USA – ALABAMA Law and Practice Contributed by: Adam J. Sigman, Crystal H. Walls, Nathan Stotser, Katie Sinclair and Courtney Dow, Dentons
5. Investment Vehicles 5.1 Types of Entities Available to Investors to Hold Real Estate Assets Alabama law authorises the formation of corpora - tions, general partnerships (GPs), limited partnerships (LPs), limited liability companies (LLCs) and real estate investment trusts (REITs) for the purpose of holding real estate. The most frequently used ownership entities in Ala - bama are LLCs and LPs (including limited liability limited partnerships). Generally, LLCs are preferred to LPs as investment vehicles because none of an LLC’s owners (“members”) is liable for the entity’s debts and obligations, while an LP is required to have at least one partner (the “general partner”) liable for such debts and obligations. LLCs also have a poten - tial tax basis advantage over LPs in qualifying for non- recourse basis treatment for an entity-recourse debt. Alternatively, an LP may be preferable if certain own - ers are not US citizens and if the requirements of their home country’s tax laws would impose additional tax burdens upon them otherwise. LPs and LLCs are usually preferred over corporations (other than REITs, as described below) because cor - porate income is taxed at the corporate level, and then the dividends paid to the corporate owners (“share - holders”) are taxed again. Corporations that own real estate often do so in con - nection with their trade or business (eg, factories). Other entity types can be used to hold real estate assets as well, such as S corporations and general partnerships, but their use is infrequent due to taxa - tion and liability concerns, respectively. 5.2 Main Features and Tax Implications of the Constitution of Each Type of Entity Regarding LPs and LLCs, almost all features of their operations are negotiated among the partners or members in an LP’s limited partnership agreement or in an LLC’s limited liability company agreement, including how and by whom decisions are made as well as how the economics are divided. Major deci - sions typically require the consent of the partners or members, and often include:
• a sale or refinancing of the principal asset; • certain major leases; • construction matters, such as budgets and hiring of contractors; and • decisions affecting the continuation of the entity, such as merger, termination and bankruptcy. These agreements also establish the priorities of eco - nomic distributions and the payment of agreed-upon fees among the partners or members, providing for how and when additional capital may be called from the partners or members. It is important that these agreements properly address income tax considera - tions, as the allocation of economic benefits and tax liabilities of ownership must comply with detailed US tax code regulations or risk unintended tax outcomes. Both agreement types will generally have provisions allowing for certain owners to buy the interests of other owners or to have the assets sold under certain circumstances. Corporate Statutes and Judicial Decisions Many activities of corporations, including REITs, are governed by Alabama corporate statutes and judicial decisions. In closely held corporations, the owners (shareholders) may enter into a shareholders’ agree - ment, which establishes, among other things, how votes are cast and how interests in the corporation may be bought and sold or otherwise transferred. Economic distributions within corporations are gen - erally less flexible than distributions within LPs and LLCs. Each share in the same class of ownership shares is entitled to the identical economic distribution as each other share in that class. In order to allocate economics in a corporation differently among share - holders, multiple classes of shares must be created with different priorities of payments and claims on a corporation’s distributions. 5.3 REITs REITs are corporations or business trusts that elect for REIT status, allowing them to pass income through to their owners, like LPs and LLCs; however, because of the complex qualifications required of REITs under the US tax code, investments in REITs are normally limited to large income-producing assets or portfolios of assets. Many REITs are formed in Maryland.
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