Rev. Rul. 2012-17, which was released on June 18, 2012, confirms that a real estate investment trust (REIT) may treat shares it holds in a money market fund as cash for purposes of meeting the qualifying asset tests of Sec. 856(c)(4)(A). This is welcome news for REITs and confirms what some practitioners had either assumed or hoped would be the case since the SEC’s Division of Investment Management issued a no-action letter on Oct. 23, 2000, on the treatment of money market fund shares. This revenue ruling relies on that SEC no-action letter.
A REIT is not taxed on income distributed to its shareholders as long as it meets certain qualifying tests relating primarily to the composition of its assets, income, and shareholders and distributes most of its taxable income annually. Among these tests is the requirement that, at the close of each quarter of its tax year, at least 75% of the value of the REIT’s total assets must consist of real estate assets, cash and cash items (including receivables arising in the ordinary course of business), and government securities.
The term “cash and cash items” is not defined in Sec. 856(c)(5), which supplies definitions for other terms in Sec. 856. Sec. 856(c)(5)(F) provides that all other terms not defined in Sec. 865(c)(5) have the same meaning as when used in the Investment Company Act of 1940, P.L. 76-768 (the 1940 Act). However, the term “cash item” is not defined in either the 1940 Act or in regulations under that Act.
In 1995, the IRS ruled in Technical Advice Memorandum (TAM) 9544002 that a thrift, for purposes of qualifying as a domestic building and loan association, could not treat as cash its investment in a no-load, open-ended money market investment fund that was qualified as a regulated investment company under Sec. 851(a). The TAM relied on a definition of cash found in Regs. Sec. 301.7701-13A(e)(1), under which “cash” means cash on hand, and time or demand deposits with, or withdrawable accounts in, financial institutions. It also cited Rev. Rul. 66-318, which discussed the identical definition of “cash” found in Regs. Sec. 301.7701-13(d)(2).
The conclusion in Rev. Rul. 2012-17 related to shares in a fund that complied with the money market fund requirements of Rule 2a-7 under the 1940 Act. Similarly, the shares that were the subject of the no-action letter, which involved an issuer attempting to qualify as an investment company under the 1940 Act, were in a registered investment company that held itself out as a money market fund and sought to maintain a stable net asset value of $1 per share. The revenue ruling cited a portion of the no-action letter—“essential qualities of a cash item . . . [are] a high degree of liquidity and a relative safety of principal”—and concluded that “money market fund shares have these same qualities because of the specific regulatory requirements with which money market funds must comply.” The ruling goes on to say that the conclusion reached in the no-action letter is not inconsistent with the language of Sec. 856(c)(4)(A) or its underlying legislative history.
By allowing money market fund shares to be treated as cash and counted in the Sec. 856(c)(4)(A) 75% asset “bucket,” the ruling exempts them from further restrictions placed on assets treated as securities under Sec. 856(c)(4)(B), namely that a REIT may not hold more than 5% of the value of its total assets in the securities of any one issuer and that it may not hold securities possessing more than either 10% of the total voting power or 10% of the total value of the outstanding securities of any one issuer. This is welcome news for REITs, allowing them more flexibility in managing their cash holdings.
Frank J. O’Connell Jr. is a partner in Crowe Horwath LLP in Oak Brook, Ill.
For additional information about these items, contact Mr. O’Connell at 630-574-1619 or email@example.com.
Unless otherwise noted, contributors are members of or associated with Crowe Horwath LLP.