Why REITs can no longer treat SALT as an afterthought

For many real estate investment trusts (REITs), state and local tax (SALT) planning has historically played a supporting role in investment strategy. Federal tax considerations, financing structures and asset performance typically dominate early-stage discussions, while SALT issues are often addressed later in the process. But that approach is becoming increasingly risky.

Investors frequently underestimate how significantly state and local taxes can affect returns across the full lifecycle of an investment—from construction and operation to disposition. As states search for new revenue sources and expand their tax regimes, REITs face growing exposure to franchise taxes, gross receipts taxes, transfer taxes, sales and use taxes, and economic nexus rules that can erode portfolio performance.

The result is a widening gap between projected returns and actual after-tax outcomes.

Structuring decisions have long-term consequences

Many REITs wait too long to evaluate a tax structure. Investors often identify an opportunity, begin development planning and only later consult SALT advisors after substantial decisions have already been made. By that point, the flexibility to optimize the structure may already be limited.

Because REITs are generally viewed as tax-efficient or nontaxable entities at the federal level, many investors assume state tax leakage will be minimal. But state and local jurisdictions do not always conform neatly to federal treatment. While some states follow federal provisions and impose relatively limited burdens, others apply entirely different tax regimes that can create unexpected liabilities.

Investors frequently overlook nonincome-based taxes, including gross receipts taxes, franchise taxes and net-worth taxes. These taxes can apply even during the construction phase, before an asset is operational or generating income. That timing matters. A project that appears sound, based on projected operating cash flow, may produce different returns once state-specific taxes are modeled across the full investment horizon.

The lesson for REITs is clear: SALT planning must occur at the beginning of the investment process, not during cleanup or compliance.

The nature of state taxation creates complexity

A major challenge for REITs is that state taxation remains highly fragmented. Rules vary dramatically across jurisdictions, and even states generally considered business-friendly may contain local tax environments that are aggressive toward REIT structures. This patchwork environment makes standardized assumptions dangerous.

A structure that works efficiently in one jurisdiction may produce significant leakage in another. Likewise, an acquisition strategy designed around federal tax efficiency may create exposure to state-level taxes that investors did not anticipate.

Captive REIT rules are another area of concern. Some jurisdictions scrutinize affiliated REIT structures more aggressively, particularly when states suspect that entities are being used primarily to reduce tax obligations. Without careful planning, investors can find themselves facing unexpected assessments or challenges from tax authorities years after a structure has been implemented.

The increasing prevalence of alternative business taxes further complicates the picture. Gross receipts taxes, in particular, have become more common as states diversify revenue streams beyond traditional corporate income taxes. Because these taxes are based on revenue rather than profitability, they can create meaningful liabilities even when projects are underperforming.

Mortgage REITs may face greater scrutiny

Many states maintain sophisticated tax frameworks for banks and regulated financial institutions. However, mortgage REITs do not always fall within those definitions, which has historically allowed some entities to avoid certain tax treatments applied to traditional financial firms. That may be changing.

As states confront ongoing budget deficits, policymakers are looking for additional ways to broaden their tax base. Mortgage REITs could face heightened scrutiny as states apply economic nexus standards more aggressively and align taxation of mortgage REITs with that of banking institutions.

States may increasingly pursue alternative avenues for raising revenue rather than relying solely on traditional corporate tax mechanisms. For mortgage REITs operating across multiple jurisdictions, this could mean growing exposure to filing obligations and tax liabilities in states where they historically had limited tax presence.

Due diligence often comes too late

Another recurring issue involves transaction-related taxes that surface during mergers, acquisitions or dispositions.

Many REITs fail to evaluate transfer taxes, sales and use taxes, and related transactional exposures until due diligence is already underway. At that stage, opportunities to restructure the transaction or mitigate liabilities may be limited.

The problem is compounded by state clawback provisions and step transaction doctrines, which allow tax authorities to recharacterize or unwind transactions if they believe the structure was designed primarily to avoid taxes. This means a tax strategy implemented shortly before a transaction may not hold up under scrutiny if the state determines that earlier planning should have occurred.

REITs should model transactional tax exposure in advance rather than treating it as a closing-stage issue. Waiting until disposition can create operational headaches ranging from unexpected transfer taxes to challenges obtaining letters of good standing.

The issue extends beyond traditional property transfers. Different REIT sectors can trigger different tax obligations depending on the operational nature of the assets involved. Hotel REITs, senior living REITs and other operationally intensive property types may face substantial sales and use tax exposure in addition to income or franchise taxes.

This makes comprehensive jurisdiction-by-jurisdiction planning essential.