The sale of the R & M Veady portfolio represented a seldom-seen transaction which included the sale of the shares of a holding corporation to convey real estate. There are certain tax advantages to this type of transaction but the transaction itself is more complex in certain ways, and requires an understanding of tax laws and corporation sales, among other things.
Consisting of three single tenant net leased fast food restaurants, one strip retail center and two multi-family properties in the greater Los Angeles area, the portfolio was assembled over time by Ralph Veady, a Bellflower businessman and local hero who overcame the tragic loss of both legs in a farming accident. Ralph Veady placed the properties in a “C” corporation, based on the benefits of this structure at the time. He left the “C” corporation to his heirs, who converted the corporation to an “S” corporation two years ago. The heirs desired to liquidate the portfolio for estate planning purposes, but due to the holding period requirements of such a conversion, and given the softening real estate market, the owners were advised to sell the shares of the corporation, to avoid the claw back of the double taxation of a “C” corporation which would have occurred unless they had held for three more years.
The sale process started with evaluating the real estate itself, and then evaluating the tax and depreciation basis of the corporation. The team assembled a marketing package outlining the offering of the sale of the shares of the corporation, and noted the fair market value of the properties as a baseline for discussion. The marketing campaign included broad email marketing to the team’s investor database, as well as utilizing social media and our team blog to produce thought leadership content to educate the marketplace on the benefits of owning this portfolio in such a structure.
Although simple to understand from a real estate perspective, the challenge lay in educating the buyer pool on the rationale for the seller’s motivation to sell the shares of the corporation versus the sale of the individual assets, and on the benefits and risks of acquiring the corporation. The benefits included the outstanding collection of properties with below-market rents and short-term or month-to-month leases in the case of the multifamily properties. This portfolio had huge short and long term potential. The challenges of the portfolio were:
- The very low cost basis in the assets, due to the benefit of the timing of the purchase of the assets, a basis which created a capital gains tax liability that one day would need to be reckoned with.
- If the ownership of the corporation sold any asset in the corporation and did not do a tax-deferred 1031 exchange with the proceeds, the sale would not only be subject to capital gains against the original basis, but would also be subject to ordinary income under the “C” corporation rules if such transaction occurred before the end of the requisite 5-year hold period following the designation of the corporation from “C” to “S.”
- Traditional real estate buyers do not care to deal with this level of complexity, making the buyer pool smaller for this portfolio.
We were able to sort out the various challenges and provide a thoughtful, concise answer to buyer objections on the sale. This was not a deal that sold itself, it required an experienced and sophisticated team. Our 500+ transaction record gave us a depth of understanding and credibility in the marketplace which established a baseline comfort level in the deal, which transpired into offers, and ultimately a closing. Once under contract, the deal team was able to anticipate problems and address them as they came up with solutions on both sides. We were able to also resolve a complex problem of funding and closing during the end of the year, including coordinating lender and buyer funds during short work days towards the end of the year. While at face value this may not seem very challenging, the nuances of effecting the close with the various escrow, title and lender requirements required an experienced and solution-oriented effort on the team’s part.