6B — January 30 - February 12, 2015 — Owners, Developers & Managers — M id A tlantic

Real Estate Journal


B uilding S ervices & S uppliers By Al Erdmann, CPA, MS, WithumSmith+Brown Separating commonly-owned property from operations (again)

W hen an operating business owner a l s o owns t he

tion. Fast forward to 2014 – the FASB has provided relief

the guaranty. To qualify for non-consolidation treat- ment, the entities must meet four criteria: -The lessee and lessor must be under common control -There must be a lease arrangement between the lessee and the lessor - Substantially all activi- ties between the lessee and the lessor are related to leas- ing activities (including sup- porting leasing activities) between those two entities - The amount guaranteed does not exceed the value of the asset leased at the time the guaranty was made It is pretty clear that the situation described above meets the criteria. The two entities are obviously under common control and there would certainly be a lease between the entities. In this specific situation, it is also clear that there are no other activities between the two entities, as the lessor merely holds the building and has no other operations. But, what about the last criterion? When the operat- ing entity is the sole tenant, the answer is easy, since the lender would not lend in excess of the property value. However, there may be a situation where the operat- ing entity only occupies a portion of the property, and the rest of the property is leased to unrelated entities. For example, the operating entity leases 30% of the prop- erty, while guarantying the entire mortgage, presumably 70-80% of the property value. On the surface, it would seem that the situation would not qualify. However, the FASB update addressed this exact scenario. The lessee need not occupy the entire space, but only some space within the property subject to the mortgage. This pronouncement is effective for annual periods beginning with calendar 2015. However, early appli- cation is permitted. If you are interested in reporting operations separate from the property, as we could prior to 10 years ago, the opportunity has returned. A l Er dmann , CPA , MS , i s a pa r t ne r a t Wi thumSmi th+Brown PC, Real Estate Services Group. n

company, since the operat- ing company is the primary source of revenue that will be used to repay the mort- gage. About 10 years ago, thanks to the Enron debacle, the Financial Accounting Stan- dards Board (FASB) issued a statement requiring operat- ing companies in the above scenario to include the sepa- rate real estate entity in its consolidated financial state- ments. This was not quite the intended purpose of the pronouncement, but it was an unfortunate by-product.

This proved problematic for many operating businesses, particularly those that had

property the business oc- cupies, it is quite com- mon to hold the property in a sepa- rate entity for liability p u r p o s e s

“If you are interested in reporting operations separate from the property, as we could prior to 10 years ago, the opportunity has returned.”

other operating debt, as various ratios were put in jeopardy (debt-to-equity and working capital, for exam- ple). Companies either had to obtain waivers or have their covenants rewritten to contend with this presenta-

to nonpublic companies in this situation. In an update issued earlier this year, the FASB will now permit qualifying entities to NOT consolidate the separate real estate entity simply because of the existence of

Al Erdmann

and charge the operating company rent. When ob- taining the mortgage, the lender typically requires a guaranty from the operating

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