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I believe that a happy solution to this problem of working out the inequitable situation that has existed in the past, could be accomplished if this committee would take the compromise bill and put it into the Internal Revenue Code.

I do feel that some correction should be made because of the atttiudes of the Bureau and the Treasury Department, as proven by the fights that we have had to have with them over a period of 10 years on this subject. We respectfully urge that the compromise measure would solve the problem and very frankly I can say this, that in my opinion, Senator, this is one provision that would not cost the Treasury any immediate revenue, because our price index level is more or less at a stationary point. It would correct an inequity and not cost the Government money at the present time.

Thank you very much.
The CHAIRMAN. Thank you very much.
Mr. Higgins

STATEMENT OF ALLAN H. W. HIGGINS, BOSTON, MASS. Mr. HIGGINS. Mr. Chairman and members of the committee, my name is Allan H. W. Higgins, of Boston, Mass., and I represent a group of real estate and investment trusts and their beneficiaries. These trusts were formed about the turn of the century—that is, most of them werebefore there were any income taxes and were formed for the purpose of providing a means of diversified investment in real estate, real estate then being deemed to be even more of a trustee's investment than were stocks and bonds. These trusts were formed largely by soliciting subscriptions from shareholders for shares of beneficial interest and the proceeds from these subscriptions were held by the trustees who used them to acquire locations for, chiefly, office and mercantile buildings in various sections of the country, and in most cases built the buildings, although in some cases they later acquired other buildings by purchase.

The trusts were performed to provide centralized management and diversification of investment, and minimizing of risk because even in those days it had gotten to the point where very few individuals could build a large office building. However, many small individuals could combine together and provide the capital for the building and by doing that in a number of different instances, could diversify the risk of investment in any one piece of real estate.

Now, for many years, these trusts were taxed as strict trusts but in the late 1920's or early 1930's, gradually by court decisions they were held to be more like corporations than like trusts and were subjected to the corporate tax.

By that time, however, the real estate situation with reference to mercantile buildings was in such a poor economic condition that the impact of the corporate tax was not very serious, as most of these trusts had very little income, at that time, and many of them had losses. As the older leases expired and new leases were written so that the trusts made income, the payment of the corporate tax has. become exceedingly serious.

The amendment which we propose, would incorporate the substance: of H. R. 5418 (which was introduced in the House by Representative Goodwin) in H. R. 8300. It applies to these real estate investment. trusts the same tax treatment as was applied to the security-invest

ment trusts in the Internal Revenue Code, that is, to tax the trust beneficiaries on the income from the rents, dividends, and interest which is currently distributed by the trust, to tax the trust beneficiaries on distributions of capital gains, and to relieve the trust of the corporate tax on such distributed income which is imposed by present law. That is very much as the system works with reference to security investment trusts, that is, it applies the so-called conduit theory:

Now the justification for the tax treatment of real estate trusts, like that of security investment trusts, is that these trusts are inequitably subjected to a corporate tax on all their net income under present law, whereas the security investment trusts are not. This corporate tax on real estate trusts is confiscatory in that if a trust buys a building which an individual could buy on a 6-percent basis, the trust, after the 50-percent corporate tax, has only 3-percent net 'to distribute to its beneficiaries. These real estate trusts are substantially similar in form and substance to security investment trusts. As I said, the security investment trust got relief from the corporate tax on the theory that they were mere conduits of the income received, which was then largely distributed to shareholders, and that the shareholders really had an indirect or beneficial ownership in the underlying assets. The very same thing is true of these real-estate investment trusts.

For instance, comparing a bond investment trust with real estate investment trusts, it appears that rental real estate is just as much an investment as are bonds. The interest on the bond is paid for the use of the money, and rent is paid for the use of the real estate. Both types of investment trusts were formed for the same purposes; namely, centralized management, diversification of investment, and the minimizing of risks.

The management duties of trustees and real estate trusts are substantially similar to the duties of the trustees of security investment trusts, that is, they handle the investment, they employ field forces to go out and look over the various corporations in which they own securities. The same is true of the real estate investment trust.

The CHAIRMAN. Does the real estate investment trust occupy an active management role?

Mr. HIGGINS. I don't think they do occupy any more of an active management role than do the security trusts. The security trusts maintain large staffs of research people and fieldmen who not only consider the financial statements of these corporations but go out and investigate them and decide whether or not they are going to invest in them. The same thing is done with the real estate trusts.

Furthermore, in many cases with reference to the real estate trust, and in fact in most cases, they employ a management firm of real estate managers to manage the property. Now that is a very interesting thing because, if you consider a business organization, such as a manufacturing or sale organization, they will not go out and employ a firm of managers to manage that manufacturing or sale corporation. People do go out and employ real-estate managers to manage an office building—it is a very common practice, and the reason for that comparison is because real estate in that sense is an investment. It is true that the handling of that investment requires a little different operation than the handling of security trusts, but certainly a much less staff, and the employees in an office building in most instances are not in the employ of the trust, they are in the employ of the management firm who collects the rents, handles the employees, and distributes the net to the trust so that the employees, the elevator operators, and so on, are in the employ of the management firm rather than in the employ of the trust, directly, so that the trustees devote their time largely to investing possibilities of investment in real estate, or the acquisition of additional rental properties. They deal with the managers with reference to whether the rents should be raised or lowered or whether there ought to be possibly a new front put on the building, but the management firm is the one which actually does the operation.

The same is true with reference to investment trusts. There frequently is a management firm which manages the security investment trust.

Now the effect on Government revenues from this we believe would be minor, in that there is a provision in here, in our suggested relief for these real-estate trusts, similar to the provision with reference to security investment trusts, that the trust must distribute 90 percent of its income to its beneficiaries, so if they save the corporate tax, of necessity the amount of the corporate tax would then be distributed to the beneficiaries, and would be subjected to tax at surtax rates, in the hands of the individual beneficiaries, which in many cases might be considerably higher than the corporate-tax rate.

As it is now, half of the income is being taken by the Government at a 52-percent rate, and that isn't distributed.

The CHAIRMAN. What would you like to do?

Mr. Higgins. Our proposal specifically, Senator, is to take subchapter M, chapter 1, of subtitle A, which covers regulated investment companies, and divide that into two parts. Part I would cover the regulated investment companies, and part II would cover the realestate investment trust.

Then we would specifically provide that 90 percent of the income of these trusts must be from interest, dividends, and rent, or income from real estate. At the moment, in the case of the security-investment trusts, 90 percent of their income must come from interest and dividends on stocks and bonds. This merely adds rent to that definition.

Then we provide, as do the security-trust provisions, that not more than 30 percent of the trust gross income may consist of short-term gains on security sales, and then we go one step further and provide that not more than 30 percent of its gross income should come from sales of real estate, held for less than 5 years.

Now, we put that provision in advisedly after consultation with the staff, because we wanted to make doubly clear that these trusts are not in any sense real-estate dealers. They don't buy for resale; they buy for long-term holding investment purposes. And we didn't want to get our type of operation confused with the real-estate dealer who invested for a quick speculation.

The CHAIRMAN. Supposing you have a real-estate trust which sells everything it has. What is the tax effect to the trustees and to the beneficiaries?

Mr. HIGGINS. If it were to completely liquidate ?
The CHAIRMAN. Yes.

Mr. HIGGINS. First, if the present law prevailed, if the trust sold, you would have a capital-gains tax on the sale by the trust of its under

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lying real estate and, secondly, upon liquidation to the beneficiaries, if it was complete liquidation, the beneficiaries would realize gain or loss, depending on what they had paid for their shares of beneficial ownership in the trust, based on the amount that was distributed to them in connection with the liquidation.

Now, there is a very serious danger of forced liquidation on these trusts, due to the fact that the market value of these shares is dependent almost entirely (as can be demonstrated for a period of 30 years) on the capitalization of the dividends they pay. Due to the corporate tax, the dividends have been halved, and the value of these shares has gone down substantially. On the other hand, it can be demonstrated that the market value of the underlying assets is considerably higher than the value of the shares which is based on the dividend.

So, if these trusts were completely liquidated, the shareholders would undoubtedly get more in liquidation than they can get by selling their shares, and there is considerable pressure as a result of the corporate tax to liquidate these trusts.

The CHAIRMAN. Do the beneficiaries have a voice in this?

Mr. HIGGINS. Generally the trustees have the complete power, but in a good many instances, the beneficiaries can vote to force a liquidation by a two-thirds or three-fourths vote of the beneficiaries. In some of the trusts the beneficiaries have some authority with reference to the selection of successor trustees. In other cases, the trust is selfperpetuating

I would like to say, Senator, that a statement has been filed by Henry M. Channing which develops that point quite substanti and I hope will be incorporated in the record right after our statement so that the two may be together.

The CHAIRMAN. It will be so incorporated.

(The statement referred to follows the prepared statement of Mr. Higgins.)

Mr. HIGGINS. I would like to say we have prepared a detailed statement with the proposed provision for amending H. R. 8300, which I would like to ask permission to file and have incorporated in the record.

(The detailed statement referred to appear sat p. 1280a.) (The summary of the statement referred to follows:)

SUMMARY STATEMENT RE PROPOSED AMENDMENT TO H. R. 8300 To Tax REAL

ESTATE INVESTMENT TRUSTS LIKE SECURITY INVESTMENT TRUSTS

1. Purpose of the amendment

To apply to real-estate investment trusts the same tax treatment as is applied to security investment trusts, namely:

(a) To tax to the trust beneficiaries the income from rents, dividends, and interest which is currently distributed by the trust;

(b) To tax to the trust beneficiaries all distributions of capital gains, and

(c) To relieve the trust of the corporate tax on such distributed income which is imposed by present law. II, Justification for tax treatment of real-estate trusts like that of security

investment trusts (1) Real-estate investment trusts, as compared to security investment trusts, are inequitably treated under the Federal tax law, in that the former are sub jected to a corporate tax on all their net income, whereas the latter are not.

(2) The corporate tax on real-estate trusts is confiscatory in that if a trust buys a building which an individual could buy on a 6-percent basis, the trust, after the 50-percent corporate tax, has only 3 percent net for its beneficiaries.

(3) Real-estate investment trusts are substantially similar in form and substance to security investment trusts.

(4) Security investment trusts got relief from corporate tax on the theory that they were mere conduits of the income received, which was then largely distributed to shareholders, and that the shareholders really had an indirect or beneficial ownership in the underlying assets. The same is true of real-estate investment trusts.

(5) Comparing the bond investment trusts with real-estate investment trusts, it appears that rental real estate is just as much an investment as are bonds. Interest paid for the use of money and rent is paid for the use of real estate.

(6) Both types of investment trusts are formed to provide centralized management, diversiication of investment, and minimizing of risks.

(7) The management duties of trustees of real estate trusts are substantially similar to the duties of trustees of security investment trusts.

(8) The effect on Government tax rexenues will not be serious, because, in order to get relief from the corporate tax, the trusts will have to distribute 90 percent of their income to the beneficiaries, and thus the savings in corporate tax will be passed on to the beneficiaries who, in turn, will be subjected to individual income taxes thereon.

(9) The granting of such relief will give an economic lift to equity investment in real estate through the medium of trusts, just as the granting of such relief to security trusts gave a lift to investment in securities. III. Safeguards to prevent abuse

(a) At least 60 percent of the gross income of the trust must be derived from rents and other real estate income, and at least 90 percent from these sources plus dividends and interest.

(b) Not more than 30 percent of the trust's gross income may consist of short-term gains on security sales.

(0) Not more than 30 percent of the trust's gross income may be from gains on sales of real estate held for less than 5 years.

(d) At least 90 percent of the trust's net income must be distributed to its beneficiaries.

These safeguards parallel generally those applicable to security investment trusts, but are stricter in some respects (e. g., the 5-year holding period under (c) above). IV. Form of amendment

To change the title of subchapter M of chapter 1, subtitle A (p. 201), to cover both regulated investment companies as part I and real estate investment trusts as part II. Part II will include sections 856–859, inclusive, which follow the general pattern of sections 851-855, relating to the regulated investment companies.

SHAREHOLDERS' STATEMENT IN SUPPORT OF H. R. 5418, AS REVISED, BEING A BILL

TO AMEND THE INTERNAL REVENUE CODE TO PROVIDE A SPECIAL METHOD OF TAXATION FOR REAL ESTATE INVESTMENT TRUSTS AND REAL ESTATE INVESTMENT ASSOCIATIONS WITH TRANSFERABLE SHARES OR BENEFICIAL INTERESTS, INTRODUCED BY MR. GOODWIN OF MASSACHUSETTS

SUMMARY

1. Who the witness hereinto is; a fiduciary shareholder with no connection with the management of any real estate trust.

2. Economic and social justification of real estate trusts; what they were designed to do, what they can do for the economy of the country.

3. Effect of income taxation on trusts, including destruction of market for shares, depressed value of shares leading to destructive speculation; withering of these trusts compared with mushroom growth of investment trust and insurance companies.

4. Effect of removal of discriminatory tax: (a) No windfall involved which shareholders cannot get by one of these means.

(6) Release of creative energy in commercial real estate at critical time in country's growth.

5. Certain arguments against the bill invalid. 1. Who the witness herein is

Henry M. Channing, whose name is attached hereto by the undersigned as his attorney, is an attorney at law and professional trustee of almost 40 years' experience. Mr. Channing was formerly, and for over 20 years counsel for several of the trusts involved, and has a long and intimate knowledge of their

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