In the recently released Private Letter Ruling 201628020, the IRS considered a situation where affiliated entities owned various properties in an office park; the IRS determined that the entities' income from leasing space in a parking garage in the office park constituted rent from real property for purposes of the REIT qualification rules.
Taxpayer indirectly owned interests in a building and parking garage in an office park. The office park also included a second building owned by an unrelated entity ("Building 2 Owner"). The parties entered into a number of related agreements:
- Parking Lease: Building 2 Owner entered into a long-term lease with LLC 2 pursuant to which LLC 2 was required to lease a number of parking spaces to Building 2 Owner.
- Easement Agreement: Building 2 Owner, LLC 1 and LLC 2 entered into an easement agreement pursuant to which LLC 2 was required to maintain a certain number of parking spaces in the garage, make the garage available for the non-exclusive use of the owners and occupants of the two buildings, and hire a parking manager to operate the garage.
- Management Agreement: In accordance with the easement agreement, LLC 2 entered into a management agreement with a third party independent contractor ("Operator") to operate the parking garage. The parking garage was used primarily by the tenants and guests of Building 1 and Building 2. A representative of Building 2 Owner deals directly with Operator regarding Building 2's parking spaces. None of Taxpayer, LLC 1 or LLC 2 will derive or receive any income from Operator.
- Storage Agreement: Building 2 Owner and LLC 2 entered into a storage agreement pursuant to which Building 2 Owner leased storage space in the parking garage.
The Taxpayer proposed to have LLC 1 acquire the parking garage from LLC 2. All of the agreements currently in place would be assigned to LLC 2.
A REIT must derive at least 95% of its gross income from specified sources, including rents from real property. I.R.C. § 856(c)(2). The term "rents from real property" includes: (a) rents from interests in real property; (b) charges for services usually provided in connection with the rental of real property; and (c) rents from personal property leased in connection with a real property lease if the personal property portion does not exceed 15% of the total rent. I.R.C. § 856(d)(1). "Rents from real property" also includes fees from services customarily furnished or rendered in connection with renting real property, such as parking facilities. To be "customarily furnished", the service must be: (1) furnished or rendered to tenants; or (2) primarily for the convenience of the tenants. Further, the service must be furnished through an independent contractor. The REIT cannot receive any income from this independent contractor. Services furnished through an independent contractor that do not produce income for the REIT or through a taxable REIT subsidiary are not considered as services furnished by the REIT.
Impermissible tenant service income (i.e., amounts received for services furnished or rendered to tenants or for managing or operating property) is not considered rent from real property. If a REIT's impermissible tenant service income exceeds 1% of all amounts received by the REIT, then all amounts received by the REIT with respect to the property is considered impermissible tenant service income. I.R.C. § 856(d)(7)(B).
The IRS determined that the amounts received by LLC 1 from the Parking Lease and the Storage Agreement would qualify as rents from real property following the proposed transaction. In its determination, the IRS relied on the following facts: (1) Operator would perform all management and operation services with respect to parking garage; (2) Operator would be paid an arm's-length management fee; (3) Taxpayer and LLC 1 would perform only limited fiduciary functions with respect to the parking garage; (4) the parking garage would be operated for tenants, employees, customers and guests of the office park; (5) the space in the parking garage available for the tenants, employees, customers and guests was appropriate compared to the anticipated number of users; and (6) all services furnished to tenants by the parking garage are services customarily furnished or rendered in connection with the rental of space in similarly situated office parks.
Private Letter Ruling 201628020 provides a detailed analysis of when parking facility rent payments constitute rents from real property for REITs. As shown in the PLR, the determination of whether such rent constitutes "rent from real property" is very fact specific and dependent on a number of factors. Accordingly, REIT operators should familiarize themselves with the key facts required to support a determination that parking facility rent payments are rent from real property; if not, a REIT receiving parking garage rent payments could jeopardize its classification.
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