Preserving Real Estate Assets for Future Generations
Commercial real estate has been a major source of wealth in parts of the United States for generations, and families are understandably eager to preserve these assets for their heirs.
Investments in office developments, retail and industrial space, and multifamily residential properties can potentially generate strong real returns, both in cash yields and long-term appreciation, while providing diversification from other asset classes and potential tax benefits.
Transferring commercial real estate can be complicated, however. Planning, as Chris Zander notes in this issue of Independent Thinking, is an ongoing process. In the case of illiquid real estate holdings, this means addressing some tough questions well in advance of placing the assets within multigenerational trusts or establishing other forms of estate or gift transfer.
The starting point is the intent of the grantor. Does he or she envision this property remaining intact over several generations? If so, is it part of a larger, diversified portfolio of assets or does a single property represent the bulk of the estate? For estate settlement, will there be sufficient liquidity to pay any estate taxes and administrative expenses (or does the real estate business qualify for estate tax deferral under Internal Revenue Code Section 6166.) Balancing the original intent of the grantors and the needs of the beneficiaries, which may change over time, can be complicated but manageable, with careful planning.
Is the grantor able to foresee the needs of the next generation? Do the heirs have other sources of income, or will they depend on these particular assets singly and entirely, for the source of their income or wealth? Will the anticipated cash flow of these properties be able to meet any unexpected or emergency needs?
For ongoing trusts, there needs to be adequate liquidity within the trust’s portfolio, in addition to the property, to meet the ongoing maintenance and capital improvements, and to preserve its desirability as an asset. Commercial real estate markets are cyclical in nature, and grantors will not want to underestimate the trust’s liquidity needs, as well as those of the beneficiaries, over several market cycles.
Real estate investors may want to revisit their ownership structures when planning for the eventual transfer of their assets. There are advantages and drawbacks to various entity structures in terms of risk management, asset protection, and the accounting of cash flows as well as asset management.
Tax planning is also critical. Many commercial properties have been depreciated over time to a zero, or even negative, cost basis. Depending on the long-term appreciation in the property holdings, estate planners may recommend a transfer at death, instead of a lifetime gift, to obtain a step-up of income tax basis. Property taxes should also be evaluated, within the context of local laws and regulations, to understand when reassessments may occur.
The management of the assets is the next order of business in planning. How involved have other family members been in managing the portfolio? Are the assets professionally managed by independent parties? Or is it the intent of the grantor that family members be employed to manage the property? How will other family members benefit from the assets?
Another consideration is the grantor’s use of debt. For many investors, significant real estate portfolios have been built with the astute use of leverage. Once these properties move to a different entity, such as a trust, it may be difficult to access leverage without the personal guarantee of the original investor. How will these facts impact the proposed transfer of the assets?
When our clients are considering appointing us trustee or co-trustee, through Evercore Trust Company, N.A., we bring our experience in managing unique assets, such as real estate, to the planning process. We work closely with our clients, and their legal and tax advisors, to develop a plan that can provide the trustees with both a clear view of our clients’ intent, as well as flexibility to meet the needs of the beneficiaries over time.
Kirsten Weisser is a Managing Director and Wealth & Fiduciary Advisor at Evercore Wealth Management. She can be contacted at firstname.lastname@example.org.