PRIVILEGED AND CONFIDENTIAL — ATTORNEY WORK PRODUCT
INTERNAL TAX ANALYSIS MEMORANDUM
September 15, 2025
TO: File — Matter No. 1036-00006
FROM: Garrett Simmons, Lead Associate, Tax Practice Group Leila Nazari, Associate, Tax Practice Group
REVIEWED BY: Sylvia Hartwell, Partner, Tax Practice Group
DATE: September 15, 2025
RE: Fairwater Real Estate Investment Trust (EIN: 52-4718263) — Analysis of REIT-Qualification Issues in Connection with the Proposed Acquisition of the Southgate Portfolio and Formation of Fairwater Southgate TRS, Inc.
CLIENT: Fairwater Real Estate Investment Trust
MATTER NO.: 1036-00006
PRIVILEGED AND CONFIDENTIAL — NOT FOR DISTRIBUTION OUTSIDE CALDERWOOD & HARKNESS LLP
This memorandum has been prepared by Calderwood & Harkness LLP at the direction of counsel for Fairwater Real Estate Investment Trust and is protected from disclosure by the attorney-client privilege, the work-product doctrine, and any other applicable privileges or immunities. This memorandum is intended solely for internal use by Calderwood & Harkness LLP attorneys and staff working on the above-referenced matter. No portion of this memorandum may be distributed, reproduced, or disclosed to any person or entity outside of Calderwood & Harkness LLP without the express prior written consent of the undersigned partner.
Right-click to update Table of Contents
I. Executive Summary
This memorandum analyzes the three principal tax issues raised in the private letter ruling request submitted on behalf of Fairwater Real Estate Investment Trust ("Fairwater" or the "Company") to the Internal Revenue Service National Office, Office of Associate Chief Counsel (Financial Institutions & Products), under Revenue Procedure 2025-1. The ruling request was filed in connection with Fairwater's proposed acquisition of the Southgate Portfolio and the concurrent formation of Fairwater Southgate TRS, Inc. ("Southgate TRS"), a taxable REIT subsidiary. This memorandum is intended to provide a comprehensive internal analysis of the legal and factual bases supporting the ruling request and to assess the risk of an adverse IRS determination on each issue presented.
Fairwater is a Maryland real estate investment trust publicly traded on the New York Stock Exchange under the ticker symbol "FREIT," with an approximate market capitalization of $4.37 billion as of September 30, 2025. Fairwater proposes to acquire the Southgate Portfolio — a collection of 11 mixed-use properties totaling approximately 3.1 million rentable square feet located across Virginia, North Carolina, and Georgia — from Thornfield Development Group, LLC ("Thornfield") for an aggregate purchase price of $812 million. The acquisition is expected to close in the first quarter of 2026, subject to, among other customary conditions, receipt of the private letter ruling addressed herein.
In connection with the acquisition, Fairwater will form Southgate TRS as a Maryland corporation and wholly owned taxable REIT subsidiary. Southgate TRS will hold and operate certain non-qualifying income-producing components of the Southgate Portfolio, including food-and-beverage operations, parking management, and co-working-space operations, which together generate projected annual gross revenue of approximately $38.4 million. The formation of Southgate TRS is designed to isolate these non-qualifying income streams at the TRS level, where they will be subject to corporate-level income tax, while preserving Fairwater's ability to count rents received from Southgate TRS as qualifying "rents from real property" for purposes of the REIT gross income tests.
The three issues analyzed in this memorandum are as follows:
Issue One: Whether rents received by Fairwater from Southgate TRS under proposed intercompany leases for use of real property portions of the Southgate Portfolio will constitute "rents from real property" within the meaning of Section 856(d) of the Internal Revenue Code of 1986, as amended (the "Code" or "IRC"), such that such rents qualify as good income for purposes of both the 75% and 95% gross income tests under IRC §§ 856(c)(2) and (c)(3).
Issue Two: Whether the formation and capitalization of Southgate TRS with a projected asset value of $147 million will cause Fairwater to fail any of the asset tests under IRC § 856(c)(4), including the 20% TRS asset test under IRC § 856(c)(4)(B)(ii), the 75% real estate asset test under IRC § 856(c)(4)(A), and the 25%/5%/10% securities tests under IRC § 856(c)(4)(B).
Issue Three: Whether tenant improvement allowances ("TIAs") funded by Fairwater and provided to third-party retail tenants in the Southgate Portfolio will be treated as "impermissible tenant service income" under IRC § 856(d)(7)(C)(i), which could jeopardize the qualification of rents received by Fairwater from those tenants (or from Southgate TRS) as "rents from real property."
Based on our thorough analysis of the applicable statutory provisions, Treasury Regulations, IRS administrative guidance, analogous private letter rulings, and the specific facts of the proposed transaction, we conclude that Fairwater has strong grounds to receive favorable rulings on all three issues. The risk of an adverse IRS determination is low on each issue. The strongest issue from a risk perspective is Issue Two, where the substantial numerical headroom under the asset tests (the TRS asset ratio of 1.83% versus the 20% statutory ceiling, and the 75% real estate asset ratio of 81.9%) provides a decisive margin of safety. Issue One is well-supported but remains subject to the ongoing requirement that intercompany lease rents satisfy the arm's-length standard; the independent appraisal obtained from Caldwell Valuation Group, LLC provides robust evidentiary support for the initial rent determination. Issue Three, while also presenting low risk, involves a legal characterization question — the distinction between capital improvements and tenant services — that has received somewhat less published IRS guidance than the other two issues, though the weight of authority clearly supports Fairwater's position.
We recommend that the ruling request proceed as drafted, subject to the supplemental recommendations set forth in Section VII.C of this memorandum regarding ongoing compliance documentation, quarterly monitoring, and preparation for a potential IRS pre-ruling conference.
II. Background and Statement of Facts
A. Fairwater Real Estate Investment Trust
Fairwater Real Estate Investment Trust is a Maryland real estate investment trust organized under the laws of the State of Maryland. Fairwater's principal executive offices are located at 2400 Harbor Promenade, Suite 1100, Baltimore, Maryland 21202. Fairwater's registered agent for service of process in Maryland is Capitol Registered Agents, Inc., located at 7 Saint Paul Street, Suite 820, Baltimore, Maryland 21202. Fairwater's Employer Identification Number is 52-4718263.
Fairwater's common shares of beneficial interest are listed on the New York Stock Exchange under the ticker symbol "FREIT." As of September 30, 2025, Fairwater's approximate market capitalization was $4.37 billion, based on approximately 109.2 million common shares outstanding at a closing price of $40.02 per share. Fairwater is widely held, with no single shareholder owning more than 9.9% of its outstanding common shares, consistent with the ownership limitations set forth in Fairwater's Declaration of Trust and required under IRC § 856(a)(6) to prevent closely held REIT status.
Fairwater's primary business is the ownership, operation, acquisition, development, and management of Class-A office, retail, and mixed-use properties located throughout the Mid-Atlantic and Southeast United States. Fairwater's current portfolio, prior to the proposed Southgate Portfolio acquisition, consists of 94 properties totaling approximately 18.6 million rentable square feet. These properties are concentrated in major metropolitan markets including Baltimore, Washington, D.C., Richmond, Charlotte, Raleigh-Durham, and Atlanta, as well as select secondary markets in Virginia, North Carolina, and Georgia.
Fairwater made its election to be taxed as a real estate investment trust under IRC § 856(c)(1) effective for its taxable year ended December 31, 2009, and has continuously qualified as a REIT for every taxable year since that date. Fairwater files its annual federal income tax returns on Form 1120-REIT. As of Fairwater's most recent Annual Report on Form 10-K filed with the Securities and Exchange Commission for the fiscal year ended December 31, 2024, Fairwater reported total assets of approximately $7.82 billion.
The following individuals serve in key executive and advisory capacities for Fairwater:
• Chief Executive Officer: Margaret Eloise Kwan
• Chief Financial Officer: Douglas R. Pellegrini
• Executive Vice President and General Counsel: Anita Bashar Reeves
• Vice President, Tax: Jonathan M. Hirota
Fairwater's independent auditor and tax compliance advisor is Gresham Lowell CPAs LLP, a national accounting firm. The engagement partner responsible for the Fairwater audit is Nolan S. Carruthers, CPA. Gresham Lowell has served as Fairwater's independent auditor since the taxable year ended December 31, 2015, and has also prepared or reviewed Fairwater's REIT qualification compliance calculations for each year during that period.
Fairwater maintains a $1.5 billion unsecured revolving credit facility (the "Credit Facility"), with Ridgeline National Bank, N.A. serving as administrative agent and lead lender. The Credit Facility, which was most recently amended and restated on March 15, 2024, bears interest at a rate of SOFR plus 115 basis points and matures on March 15, 2027, subject to two one-year extension options. The Credit Facility is expected to be a significant source of acquisition financing for the Southgate Portfolio transaction. The relationship manager for the Credit Facility at Ridgeline National Bank is Patricia F. Langdon, Senior Vice President.
Fairwater has retained Mercer Strauss & Co., LLC, an independent investment banking firm, as its financial advisor in connection with the proposed acquisition of the Southgate Portfolio. The lead banker at Mercer Strauss on this engagement is Ian K. Padilla & Ostrander LLP, Managing Director, Investment Banking Division. Mercer Strauss has provided a fairness opinion to Fairwater's Board of Trustees opining that the aggregate purchase price of $812 million for the Southgate Portfolio is fair, from a financial point of view, to Fairwater.
B. The Southgate Portfolio Acquisition
The seller of the Southgate Portfolio is Thornfield Development Group, LLC ("Thornfield"), a Delaware limited liability company with its principal office located at 900 Peachtree Center Avenue NE, Suite 2200, Atlanta, Georgia 30309. Thornfield's Employer Identification Number is 83-2956104. Thornfield is a privately held real estate development and investment firm that has owned and operated the Southgate Portfolio since the initial development of the properties, commencing in 2014.
Thornfield's managing member is Rowan Capital Partners, LP ("Rowan"), a Delaware limited partnership. The key principal of Rowan is Calvin J. Murchison, who serves as Founder and Managing Partner and holds an 87.5% equity interest in Rowan. The remaining 12.5% equity interest in Rowan is held by certain Murchison family trusts and key employees of Thornfield. Neither Mr. Murchison, Rowan, Thornfield, nor any of their respective affiliates has any ownership interest in Fairwater or any pre-existing business or contractual relationship with Fairwater, its officers, or its trustees that would give rise to related-party concerns under IRC § 856(d)(2)(B) or IRC § 267(b).
Thornfield is represented in the transaction by Pemberton Locke & Avery LLP, with Rachel D. Whitford, Partner, serving as lead counsel. Pemberton Locke's offices are located at 191 Peachtree Street NE, Suite 4600, Atlanta, Georgia 30303.
The Purchase and Sale Agreement (the "PSA") between Fairwater and Thornfield was executed on August 1, 2025, following approximately five months of exclusive negotiations and due diligence. The PSA provides for the sale and transfer of the Southgate Portfolio at an aggregate purchase price of $812 million, subject to customary adjustments for prorations, working capital, and closing costs. The purchase price is payable in cash at closing, with financing to be drawn from Fairwater's Credit Facility and, to the extent necessary, from proceeds of a planned public offering of Fairwater's common shares of beneficial interest.
The Southgate Portfolio comprises 11 mixed-use properties located across the Commonwealth of Virginia, the State of North Carolina, and the State of Georgia, with aggregate rentable square footage of approximately 3.1 million square feet. The following table sets forth the individual properties, their locations, property types, approximate rentable square footage, and allocated values under the PSA:
Of the $812 million aggregate purchase price, approximately $664 million (or 81.8%) is attributable to qualifying real estate assets, consisting of the office and retail components of the 11 properties. The remaining $148 million (or 18.2%) is attributable to ancillary operating businesses that generate non-qualifying income for REIT purposes. These ancillary operations fall into three categories:
1. Food-and-Beverage Operations. The Southgate Portfolio includes food-and-beverage operations consisting of three full-service restaurants, a food hall, and multiple quick-service retail food outlets, concentrated primarily at Buckhead Terrace in Atlanta. These operations are currently managed by Thornfield through a subsidiary. Projected annual gross revenue from food-and-beverage operations is approximately $17.2 million.
2. Parking Management. The Portfolio includes three multi-level structured parking garages with an aggregate capacity of approximately 4,800 spaces, concentrated primarily at Triangle Gateway in Raleigh. Parking management includes daily transient parking, monthly permit parking, and event-based parking. Projected annual gross revenue from parking management operations is approximately $12.8 million.
3. Co-Working-Space Operations. Ashford Place in Charlotte includes a 54,000-square-foot co-working facility branded as "WorkHub," offering furnished office suites, hot-desk memberships, dedicated desks, conference room rentals, and ancillary services (printing, reception, mail handling). Projected annual gross revenue from co-working-space operations is approximately $8.4 million.
These three categories of ancillary operations — food-and-beverage, parking management, and co-working — collectively generate projected annual gross revenue of $38.4 million. Income from these operations would not constitute qualifying income under either the 75% or 95% REIT gross income tests if received directly by Fairwater, as such income does not fall within the categories of "rents from real property" or other qualifying income items enumerated in IRC §§ 856(c)(2) and (c)(3). Accordingly, the proposed transaction structure contemplates the isolation of these operations within Southgate TRS, as described in Section II.C below.
The title insurer and escrow agent for the acquisition is Whitecliff Title & Escrow Company, which will issue an ALTA owner's title insurance policy in favor of Fairwater for each of the 11 properties in the Southgate Portfolio. The expected closing date for the acquisition is in the first quarter of 2026, subject to satisfaction of certain conditions precedent, including receipt by Fairwater of the private letter ruling that is the subject of this memorandum.
C. Proposed Taxable REIT Subsidiary — Fairwater Southgate TRS, Inc.
In connection with the acquisition, Fairwater will form Fairwater Southgate TRS, Inc. ("Southgate TRS") as a Maryland corporation. Southgate TRS will be a wholly owned subsidiary of Fairwater. Fairwater and Southgate TRS will make a joint election under IRC § 856(l)(1) for Southgate TRS to be treated as a taxable REIT subsidiary of Fairwater effective as of the closing date of the Southgate Portfolio acquisition. The joint election will be made on Form 8875 and filed with the Internal Revenue Service in accordance with Treasury Regulation § 1.856-19.
Southgate TRS will hold and operate the three categories of non-qualifying income-producing components of the Southgate Portfolio described in Section II.B above: (i) food-and-beverage operations (concentrated primarily at Buckhead Terrace in Atlanta), (ii) parking management (concentrated primarily at Triangle Gateway in Raleigh), and (iii) co-working-space operations (concentrated primarily at Ashford Place in Charlotte).
The projected annual gross revenue from TRS activities is $38.4 million, as described above. The projected asset value of Southgate TRS following the post-acquisition restructuring is $147 million, which is slightly below the $148 million initially allocated to non-qualifying components in the PSA. The difference of approximately $1 million reflects working-capital adjustments that will be retained by Thornfield at closing and will not transfer to Southgate TRS.
The intercompany lease structure between Fairwater and Southgate TRS is a critical element of the proposed transaction and is central to Issue One of this memorandum. Under the proposed structure, Fairwater (as landlord) will lease the TRS-operated spaces — the food-and-beverage facilities, parking structures, and co-working spaces — to Southgate TRS (as tenant) under arm's-length intercompany leases (each, an "Intercompany Lease," and collectively, the "Intercompany Leases"). The material terms of the Intercompany Leases are as follows:
• Annual Base Rent: $18.7 million in the aggregate, allocated among the TRS-operated spaces based on square footage and the relative market rents determined by the independent appraisal described below.
• Lease Term: 10 years commencing on the closing date, with two successive 5-year renewal options exercisable by Southgate TRS.
• Annual Escalator: 2.5% fixed annual increase in base rent, compounded annually, commencing on the first anniversary of the lease commencement date.
• Net Lease Structure: The Intercompany Leases are structured as triple-net (NNN) leases, under which Southgate TRS, as tenant, is responsible for all operating expenses, insurance premiums, and real property taxes attributable to the TRS-operated spaces.
• Use Restrictions: The Intercompany Leases restrict the use of the leased premises to the specific TRS-qualifying operations described above (food-and-beverage, parking management, and co-working) and prohibit subleasing without Fairwater's prior written consent.
• Assignment: The Intercompany Leases are not assignable by Southgate TRS without Fairwater's prior written consent.
The arm's-length nature of the intercompany rents is a statutory requirement under IRC § 856(d)(7)(B) and is a critical element of the analysis under Issue One. To satisfy this requirement, Fairwater commissioned an independent appraisal from Caldwell Valuation Group, LLC ("Caldwell"), a certified general appraisal firm with its principal office at 4200 Dominion Boulevard, Suite 310, Glen Allen, Virginia 23060. The Caldwell appraisal, dated August 30, 2025, concludes that the proposed annual base rent of $18.7 million for the TRS-operated spaces is at or below fair market rent for comparable spaces in the relevant markets across Virginia, North Carolina, and Georgia. Caldwell employed a comparable-market-rent methodology, analyzing lease transactions for food-and-beverage, parking, and co-working spaces in comparable mixed-use properties in the Richmond, Norfolk, Raleigh-Durham, Charlotte, Savannah, and Atlanta metropolitan areas. The full Caldwell appraisal report is referenced as Exhibit A to this memorandum.
D. Projected Post-Acquisition REIT Qualification Metrics
The following projected REIT qualification metrics reflect Fairwater's anticipated compliance with the applicable asset tests and gross income tests under the Code following the consummation of the Southgate Portfolio acquisition and the formation of Southgate TRS. These projections are based on Fairwater's financial data as of June 30, 2025, adjusted for the proposed acquisition, the planned concurrent asset dispositions described below, and the formation of Southgate TRS. Detailed calculations supporting these projections are set forth in Exhibit C.
Total Asset Calculations:
Fairwater's pre-acquisition total assets, as reported on its most recent Form 10-K for the fiscal year ended December 31, 2024, were approximately $7,820,000,000. Concurrent with the Southgate Portfolio acquisition, Fairwater plans to dispose of approximately $602 million in existing portfolio assets, consisting of six non-core properties located in secondary markets that no longer align with Fairwater's strategic portfolio objectives. After giving effect to both the acquisition (adding $812 million in Southgate Portfolio assets) and the planned dispositions (removing $602 million), Fairwater's projected post-acquisition total assets are approximately $8,030,000,000 ($7,820M + $812M − $602M).
Asset Test Projections:
• 75% Asset Test (IRC § 856(c)(4)(A)): Projected qualifying real estate assets of $6,580,000,000 divided by projected total assets of $8,030,000,000 equals 81.9%. This exceeds the required 75% threshold by 6.9 percentage points.
• 20% TRS Asset Test (IRC § 856(c)(4)(B)(ii)): Projected TRS asset value of $147,000,000 divided by projected total assets of $8,030,000,000 equals 1.83%. This is well below the 20% statutory ceiling, providing headroom of approximately $1,459,000,000 in additional TRS capacity.
Gross Income Test Projections:
• 75% Gross Income Test (IRC § 856(c)(2)): Projected qualifying income of $493,000,000 divided by projected total gross income of $614,000,000 equals 80.3%. This exceeds the required 75% threshold by 5.3 percentage points.
• 95% Gross Income Test (IRC § 856(c)(3)): Projected qualifying and passive income of $596,000,000 divided by projected total gross income of $614,000,000 equals 97.1%. This exceeds the required 95% threshold by 2.1 percentage points.
Distribution Requirement:
• IRC § 857(a)(1): For the taxable year ended December 31, 2024, Fairwater distributed 92.7% of its REIT taxable income (as determined under IRC § 857(b)(2)), exceeding the required 90% distribution threshold by 2.7 percentage points. Fairwater anticipates maintaining a comparable distribution payout ratio following the acquisition.
These projections demonstrate that Fairwater is expected to satisfy all applicable REIT qualification requirements with comfortable margins following the consummation of the proposed transaction, subject to the favorable resolution of the three issues addressed in this memorandum.
III. Issue One: Whether Rents Received by Fairwater from Southgate TRS Under Intercompany Leases Constitute "Rents from Real Property" Under IRC § 856(d)
A. Statement of the Issue
The first issue presented is whether rents paid by Fairwater Southgate TRS, Inc. to Fairwater Real Estate Investment Trust under the proposed Intercompany Leases for the use of real property portions of the Southgate Portfolio will constitute "rents from real property" within the meaning of IRC § 856(d), such that such rents qualify as good income for purposes of both the 75% gross income test under IRC § 856(c)(2) and the 95% gross income test under IRC § 856(c)(3).
This issue is of central importance to the proposed transaction structure because Southgate TRS, as a wholly owned subsidiary of Fairwater, is a "related party" for purposes of IRC § 856(d)(2)(B). Under the general rule of IRC § 856(d)(2)(B), rents received from a person related to the REIT (within the meaning of IRC § 267(b) or § 707(b)(1)) are excluded from the definition of "rents from real property." However, IRC § 856(d)(7)(A) provides a special exception for rents received from a taxable REIT subsidiary, permitting such rents to qualify as "rents from real property" notwithstanding the related-party relationship, provided certain conditions are met. The most significant of these conditions is the arm's-length requirement of IRC § 856(d)(7)(B), which mandates that the rents paid by the TRS must be substantially comparable to rents paid by other tenants for comparable space on the same or similar properties, or, if no comparable tenants exist, must be consistent with normal business practice in the area.
B. Applicable Statutory Framework
The relevant statutory provisions governing the qualification of intercompany lease rents as "rents from real property" are set forth in IRC § 856(d) and its subparagraphs. We summarize the key provisions below.
IRC § 856(d)(1) — Definition of "Rents from Real Property." Section 856(d)(1) defines the term "rents from real property" to include, subject to the exclusions in Section 856(d)(2), (i) rents from interests in real property, (ii) charges for services customarily furnished or rendered in connection with the rental of real property, whether or not such charges are separately stated, and (iii) rent attributable to personal property which is leased under, or in connection with, a lease of real property, to the extent that the rent attributable to such personal property does not exceed 15% of the total rent for the taxable year attributable to both the real and personal property leased under, or in connection with, such lease. This definition is broadly inclusive and encompasses the base rents proposed to be paid by Southgate TRS under the Intercompany Leases.
IRC § 856(d)(2) — Exclusions from "Rents from Real Property." Section 856(d)(2) sets forth three categories of amounts that are excluded from the definition of "rents from real property" notwithstanding Section 856(d)(1):
(A) Rents Based on Net Income or Profits. Any amount received or accrued, directly or indirectly, with respect to any real (or personal) property, if the determination of such amount depends in whole or in part on the income or profits derived by any person from such property (other than an amount received or accrued on the basis of a fixed percentage or percentages of receipts or sales). This exclusion is designed to prevent a REIT from participating in the operating risks and rewards of a tenant's business, which would be inconsistent with the REIT's role as a passive real estate investor.
(B) Rents from Related Persons. Any amount received or accrued directly or indirectly from any person if the REIT owns, directly or indirectly, 10% or more of the voting securities (or shares of beneficial interests or interests in assets or net profits) of such person, or if any person who owns 10% or more of the voting securities (or shares of beneficial interests or interests in assets or net profits) of the REIT also owns 10% or more of such person. This is the related-party exclusion that would, absent the TRS exception in Section 856(d)(7), disqualify rents from Southgate TRS as "rents from real property."
(C) Impermissible Tenant Service Income. Any impermissible tenant service income (as defined in Section 856(d)(7)(C)(i)), which is the subject of Issue Three in this memorandum.
IRC § 856(d)(7)(A) — TRS Exception to the Related-Party Rule. Section 856(d)(7)(A) provides the critical exception on which the proposed transaction structure relies. Under this provision, amounts received by a REIT from a taxable REIT subsidiary shall not be excluded from the definition of "rents from real property" by reason of paragraph (2)(B) (the related-party exclusion), provided that (i) the requirements of subparagraph (B) (the arm's-length standard) are met with respect to such amounts, and (ii) the amounts are not treated as impermissible tenant service income under subparagraph (C). This exception was enacted as part of the REIT Improvement Act of 1999 (Public Law 106-170, § 551) and was specifically designed to facilitate the use of TRS entities by REITs to conduct non-qualifying activities while preserving the REIT status of the parent entity.
IRC § 856(d)(7)(B) — The Arm's-Length Requirement. Section 856(d)(7)(B) provides that the requirements of this subparagraph are met with respect to amounts paid to a REIT by a TRS only if:
(i) substantially comparable amounts are charged by the REIT to other tenants of the REIT's property for comparable space, and
(ii) if clause (i) does not apply (i.e., there are no comparable tenants), the amounts are consistent with normal business practice (in terms of charge and type of concession) in the area in which the property is located for comparable space.
This two-pronged test establishes a factual standard: the REIT must demonstrate that the rents charged to the TRS are not inflated above market levels, which could serve as a mechanism for shifting income from the TRS (subject to corporate-level tax) to the REIT (which distributes income to shareholders without entity-level tax). The legislative history of this provision confirms that Congress intended the arm's-length standard to be applied in a manner consistent with general arm's-length pricing principles under Section 482 of the Code.
IRC § 856(d)(7)(C) — Impermissible Tenant Service Income. Section 856(d)(7)(C)(i) provides that, for purposes of subparagraph (A), amounts paid to a REIT by a TRS shall not be treated as satisfying the arm's-length requirement to the extent that the REIT directly or indirectly bears all or part of the cost of the services furnished to the TRS's tenants (or the TRS's subtenants). This provision is addressed in detail under Issue Three below.
C. Treasury Regulations and IRS Guidance
The applicable Treasury Regulations and IRS administrative guidance further elaborate on the statutory framework governing the qualification of rents as "rents from real property" and the application of the arm's-length standard.
Treas. Reg. § 1.856-4 — Rents from Real Property. Treasury Regulation § 1.856-4 provides comprehensive guidance on the definition of "rents from real property" for REIT purposes. Paragraph (a) of this regulation reiterates the statutory definition and provides that rents from real property include rents from interests in real property, charges for services customarily furnished in connection with the rental of real property, and certain rents attributable to personal property leased in connection with real property.
Treas. Reg. § 1.856-4(b)(1) — Amounts Based on Income or Profits. This regulation provides that amounts will be treated as based on the income or profits of the tenant if the amount is computed by reference to the net income of the tenant, or if the tenant has a participation in the REIT's income, or if the computation of rent takes into account any deductions or credits of the tenant. However, the regulation clarifies that rents computed as a fixed percentage of the tenant's gross receipts or gross sales do not fall within this exclusion, provided the percentage is fixed at the time the lease is entered into and is not subject to renegotiation or adjustment based on income or profitability.
The proposed Intercompany Leases between Fairwater and Southgate TRS provide for a fixed annual base rent of $18.7 million with a 2.5% fixed annual escalator. No portion of the rent is computed by reference to the net income, profits, or any other measure of Southgate TRS's financial performance. Accordingly, the exclusion under IRC § 856(d)(2)(A) and Treas. Reg. § 1.856-4(b)(1) does not apply.
Treas. Reg. § 1.856-4(b)(3) — Personal Property Rent. This regulation addresses the treatment of rent attributable to personal property leased in connection with real property. Under the regulation, if the rent attributable to personal property exceeds 15% of the total rent for the taxable year under the lease, then the entire amount of the rent attributable to personal property is excluded from "rents from real property." In the case of the Intercompany Leases, certain personal property items (e.g., kitchen equipment in the food-and-beverage spaces, parking control equipment in the parking garages, and furnishings in the co-working spaces) will be leased to Southgate TRS in connection with the leases of the real property. However, based on the allocations set forth in the Caldwell appraisal, the rent attributable to personal property in each Intercompany Lease does not exceed 15% of the total rent, and thus this exclusion does not apply. Specifically, the personal property component is estimated at approximately $1.4 million, or 7.5% of the total $18.7 million annual base rent.
IRS Notice 2003-86 — TRS Leases and the Arm's-Length Standard. IRS Notice 2003-86, 2003-2 C.B. 990, provides guidance on the application of the arm's-length rent standard under IRC § 856(d)(7)(B). The Notice confirms that the arm's-length standard is to be applied on a facts-and-circumstances basis, taking into account all relevant factors, including the terms and conditions of the lease, the market rents for comparable space in the geographic area, and the economic substance of the leasing arrangement. The Notice also confirms that an independent appraisal of the fair market rental value of the leased space is a significant factor in establishing compliance with the arm's-length standard, though it is not, by itself, dispositive.
The Notice further provides that the arm's-length standard is not intended to require that the REIT charge the TRS exactly the same rent as it charges unrelated third-party tenants. Rather, the standard requires that the rent be "substantially comparable" to the rent charged to other tenants for "comparable space." This formulation allows for reasonable variations in rent levels to account for differences in the size, location, condition, and use of the leased space, as well as differences in the creditworthiness of the tenant, the term of the lease, and other commercially relevant factors.
In addition to Notice 2003-86, the IRS has issued guidance in various revenue procedures regarding the procedural requirements for obtaining a private letter ruling on the arm's-length nature of TRS lease rents. Revenue Procedure 2025-1, under which Fairwater's ruling request has been submitted, sets forth the current procedures for requesting a ruling from the IRS National Office on matters within the jurisdiction of the Office of Associate Chief Counsel (Financial Institutions & Products), which includes REIT-qualification issues.
D. Analysis of Analogous Private Letter Rulings
The IRS National Office has addressed the qualification of intercompany rents from TRS entities as "rents from real property" in numerous private letter rulings issued over the past two decades. While private letter rulings may not be cited as precedent under IRC § 6110(k)(3), they are instructive as indications of the IRS's analytical approach and the types of factual patterns that the IRS has found to support favorable rulings on this issue.
In a substantial number of PLRs, the IRS has concluded that intercompany rents paid by a TRS to its parent REIT qualify as "rents from real property" where the following conditions are satisfied: (i) the rents are established at arm's-length levels supported by independent appraisals or comparable market data; (ii) the leases are structured on a triple-net (NNN) basis, consistent with the terms under which the REIT leases comparable space to unrelated third-party tenants; (iii) the rent is not computed by reference to the net income or profits of the TRS; and (iv) the REIT does not provide impermissible tenant services in connection with the TRS-occupied space.
Several PLRs are particularly analogous to the Fairwater transaction. In rulings involving mixed-use REIT portfolios with retail, office, food-and-beverage, and parking components, the IRS has consistently concluded that the transfer of non-qualifying operations (such as restaurant operations, parking management, and hotel operations) to a TRS, combined with arm's-length intercompany leases, satisfies the requirements of IRC § 856(d)(7) and permits the intercompany rents to qualify as "rents from real property." In these rulings, the IRS has placed particular emphasis on the availability of independent appraisals and on the comparability of the intercompany lease terms with the terms of leases between the REIT and unrelated third-party tenants.
We have identified a small number of technical advice memoranda and unpublished rulings in which the IRS found that the arm's-length standard was not satisfied. In those instances, the adverse determination was based on specific factual deficiencies, such as the absence of any independent appraisal, the use of lease terms materially different from those in third-party leases (e.g., below-market rents or above-market tenant concessions), or evidence of improper income shifting between the REIT and the TRS. These unfavorable rulings are distinguishable from the Fairwater transaction on their facts, as Fairwater has obtained an independent appraisal from Caldwell Valuation Group, the proposed Intercompany Leases are on triple-net terms consistent with Fairwater's third-party leases, and the rent is computed as a fixed dollar amount with a fixed escalator rather than by reference to the TRS's income or profits.
A summary of the analogous PLRs referenced in this analysis is set forth in Exhibit F.
E. Application to Fairwater's Proposed Transaction
Applying the statutory framework, regulations, IRS guidance, and analogous PLRs to the facts of Fairwater's proposed transaction, we conclude that the rents to be received by Fairwater from Southgate TRS under the Intercompany Leases should qualify as "rents from real property" under IRC § 856(d). The analysis supporting this conclusion is as follows:
The TRS Exception Under IRC § 856(d)(7)(A) Applies. Southgate TRS will be a taxable REIT subsidiary of Fairwater, as elected under IRC § 856(l)(1). Accordingly, the general related-party exclusion of IRC § 856(d)(2)(B) does not apply to rents received from Southgate TRS, provided the requirements of IRC § 856(d)(7)(B) (the arm's-length standard) and IRC § 856(d)(7)(C) (the impermissible tenant service income rules) are satisfied.
The Arm's-Length Standard Under IRC § 856(d)(7)(B) Is Satisfied. The proposed annual base rent of $18.7 million under the Intercompany Leases has been independently determined to be at or below fair market rent by Caldwell Valuation Group, LLC, in an appraisal dated August 30, 2025. The Caldwell appraisal employed a comparable-market-rent methodology, analyzing lease transactions for food-and-beverage, parking, and co-working spaces in comparable mixed-use properties in the relevant geographic markets. The appraisal identified comparable lease transactions in the Richmond, Norfolk, Charlottesville, Raleigh-Durham, Charlotte, Savannah, Atlanta, and Decatur metropolitan areas, and made appropriate adjustments for differences in location, size, condition, and lease terms to arrive at its fair market rent conclusions.
In addition to the Caldwell appraisal, the arm's-length nature of the intercompany rents is corroborated by the comparability of the Intercompany Lease terms with the terms under which Fairwater leases comparable space to unrelated third-party tenants across its existing 94-property portfolio. Specifically:
• The Intercompany Leases are structured as triple-net (NNN) leases, which is the standard lease structure used by Fairwater for substantially all of its retail and office leases with unrelated third-party tenants.
• The 10-year primary term with two 5-year renewal options is within the range of lease terms that Fairwater customarily offers to creditworthy third-party tenants for comparable space.
• The 2.5% fixed annual escalator is consistent with market norms for commercial leases in the Mid-Atlantic and Southeast regions and is within the range of escalators in Fairwater's existing third-party lease portfolio (which range from 2.0% to 3.0% for comparable space types).
• The base rent per square foot implied by the $18.7 million annual rent, allocated across the TRS-operated spaces, falls within the range of per-square-foot rents that Fairwater receives from unrelated third-party tenants for comparable space in the same or similar markets.
No Rents Based on Net Income or Profits. The Intercompany Leases provide for a fixed annual base rent of $18.7 million with a 2.5% fixed annual escalator. No component of the rent is determined by reference to the net income, profits, receipts, or sales of Southgate TRS. Accordingly, the exclusion under IRC § 856(d)(2)(A) does not apply.
The Rent Reflects Normal Business Practice. To the extent that direct comparisons to unrelated third-party tenants of Fairwater's properties are not available for certain specialized TRS-operated spaces (e.g., food-and-beverage facilities or co-working spaces where Fairwater may not have identical third-party tenant arrangements), the alternative prong of the arm's-length test under IRC § 856(d)(7)(B)(ii) is also satisfied: the rents are consistent with normal business practice, in terms of charge and type of concession, in the areas in which the Southgate Portfolio properties are located. The Caldwell appraisal specifically addresses this alternative standard and provides comparable data from third-party market sources to support its conclusions.
F. Conclusion on Issue One
Based on the foregoing analysis, we conclude that rents received by Fairwater from Southgate TRS under the proposed Intercompany Leases should constitute "rents from real property" within the meaning of IRC § 856(d), provided that the rents continue to satisfy the arm's-length standard of IRC § 856(d)(7)(B) throughout the term of the Intercompany Leases. The factual predicate for this conclusion is well established: the rents are supported by an independent appraisal, the lease terms are consistent with Fairwater's third-party leasing practices and with market norms in the relevant geographic areas, and no portion of the rent is based on the income or profits of the TRS.
Risk Assessment: Low risk. The primary risk factor is the possibility that the arm's-length nature of the intercompany rents could be challenged at some future date if market conditions change materially and the fixed rent under the Intercompany Leases diverges from then-prevailing market rents. However, this risk is mitigated by the 2.5% annual escalator, which approximates the long-term average annual rental growth rate in the relevant markets, and by Fairwater's commitment to obtaining periodic updates to the Caldwell appraisal at intervals not to exceed three years.
IV. Issue Two: Whether the Formation and Capitalization of Southgate TRS Will Cause Fairwater to Fail the Asset Tests Under IRC § 856(c)(4)
A. Statement of the Issue
The second issue presented is whether the formation and capitalization of Fairwater Southgate TRS, Inc. with a projected asset value of $147 million will cause Fairwater to fail any of the following asset tests under IRC § 856(c)(4):
(i) the 20% TRS asset test under IRC § 856(c)(4)(B)(ii), which limits the aggregate value of TRS securities held by a REIT to not more than 20% of the value of the REIT's total assets;
(ii) the 75% real estate asset test under IRC § 856(c)(4)(A), which requires that at least 75% of the value of a REIT's total assets consist of real estate assets, cash and cash items (including receivables), and government securities; and
(iii) the 25%/5%/10% securities tests under IRC § 856(c)(4)(B)(i) and (iii), which impose various limitations on the REIT's holdings of non-qualifying securities.
B. Applicable Statutory Framework
The asset tests under IRC § 856(c)(4) are one of the fundamental requirements for REIT qualification, designed to ensure that REITs are primarily invested in real estate assets rather than operating businesses, diversified investment portfolios, or other non-real-estate activities. The asset tests are measured at the close of each calendar quarter, and a REIT must satisfy all of the applicable tests at each such testing date to maintain its REIT status. The relevant statutory provisions are summarized below.
IRC § 856(c)(4)(A) — The 75% Real Estate Asset Test. This provision requires that, at the close of each quarter of the REIT's taxable year, at least 75% of the value of the REIT's total assets must consist of (i) real estate assets (as defined in IRC § 856(c)(5)(B), which includes interests in real property, interests in mortgages on real property, shares in other qualifying REITs, and certain other specified assets), (ii) cash and cash items (including receivables), and (iii) government securities. The 75% test is the broadest of the asset tests and establishes the fundamental requirement that a REIT be primarily a real estate entity.
IRC § 856(c)(4)(B)(i) — The 25% Securities Test. This provision requires that not more than 25% of the value of a REIT's total assets may be represented by securities (other than those described in paragraph (4)(A), i.e., real estate assets, cash, and government securities). The 25% test functions as a ceiling on the REIT's holdings of non-qualifying securities, including TRS securities, corporate bonds, equity interests in non-REIT entities, and other financial instruments.
IRC § 856(c)(4)(B)(ii) — The 20% TRS Asset Test. This provision, which was amended by the Tax Cuts and Jobs Act of 2017 (Public Law 115-97) to increase the limit from 25% to 20% (effective for taxable years beginning after December 31, 2017), requires that not more than 20% of the value of a REIT's total assets may be represented by securities of one or more taxable REIT subsidiaries. This test is specifically designed to limit the extent to which a REIT may engage in non-qualifying activities through TRS entities, ensuring that the TRS structure is used for ancillary operations rather than as the primary business of the REIT.
IRC § 856(c)(4)(B)(iii) — The 5% and 10% Securities Tests. Subclause (I) of this provision requires that, except with respect to securities of a TRS and certain other excepted securities, no more than 5% of the value of a REIT's total assets may be represented by securities of any one issuer. Subclause (II) requires that, with the same exceptions, the REIT may not hold securities possessing more than 10% of the total voting power of the outstanding securities of any one issuer, and may not hold securities having a value of more than 10% of the total value of the outstanding securities of any one issuer. These diversification requirements are designed to prevent a REIT from concentrating its non-real-estate investments in a single issuer.
Importantly, TRS securities are expressly excepted from the 5% and 10% tests under IRC § 856(c)(4)(B)(iii), reflecting the statutory recognition that a REIT may hold 100% of the equity of its TRS entity without running afoul of these diversification requirements. The 20% TRS asset test under IRC § 856(c)(4)(B)(ii) provides the sole asset-based limitation on TRS holdings.
IRC § 856(l) — Definition and Election of a Taxable REIT Subsidiary. Section 856(l)(1) provides that a corporation (other than a REIT) is a taxable REIT subsidiary of a REIT if (A) the REIT and the corporation jointly elect to have the corporation treated as a TRS, or (B) the corporation is a "qualified REIT subsidiary" of a TRS (i.e., a wholly owned subsidiary of a TRS). Section 856(l)(2) sets forth a limitation providing that a TRS shall not directly or indirectly operate or manage a lodging facility or a health care facility. This limitation is not applicable to Southgate TRS, as the proposed TRS operations (food-and-beverage, parking management, and co-working) do not involve the operation or management of a lodging facility or health care facility.
C. Treasury Regulations and IRS Guidance
Treas. Reg. § 1.856-3 — Asset Tests. Treasury Regulation § 1.856-3 provides detailed guidance on the application of the REIT asset tests. The regulation confirms that the asset tests are applied at the close of each calendar quarter based on the fair market value (or, for certain assets, the tax basis) of the REIT's assets as of that date. For publicly traded REITs such as Fairwater, the general practice is to use the fair market value of assets as reported in the REIT's financial statements, adjusted as necessary for tax purposes.
Quarterly Testing Methodology. The asset tests must be satisfied at the close of each calendar quarter of the REIT's taxable year. A REIT that satisfies the asset tests at the close of a quarter is not required to liquidate assets or otherwise restructure its holdings merely because a subsequent change in asset values (e.g., a decline in real estate values or an increase in TRS asset values due to earnings accumulation) causes a technical failure at a subsequent quarter-end. However, if a REIT acquires assets during a quarter that would cause a failure of the asset tests at the close of that quarter, the REIT must either dispose of the offending assets or take other corrective action before the quarter-end to avoid a failure.
This quarterly testing framework is significant for Fairwater's proposed transaction because the timing of the acquisition and the concurrent asset dispositions must be coordinated to ensure that all asset tests are satisfied at the close of the calendar quarter in which the transaction closes. If the acquisition closes in the first quarter of 2026 (e.g., January 2026), the asset tests will be measured as of March 31, 2026, and Fairwater must ensure that the $602 million in asset dispositions have been completed (or are at least reflected in Fairwater's total assets) by that date.
Cure Provisions. IRC § 856(c)(7) provides a cure provision for de minimis failures of the asset tests. Under this provision, a REIT that fails to satisfy the asset tests at the close of a quarter is treated as satisfying such tests if (i) the failure is due to the ownership of assets the total value of which does not exceed the lesser of 1% of the REIT's total assets or $10 million, and (ii) the REIT disposes of the assets (or otherwise satisfies the tests) within 6 months after the last day of the quarter in which the failure was identified. In addition, IRC § 856(c)(6) provides a separate cure provision for failures attributable to reasonable cause and not willful neglect, subject to the REIT's compliance with certain disclosure and correction requirements and the payment of a penalty tax.
While we do not anticipate that Fairwater will need to rely on these cure provisions, they provide an additional safety net in the unlikely event of an unforeseen asset test failure during the transition period.
IRS Guidance on TRS Asset Valuation. The IRS has addressed valuation methodologies for TRS assets in various rulings and administrative guidance. In general, TRS assets are valued at fair market value for purposes of the asset tests. For a newly formed TRS such as Southgate TRS, the initial asset value will be determined based on the fair market value of the assets transferred to the TRS at the time of formation, which in this case corresponds to the $147 million allocated value described in Section II.C above. Going forward, the TRS asset value will reflect changes in the fair market value of the TRS's assets, including any appreciation or depreciation in the value of the TRS's operating assets, accumulated earnings, and other factors.
D. Quantitative Analysis
1. The 20% TRS Asset Test — IRC § 856(c)(4)(B)(ii). The 20% TRS asset test limits the aggregate value of securities of one or more TRS entities to not more than 20% of the value of the REIT's total assets. The relevant calculations for Fairwater following the proposed transaction are as follows:
• Projected TRS Asset Value: $147,000,000 (the projected fair market value of Southgate TRS's assets following the post-acquisition restructuring, as described in Section II.C).
• Projected Post-Acquisition Total Assets: $8,030,000,000 (as computed in Section II.D).
• TRS Asset Ratio: $147,000,000 ÷ $8,030,000,000 = 1.83%.
• 20% Statutory Ceiling: $8,030,000,000 × 20% = $1,606,000,000.
• Headroom Under the 20% Test: $1,606,000,000 − $147,000,000 = $1,459,000,000 of additional TRS capacity.
Fairwater currently has no other taxable REIT subsidiaries. Southgate TRS will be Fairwater's first and only TRS entity. Accordingly, the entire $147 million TRS asset value is attributable to Southgate TRS, and there is no risk of aggregation with other TRS entities that could increase the TRS asset ratio.
The TRS asset ratio of 1.83% is dramatically below the 20% statutory ceiling, providing Fairwater with approximately $1.459 billion of additional capacity to form or capitalize additional TRS entities in the future, if desired, without breaching the 20% limit. This substantial headroom provides a significant margin of safety against any adverse changes in asset values, earnings accumulation within Southgate TRS, or other developments that could cause the TRS asset ratio to increase over time.
Conclusion: Fairwater comfortably satisfies the 20% TRS asset test following the formation and capitalization of Southgate TRS.
2. The 75% Asset Test — IRC § 856(c)(4)(A). The 75% real estate asset test requires that at least 75% of the value of Fairwater's total assets consist of qualifying real estate assets, cash and cash items, and government securities. The relevant calculations are as follows:
• Projected Qualifying Real Estate Assets: $6,580,000,000. This figure includes (a) Fairwater's existing portfolio of qualifying real estate assets (net of the $602 million in assets to be disposed of), (b) the $664 million of qualifying real estate assets in the Southgate Portfolio (office and retail components), and (c) cash, cash items, receivables, and government securities held by Fairwater.
• Projected Post-Acquisition Total Assets: $8,030,000,000.
• 75% Asset Ratio: $6,580,000,000 ÷ $8,030,000,000 = 81.9%.
• Excess Over 75% Threshold: 81.9% − 75.0% = 6.9 percentage points.
The $664 million of qualifying real estate assets in the Southgate Portfolio (office and retail components) will be held directly by Fairwater, not through the TRS, and will count as real estate assets for purposes of the 75% test. The $147 million in Southgate TRS assets does not qualify as real estate assets for purposes of the 75% test (because TRS securities are not included in the definition of "real estate assets" under IRC § 856(c)(5)(B)), but this amount is included in Fairwater's total assets (the denominator of the 75% test ratio). Notwithstanding the inclusion of $147 million in non-qualifying TRS assets in the denominator, the 75% asset ratio remains at 81.9%, well above the 75% threshold.
The 6.9 percentage-point excess over the 75% threshold translates to approximately $554 million of additional non-qualifying assets that Fairwater could hold without breaching the 75% test (assuming total assets remain at $8.03 billion). This headroom provides adequate protection against reasonable fluctuations in asset values and composition.
Conclusion: Fairwater satisfies the 75% real estate asset test with substantial margin following the proposed transaction.
3. The 25%/5%/10% Securities Tests — IRC § 856(c)(4)(B). The 25% Test. The 25% securities test limits non-qualifying securities (other than real estate assets, cash, and government securities) to not more than 25% of the value of the REIT's total assets. The relevant calculations are as follows:
• Projected Non-Qualifying Securities: Approximately $1,450,000,000. This includes (a) the $147 million in Southgate TRS securities, and (b) approximately $1,303 million in other non-qualifying assets, including interests in non-REIT partnerships, corporate equity investments, and other securities held by Fairwater.
• Projected Post-Acquisition Total Assets: $8,030,000,000.
• 25% Securities Ratio: $1,450,000,000 ÷ $8,030,000,000 = 18.1%.
• Excess Capacity Under the 25% Test: 25.0% − 18.1% = 6.9 percentage points, representing approximately $554 million of additional non-qualifying securities capacity.
The 25% test is satisfied with a comfortable margin.
The 5% Test Under IRC § 856(c)(4)(B)(iii)(I). The 5% test provides that, except with respect to securities of a TRS, government securities, and certain other excepted securities, no more than 5% of the value of a REIT's total assets may be represented by securities of any one issuer. This test is expressly inapplicable to TRS securities. Accordingly, Fairwater's 100% ownership of Southgate TRS does not implicate the 5% test. As Southgate TRS is the sole TRS entity formed by Fairwater, the statutory exception applies without qualification.
With respect to non-TRS securities held by Fairwater, a separate analysis (not within the scope of the ruling request but reviewed for completeness) confirms that Fairwater does not hold securities of any single non-TRS issuer in excess of 5% of its total assets. Fairwater's largest non-TRS securities position consists of a 7.5% limited partnership interest in Capitol Gateway Associates, LP, valued at approximately $62 million, which represents 0.77% of Fairwater's projected total assets — well below the 5% threshold.
The 10% Securities-Value Test Under IRC § 856(c)(4)(B)(iii)(II). The 10% test provides that, except with respect to TRS securities, government securities, and certain other excepted securities, the REIT may not hold securities possessing more than 10% of the total voting power of the outstanding securities of any one issuer, and may not hold securities having a value of more than 10% of the total value of the outstanding securities of any one issuer. As with the 5% test, TRS securities are expressly excepted from this limitation. Fairwater's 100% ownership of Southgate TRS equity therefore does not implicate the 10% test.
The rationale for the TRS exception from the 5% and 10% tests is straightforward: Congress recognized that the TRS structure inherently involves the REIT holding all or substantially all of the equity of the TRS entity, and it would be illogical to impose the diversification requirements of the 5% and 10% tests on TRS holdings when the separate 20% TRS asset test already limits the aggregate size of TRS operations.
Conclusion: All components of the securities tests under IRC § 856(c)(4)(B) are satisfied following the proposed transaction.
E. Impact of Asset Dispositions
As noted in Section II.D, Fairwater plans to dispose of approximately $602 million of existing portfolio assets concurrently with the Southgate Portfolio acquisition. These dispositions consist of six non-core properties in secondary markets that the Company's management has identified for recycling as part of its ongoing portfolio optimization strategy. The disposition proceeds are expected to be used to partially fund the $812 million Southgate Portfolio acquisition price.
The timing of these dispositions relative to the calendar quarter-end testing dates is a critical consideration for asset test compliance. The asset tests under IRC § 856(c)(4) are measured at the close of each calendar quarter. If the Southgate Portfolio acquisition closes before the $602 million in dispositions are completed, there could be an interim period during which Fairwater's total assets are temporarily inflated by the addition of the Southgate Portfolio assets without the corresponding reduction from the dispositions. While this temporary inflation of total assets would not, by itself, cause a failure of any asset test (because the qualifying real estate as