "value-add" deals going for 5 handles.
and in Nashville theyll try and quote the cap without the franchise tax too. For the reputation the south has for being so business friendly, they really like to beat up real estate owners dont they?
We just finished one. The abridged version is below.
The owner of the property is SaleCo. At closing SaleCo will transfer title and record a deed to Newco LLC (buyer entity), the sole member of which is SaleCo, and for which there is no consideration. SaleCo will immediately transfer its sole 100% membership interest in Newco to buyer for the contract consideration, but there is no deed recorded with this transfer and no reporting to the assessment department.
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