Greek Philosophers and Current US Tax Developments

The Greek philosopher Heraclitus once famously illustrated his thoughts on ongoing transformations and disruptions in the ancient world by simply stating that the only constant in life is change. More than 2,500 years later, when examining the ever-evolving landscape of tax rules and regulations across many jurisdictions, most international tax practitioners as well as investment fund managers would likely agree. And specifically in the context of US-bound real estate investments, most recent developments in the U.S. leave international investors, investment funds, and investment fund managers with a range of unresolved concerns – even though the current wave of imposing and increasing US import tariffs on goods does not at least directly regulate the inflow of capital into the US real estate market.

What lessons, then, can be drawn from Heraclitus’ famous insight when navigating the acquisition, holding, and disposition of real estate investments in the United States in today’s uncertain world?

First and foremost, for foreign investors, it is now more critical than ever to stay abreast of all changes in US tax legislation. This does not only include staying familiar with ongoing Federal tax law developments, but also closely tracking tax legislation of all 50 US states and numerous local jurisdictions, as well as monitoring their complex interactions in allocations and apportionment of inter-state income.

At the same time, it is important to note that many provisions in the US federal tax code as well as in US state and local tax codes are designed to foster US-bound investments. Leveraging these rules can lead to significant tax benefits, provided that the underlying target investment structures are tailored accordingly. This applies for example to German pensions funds qualifying as “qualified foreign pension funds” (“QFPF”) under section 897(l) of the Internal Revenue Code. Pending proper target fund structuring which ideally involves the implementation of US private REIT structures, such investors would be eligible for an exemption on exit gains realized from the sale of US real estate – generally, in both asset deals as well as share deals exit scenarios.

Other foreign investors may also benefit from strategic structuring. For instance, non-pension fund investors could achieve similar benefits for share-deal exits if investing as minority investors in US REIT structures that are domestically controlled. Similarly, debt-focused foreign investors may consider non-US debt fund vehicles that engage in “season and sell” strategies, allowing for US-source interest income to remain exempt from US taxation —even in the absence of an applicable income tax treaty. Thus, utilizing any such tax rules available under current law could result in substantial tax benefits for the foreign investor.

In todays’ world, just as in ancient times, change is nothing unusual. However, while change seems to remain a constant for the foreseeable future, its implications are anything but static. Foreign investors who actively monitor and adapt to legislative developments are best positioned to capitalize on investment-friendly tax provisions—and ultimately, to optimize the after-tax performance of their US real estate portfolios.