<PAGE>
As filed with the Securities and Exchange Commission on October 23, 1998
Registration No. 333-_____
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
------------------------
FORM S-3
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
(Exact name of Registrant as specified in its charter)
Maryland 54-1681655
(State of Incorporation) (I.R.S. Employer
Identification No.)
2345 Crystal Drive
Crystal City, Arlington, Virginia 22202
(703) 920-8500
(Address, including zip code and telephone number,
including area code, of Registrant's principal
executive offices)
------------------------
Ernest A. Gerardi, Jr.
President
Charles E. Smith Residential Realty, Inc.
2345 Crystal Drive
Crystal City, Arlington, Virginia 22202
(703) 920-8500
(Name and address, including zip code, and telephone number,
including area code, of agent for service)
------------------------
Copies to:
J. Warren Gorrell, Jr., Esq.
Bruce W. Gilchrist, Esq.
Hogan & Hartson L.L.P.
555 Thirteenth Street, N.W.
Washington, D.C. 20004-1109
(202) 637-5600
------------------------
Approximate date of commencement of the proposed sale of the securities to the
public: From time to time after this Registration Statement becomes effective,
as determined by market conditions.
If the only securities being registered on this Form are being offered pursuant
to dividend or interest reinvestment plans, please check the following box. / /
If any of the securities being registered on this form are to be offered on a
delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, other than securities offered only in connection with dividend or interest
reinvestment plans, check the following box. /X /
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, please check the following box and list
the Securities Act registration statement number of the earlier effective
registration statement for the same offering. / /
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. / /
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. / /
------------------------
<PAGE>
CALCULATION OF REGISTRATION FEE (1)
<TABLE>
<CAPTION>
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Proposed Maximum Proposed Maximum
Title of Shares Amount to be Aggregate Price Aggregate Amount of
to be Registered Registered Per Share (1) Offering Price (1) Registration Fee
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<S> <C> <C> <C> <C>
Common Stock, $.01 par
value per share 464,667 $30.375 $14,114,260.13 $4,163.71
- ------------------------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Estimated solely for purposes of calculating the registration fee in
accordance with Rule 457(c) based on the average of the high and low
reported sales prices on the New York Stock Exchange on October 16, 1998.
------------------------
The Registrant hereby amends this Registration Statement on such date or dates
as may be necessary to delay its effective date until the Registrant shall file
a further amendment which specifically states that this Registration Statement
shall thereafter become effective in accordance with Section 8(a) of the
Securities Act of 1933, or until the Registration Statement shall become
effective on such date as the Commission, acting pursuant to said Section 8(a),
may determine.
<PAGE>
Subject to Completion
Charles E. Smith Residential Realty, Inc.
464,667 shares of Common Stock
[LOGO]
Prospectus
This prospectus relates to 464,667 shares of common stock
that we may issue to a partnership that holds Units of limited
partnership interest of Charles E. Smith Residential Realty
L.P., which is our Operating Partnership. This partnership
received Units on October 10, 1997, when the Operating
Partnership acquired 2000 Commonwealth Avenue, an apartment
complex located in Boston, Massachusetts, from the
partnership. If this partnership (or any of its partners, if
it distributes the Units to its partners) requests that the
Operating Partnership redeem Units issued in that acquisition,
we may elect to issue to the redeeming Unitholder a number of
shares of common stock equal to the number of Units being
redeemed.
We are a self-managed equity real estate investment trust.
Through the Operating Partnership and its subsidiaries, we
own, acquire, develop, and manage multifamily residential
properties, and provide a full range of real estate services
to other property owners. Our properties are located primarily
in the Washington, D.C., Chicago, and Boston metropolitan
areas.
Our common stock is listed on the New York Stock Exchange
under the trading symbol "SRW."
Consider carefully the risk factors beginning on page 3 in
this prospectus.
------------------------------
The information contained in this prospectus is not
complete and may be changed. We may not sell these securities
until the registration statement filed with the Securities and
Exchange Commission is effective. This prospectus is not an
offer to sell these securities and it is not soliciting an
offer to buy these securities in any state where the offer or
sale is not permitted.
Neither the Securities and Exchange Commission nor any
state securities commission has approved or disapproved these
securities or determined if this Prospectus is truthful or
complete. Any representation to the contrary is a criminal
offense.
October __, 1998
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TABLE OF CONTENTS
<TABLE>
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Page
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<S> <C>
Prospectus Summary................................................................. 1
Some Important Terms........................................................... 1
Forward-Looking Information.................................................... 1
The Company.................................................................... 1
The Stock Offering............................................................. 2
Important Risks in Owning Our Common
Stock.......................................................................... 2
Tax Status of the Company...................................................... 2
Risk Factors....................................................................... 3
Redeeming Unitholders May Have Special
Tax and
Investment Risks........................................................... 3
Shareholders' Ability to Effect Changes in Control
of the Company is Limited.................................................. 4
The Market Value of Our Common Stock Could Be
Adversely Affected By a Number of
Factors.................................................................... 5
Our Success as a REIT Depends on Our
Compliance with Complicated Tax Rules...................................... 6
Redeeming Unitholders will Continue to be Subject to the
Operational Risks of Our Business.......................................... 7
Description of Capital Stock....................................................... 8
General Rights of Common Stock................................................. 8
Preferred Shares............................................................... 8
Classification and Removal of Board of Directors;
Other Provisions........................................................... 9
Special Statutory Requirements for
Certain Transactions....................................................... 10
Restrictions on Transfer; Excess Stock......................................... 11
Transfer Agent and Registrar................................................... 12
Shares Available for Future Sale................................................... 13
Redemption of Units................................................................ 13
General........................................................................ 13
Tax Consequences of Redemption................................................. 14
Comparison of Ownership of Units and
Common Stock............................................................... 16
Federal Income Tax Considerations.................................................. 28
General........................................................................ 28
Taxation of the Company........................................................ 28
Requirements for Qualification................................................. 29
Tax Aspects of the Company's Investments in the
Operating Partnership and Property Service Businesses...................... 33
Taxation of Shareholders....................................................... 34
Other Tax Considerations....................................................... 38
Plan of Distribution............................................................... 38
Available Information.............................................................. 38
Incorporation of Certain Documents by
Reference...................................................................... 39
Experts............................................................................ 40
Legal Matters...................................................................... 40
</TABLE>
<PAGE>
PROSPECTUS SUMMARY
This summary highlights information contained elsewhere in this prospectus.
It is not complete and may not contain all of the information that is important
to you. To understand this common stock offering, you should read the entire
prospectus carefully, including the risk factors and federal income tax
considerations.
Some Important Terms
References in this prospectus to "the Company," "we," "us," and "our"
refer to Charles E. Smith Residential Realty, Inc., Charles E. Smith
Residential Realty L.P., their predecessors and subsidiaries, or any of them,
unless the context indicates otherwise. References in this prospectus to the
"Operating Partnership" refer to Charles E. Smith Residential Realty L.P.,
its subsidiaries, or any of them. References in this prospectus to "Units"
refer to common units of limited partnership interest of Charles E. Smith
Residential Realty L.P.
Forward-Looking Information
This prospectus includes forward-looking statements which involve risks
and uncertainties. Whenever you see the words "believes," "anticipates," and
"expects" and similar words indicating uncertainty, you should remember that
the statements are assumptions. These assumptions are subject to risks or
uncertainties that could cause actual financial results or management plans
and objectives to differ materially from those projected or expressed in this
prospectus. For example, such differences may occur because of changes in:
- national and regional economic conditions (especially in multifamily
property occupancies and rental growth in the Washington, D.C.
metropolitan area);
- our ability to identify and secure additional properties and property
locations;
- the effect of prevailing market interest rates and the pricing of our
common stock;
- the acceptance of our financing plans by the capital markets; and
- other risks which may have been or will be discussed in our filings
with the SEC.
We recommend that you consider carefully the risks of such assumptions
before making any investment in our common stock.
We disclaim any obligation or undertaking to release publicly any updates
or revisions to any forward-looking statements in this prospectus. We may
make such updates or revisions to reflect a change in our expectations or a
future event or change in a circumstance or condition upon which such
forward-looking statements are based.
The Company
We are a self-administered and self-managed equity REIT which acquires,
develops, manages and operates multifamily properties primarily in the
Washington, D.C., Chicago, and Boston metropolitan areas. We are a fully
integrated real estate organization with in-house acquisition, development,
financing, marketing, property management and leasing expertise. Our primary
strategy for growth is to acquire, develop, own and manage high quality
multifamily properties to generate long-term income and increase in value. We
are a Maryland corporation. The Operating Partnership is a Delaware limited
partnership. We commenced business operations on June 30, 1994.
We are the sole general partner of the Operating Partnership. As of September
30, 1998, we owned approximately 56% of its outstanding Units. The Operating
Partnership and its subsidiaries own all of our properties, property interests
and business assets.
As of September 30, 1998, we owned 49 multifamily apartment communities with
a total of 19,951 units. 45 of the properties were located in the Washington,
D.C. metropolitan
<PAGE>
area, two in the Boston metropolitan area and two in the Chicago metropolitan
area. We currently have approximately 2,100 units under construction. We also
manage over 3,500 additional apartment units for other property owners. Besides
our residential properties, we own two retail centers in the Washington, D.C.
metropolitan area with approximately 436,000 square feet of retail space.
The Stock Offering
This prospectus relates to 464,667 shares of common stock that we may
issue to Commonwealth Reservoir Park Limited Partnership, a partnership that
holds Units of limited partnership interest of our Operating Partnership.
This partnership received Units on October 10, 1997, when the Operating
Partnership acquired 2000 Commonwealth Avenue, an apartment complex located
in Boston, Massachusetts, from the partnership.
On October 10, 1998, Commonwealth Reservoir Park Limited Partnership
became eligible to redeem its Units for cash or, at our election, shares of
our common stock. If this partnership (or any of its partners, if it
distributes the Units to its partners) requests that the Operating
Partnership redeem Units issued in that acquisition, we may elect to issue to
the redeeming Unitholder a number of shares of common stock equal to the
number of Units being redeemed.
Under the Operating Partnership's partnership agreement, Unitholders may
redeem their Units on a one-for-one basis for common stock or their cash
equivalent. We have the right to choose whether to acquire such Units directly
or to pay their cash equivalent.
Important Risks in Owning Our Common Stock
Before you decide to redeem your Units for common stock, you should read the
"Risk Factors" section, which begins on page 3 of this prospectus.
Tax Status of the Company
We have elected to be taxed as a REIT under Sections 856 through 860 of the
Internal Revenue Code of 1986, as amended (the "Code"). We believe that we
qualify for taxation as a REIT and generally will not be subject to federal
income tax on net income that we distribute to our shareholders. We are
required, among other things, to distribute at least 95% of our taxable income
(excluding any net capital gain). Even if we qualify to be taxed as a REIT, we
are subject to certain federal, state and local taxes on our income and property
and to federal income and excise tax on the income we do not distribute. In
addition, the operating companies that we own do not qualify as REITs and are
subject to federal, state and local income taxes. See page 6 and pages 28-37 for
a more detailed explanation.
2
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RISK FACTORS
In addition to the other information in this prospectus, you should
consider carefully the following risk factors.
Redeeming Unitholders May Have Special Tax and Investment Risks
A Unitholder Who Redeems Units for Common Stock May Have Adverse Tax
Effects. A Unitholder who redeems Units for common stock may be treated for tax
purposes as having sold the Units. The sale will be taxable and the Unitholder
will be treated as realizing an amount equal to the sum of the cash or the value
of the common stock the Unitholder receives plus the amount of the Operating
Partnership nonrecourse liabilities allocable to the redeemed Units. It is
possible that the amount of gain the Unitholder recognizes (or even the tax
liability resulting from such gain) could exceed the amount of cash and the
value of other property the Unitholder receives. See "Redemption of Units--Tax
Consequences of Redemption" on page 14.
In addition, the Unitholder's ability to sell common stock in order to
raise cash to pay the resulting tax liability may be restricted due to our
common stock's relatively low trading volume. As a result of fluctuations in the
stock price, the price a Unitholder receives for the shares may not equal the
value of the Units redeemed. See "--Market Interest Rates and Low Trading
Volume May Have an Effect on the Value of Our Common Stock" on page 6.
If a Unitholder Redeems Units, the Original Receipt of the Units May
Be Subject to Tax. If a Unitholder redeems Units, particularly within two
years of receiving them, there is a risk that the original receipt of the
Units may be treated as a taxable sale under the "disguised sale" rules of
the Code. Subject to several exceptions, the tax law generally provides that
a partner's contribution of property to a partnership and a simultaneous or
subsequent transfer of money or other consideration from the partnership to
the partner will be presumed to be a taxable sale. In particular, if money or
other consideration is transferred by a partnership to a partner within two
years of the partner's contribution of property, the transactions are
presumed to be a taxable sale of the contributed property unless the facts
and circumstances clearly establish that the transfers are not a sale. On the
other hand, if two years have passed between the original contribution of
property and the transfer of money or other consideration, the transactions
will not be presumed to be a taxable sale unless the facts and circumstances
clearly establish that they should be.
Differences Between an Investment in Shares of Common Stock and Units
May Affect Redeeming Unitholders. A Unitholder who elects to redeem Units may
receive, at our election, cash or shares of our common stock in exchange for the
Units. A Unitholder who receives cash will no longer benefit from any subsequent
increases in share price or receive any future distributions (unless the
Unitholder currently owns or acquires in the future additional shares of our
common stock or Units). If the Unitholder receives shares of common stock upon
redemption, the Unitholder will become a shareholder rather than a holder of
Units in the Operating Partnership. Although an investment in shares of common
stock is substantially similar to an investment in Units in the Operating
Partnership, there are some differences between ownership of Units and ownership
of common stock relating to, among other things, form of organization,
management structure, voting rights, liquidity and federal income taxation.
These differences, some of which may be material to investors, are discussed in
"Redemption of Units -- Comparison of Ownership of Units and Common Stock" on
page 16.
3
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Shareholders' Ability to Effect Changes in Control of the Company is Limited
Certain Company Policies May Be Changed Without a Vote of Shareholders.
Certain of our major policies are decided by our Board of Directors, including
those relating to investment, financing, growth, acquisitions, development, debt
capitalization and distributions. Although the Board of Directors currently has
no intention to amend or revise these and other policies, it may do so from time
to time without a vote of the shareholders of the Company. In order to change
our policy of seeking to maintain our REIT qualification status, however, we
must have the approval of our shareholders. Changes in our policies may not
fully serve the interests of all shareholders.
Provisions of our Charter Could Inhibit Changes of Control. Certain
provisions of our Charter may delay or otherwise limit the ability of outside
parties to acquire control of the Company or engage in some other
transaction. Such Charter provisions provide for three-year staggered terms
for directors, the authority of the Board of Directors to classify presently
unclassified capital stock into one or more series having special preferences
without shareholder approval and imposition of a 9.8% ownership limit
relating to third party ownership of shares. See "-- We Have a Share
Ownership Limit" below and "Description of Capital Stock -- Classification
and Removal of Board of Directors; Other Provisions" on page 9. Such
limitations could prevent the Company from entering into a change of control
transaction or some other transaction that could be in the best interests of
the shareholders.
In addition, we cannot merge, consolidate or engage in any combination
with another person or sell all or substantially all of our assets unless such
transaction includes a merger of, or a sale of assets by, the Operating
Partnership, which may require approval of the holders of a majority of the
Units. We currently hold approximately 56% of the Units. This voting requirement
might limit the possibility for acquisition or change in control of the Company,
even if a change in control were in the shareholders' interest. In this regard,
the holders of Units might incur different, and more adverse, tax consequences
as a result of such an acquisition or change in control that could motivate them
to oppose such a transaction that is in the shareholders' interest.
Our Ability to Issue Preferred Shares Could Inhibit Changes of Control.
Our Charter authorizes the Board of Directors to issue preferred shares of stock
("Preferred Shares") and to establish the preferences and rights of any
Preferred Shares issued, including the right to vote and the right to convert
them into shares of common stock. This power to issue Preferred Shares could
have the effect of delaying or preventing a change in control of the Company
even if a change in control were in the shareholders' interest. We currently
have outstanding three series of Preferred Shares. The Preferred Shares issued
in these offerings rank senior to the common stock with respect to dividend
rights and distributions upon liquidation, dissolution and winding up of the
Company. The Company is subject to the risks normally associated with preferred
equity financing, including the risk that the Company's cash flow will be
insufficient to meet the required payments on the Preferred Shares.
Maryland Law Contains Limitations on Change of Control. Provisions
of the Maryland General Corporation Law ("MGCL") prohibit certain "business
combinations" (including certain issuances of equity securities) between a
Maryland corporation and any person who owns 10% or more of the voting power
of the corporation's shares of capital stock (an "Interested Shareholder")
unless the transaction is approved by a supermajority (80%) of voting shares.
In addition, an Interested Shareholder may not engage in a business
combination for five years following the date he became an Interested
Shareholder. The Company's Charter, as is permitted by the MGCL, exempts any
business combination involving Messrs. Smith and Kogod and persons affiliated
or acting in concert with them. Consequently, Messrs. Smith and Kogod and
their affiliates are permitted to enter into business combinations with the
Company without the supermajority shareholder approval otherwise required by
the MGCL.
4
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We Have a Share Ownership Limit. Under the REIT tax rules, not more
than 50% in number or value of our outstanding capital stock may be owned,
directly or constructively under the applicable attribution rules of the Code,
by five or fewer individuals (as defined in the Code to include certain
entities) during the last half of a taxable year. In order to help us comply
with this rule, we have limited ownership of the issued and outstanding shares
of capital stock by any single shareholder to 9.8% of the outstanding common
stock (determined taking into account certain ownership attribution rules). This
ownership limit is also intended to inhibit changes of control of the Company.
Our Board of Directors has in the past and may in the future waive the
percentage ownership limit for certain entities if it is satisfied that
ownership in excess of this limit will not jeopardize the our status as a REIT
and it otherwise decides such action is in the best interests of the Company.
A transfer of shares of capital stock to a person who, as a result of
the transfer, violates the ownership limit will be void. Shares of common stock
acquired in breach of the limitation will be automatically exchanged for shares
of a separate class of stock not entitled to vote or to participate in
distributions ("Excess Stock"). In addition, ownership, either directly or
constructively under the applicable attribution rules of the Code, of stock in
excess of the ownership limit generally will result in the conversion of those
shares into Excess Stock. We will direct a holder of Excess Stock to sell such
stock to us for the lesser of the price paid or the average closing price for
the five trading days preceding the sale or to sell such stock to a person whose
ownership of the stock does not violate the ownership limit. See "Description of
Capital Stock-- Restrictions on Transfer; Excess Stock" for additional
information regarding the ownership limits.
The Market Value of Our Common Stock Could Be Adversely Affected by a Number of
Factors
The Large Number of Shares Available for Future Sale Could Adversely
Affect the Market Price of Our Common Stock. As of September 30, 1998, we had
outstanding approximately 17.5 million shares of common stock tradable without
restriction (excluding shares held by our affiliates) and had reserved 17.8
million additional shares of common stock for possible issuance upon redemption
of Units and 3.6 million shares for possible issuance upon conversion of
outstanding preferred stock. In addition, we have reserved a number of shares
available for possible issuance under any of our employee benefit plans filed
with the SEC. We also have on file with the SEC two effective registration
statements which together allow for the sale of up to approximately $266 million
in unspecified securities, including shares of common stock and securities
convertible into shares of common stock. We cannot predict the effect that
future sales of shares of common stock, or the perception that such sales could
occur, will have on the market prices of our shares.
Changes in Market Conditions Could Adversely Affect the Market Price of
Our Common Stock. As with other publicly traded securities, the value of our
common stock depends on various market conditions, which may change from time to
time. Among the market conditions that may affect the value of our common stock
are the following: the extent of institutional investor interest in us; the
reputation of REITs and residential REITs generally and the attractiveness of
their equity securities in comparison to other equity securities (including
equity securities issued by other real estate companies); our financial
condition and performance; and general financial market conditions.
Our Earnings and Cash Distributions Will Affect the Market Price of Our
Common Stock. We believe that the market value of a REIT's equity securities is
based primarily upon the market's perception of the REIT's growth potential and
its current and potential future cash distributions, and is secondarily based
upon the real estate market value of the underlying assets.
5
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For that reason, our shares may trade at prices that are higher or lower than
the net asset value per share. To the extent we retain operating cash flow for
investment purposes, working capital reserves or other purposes, these retained
funds, while increasing the value of our underlying assets, may not
correspondingly increase the market price of our shares. In addition, we are
subject to certain risks normally associated with preferred equity financing,
including the risk that the Company's cash flow will be insufficient to meet the
required payments on our preferred shares. Our failure to meet the market's
expectations with regard to future earnings and cash distributions would likely
adversely affect the market price of our shares.
Market Interest Rates and Low Trading Volume May Have an Effect on
the Value of Our Common Stock. One of the factors that investors consider
important in deciding whether to buy or sell shares of a REIT is the
distribution rate on such shares (as a percentage of the price of such
shares) relative to market interest rates. If market interest rates increase,
prospective purchasers of our shares may expect a higher annual distribution
rate. Higher interest rates would not, however, result in more funds for us
to distribute and, in fact, would likely increase our borrowing costs and
potentially decrease funds available for distribution. This could cause the
market price of our common stock to go down. In addition, although our common
stock is listed on the New York Stock Exchange, the daily trading volume of
REITs in general or our shares in particular may be lower than the trading
volume for certain other industries. As a result, our investors who desire to
liquidate substantial holdings at a single point in time may find that they
are unable to dispose of such shares in the market without causing a
substantial decline in the market value of such shares.
Our Success as a REIT Depends on Our Compliance with Complicated Tax Rules
We Believe, But Cannot Guarantee, That We Qualify as a REIT. We
believe we qualify as a REIT and generally will not be subject to federal
income tax on net income that we distribute to our shareholders. However, our
qualification as a REIT involves the application of technical and complex tax
rules. For instance, if we own a company's securities, we cannot qualify as a
REIT unless the value of those securities does not exceed 5% of the total
value of our assets. We believe that we meet this requirement, but this
belief is based on our analysis of the value of each of the corporations that
conduct our property service businesses and on our conclusion that each of
these corporations will be respected as a separate corporation. Also, to
qualify as a REIT, we cannot own more than 10% of a company's voting
securities. We also believe that we meet this requirement, but this belief is
based on our conclusion that the shares of stock that we own in each of the
property service business corporations are not voting securities. We cannot
guarantee that the IRS will agree with us on these points.
Moreover, our ability to qualify as a REIT may depend on facts and
circumstances that may not be within our control. Even a technical or
inadvertent mistake could jeopardize our REIT status. Furthermore, it is
possible that new tax laws or new interpretations of existing tax laws will
affect both our ability to qualify as a REIT and the tax consequences of REIT
qualification. For all of these reasons, we cannot guarantee that we currently
qualify or will be able to remain qualified as a REIT.
Our Failure to Qualify as a REIT Would Have Serious Adverse
Consequences. If we fail to qualify as a REIT, we will be subject to federal
income tax at regular corporate rates. This additional tax would significantly
reduce the cash we would have available to distribute to our shareholders and
could reduce significantly the value of our common stock. In addition, if we
fail to qualify as a REIT, we may be disqualified from electing to be treated as
a REIT for the next four taxable years.
We May Need to Borrow Money to Qualify as a REIT. To obtain the
favorable tax treatment associated with REITs, we generally will be required
each year to distribute to our shareholders at least 95% of our net taxable
income (excluding net capital gain). Differences in timing between when we
receive income and when we have to pay expenses could require us to
6
<PAGE>
borrow money to meet this requirement. The impact of large expenses also
could have this effect. We might need to borrow money even if we believe that
market conditions are not favorable for such borrowings.
We Are Subject To Some Taxes Even If We Qualify as a REIT. Even if we
qualify as a REIT, we are subject to some federal, state and local taxes on our
income and property. For example, we pay tax on certain income we do not
distribute. Also, our income derived from properties located in the District of
Columbia is subject to local tax and our net income from certain prohibited
transactions will be subject to a 100% tax. In addition, we derive income
from the property service business corporations, whose income is subject to
federal, state and local income tax.
Redeeming Unitholders Will Continue to be Subject to the Operational Risks of
Our Business
A Unitholder who receives our common stock upon redemption of Units
will continue to be subject to the various operational risks of our business.
These risks include the following:
- Our performance and ability to make distributions to our
shareholders are subject to risks associated with the real estate
industry. In particular --
- We are dependent on the Washington, D.C.
metropolitan area market.
- We may be unable to renew leases or relet space as leases
expire.
- New acquisitions may fail to perform as
expected.
- Because real estate investments are illiquid
and we are subject to other restrictions, we
may not be able to sell properties when
appropriate.
- Our properties may be subject to certain regulations that
could adversely affect distributions to our shareholders.
- Environmental problems are possible and can be
costly.
- Our properties in the District of Columbia are subject to
special tenants rights that may impede our sale of those
properties.
- Some potential losses are not covered by
insurance.
- Debt financing, financial covenants, degree of leverage and
increases in interest rates could adversely affect our economic
performance for the following reasons, among others --
- Our articles of incorporation do not limit the amount or
percentage of debt that we may incur and our degree of
leverage may limit our ability to obtain additional
financing.
- Our policy to limit debt may not ensure that we can incur
and continue to make expected distributions to
shareholders.
- We may not be able to refinance our debt on favorable
terms or make balloon payments when certain debts become
due.
- Rising interest rates could adversely affect
our cash flow.
7
<PAGE>
- Our reliance on the property service businesses,
where we lack of voting control, may adversely
affect our shareholders. These property services
businesses, which provide management, leasing,
financing, insurance, engineering and technical
services, and tenant construction and renovation
services, are conducted by three operating companies
(the "Property Services Businesses") in which the
Operating Partnership has a 99% economic interest
but does not own voting stock.
- Conflicts of interest on the part of certain officers and
directors could result in decisions not in the shareholders' best
interests.
- We are dependent on our key personnel for whom we do not have
"key-person" life insurance.
DESCRIPTION OF CAPITAL STOCK
As of September 30, 1998, our authorized capital stock was 145,000,000
shares. Those shares consisted of: (a) 95,000,000 shares of common stock; (b)
45,000,000 shares of Excess Stock; (c) 3,857,491 shares of preferred stock; and
(d) 1,142,509 unclassified shares. Our Charter gives the Board of Directors the
authority to issue, without a shareholder vote, shares of capital stock in one
or more series and to determine the rights of each series, including
preferences, conversion and other rights, voting powers, restrictions,
limitations as to dividends, qualifications and terms and conditions of
redemption. Such terms are fully described in the articles supplementary to the
Charter adopted by the Board of Directors.
The following description of the terms and provisions of our shares of
capital stock and certain other matters is not complete. The description is
qualified by the applicable provisions of Maryland law and our Charter, which is
on file with the SEC as an exhibit to the registration statement of which this
prospectus is a part.
General Rights of Common Stock
Each holder of common stock is entitled to one vote at shareholder
meetings for each share of common stock he owns. Neither our Charter nor our
Bylaws provide for cumulative voting for the election of directors. Subject to
the prior rights of any series of preferred stock that may be classified and
issued, holders of our common stock are entitled to receive, pro-rata, any
dividends declared by the Board of Directors out of legally available funds, and
are also entitled to share, pro-rata, in any other distributions to
shareholders. We pay quarterly dividends on our common stock and expect to
continue to do so. We depend upon distributions from the Operating Partnership
to fund our dividends to shareholders.
Holders of common stock do not have any preemptive rights or other
rights to subscribe for additional shares.
Preferred Shares
We have three series of Preferred Shares outstanding. Each series of
Preferred Shares ranks senior to the common stock with respect to dividend
rights and distributions upon liquidation, dissolution and winding up of the
Company. The following are the principal terms of each series of Preferred
Shares:
- Series A Cumulative Convertible Redeemable Preferred
Stock: There are 2,640,325 Series A Preferred Shares
outstanding. The Series A Preferred Shares have a
liquidation preference of $27.08 per share.
Dividends on the Series A Preferred Shares
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are cumulative from the date of original issue and are
payable quarterly at the greater of the rate
declared on the common stock or an annual rate of
$2.02 per share. The Series A Preferred Shares are
not redeemable by the Company prior to May 15, 2003.
On or after May 15, 2003, the Company, at its
option, may redeem the Series A Preferred Shares for
cash at a price of $27.08 per share, plus accrued
and unpaid dividends. Under certain circumstances,
the Company may elect to make such redemption with
common stock at the then market price of the common
stock. On or after January 31, 1999, a holder of
Series A Preferred Shares may convert the Series A
Preferred Shares into shares of common stock on a
one-for-one basis, subject to certain limitations. Prior to
January 31, 1999, the Series A Preferred Shares will not be
convertible unless the Company undergoes a change in control, as
defined by the purchase agreement for such shares, or fails to
qualify as a REIT for tax purposes.
- Series B Cumulative Convertible Redeemable Preferred
Stock: There are 973,933 Series B Preferred Shares
outstanding. The Series B Preferred Shares have a
liquidation preference of $28.50 per share.
Dividends on the Series B Preferred Shares are
cumulative and are payable quarterly at the greater
of the rate declared on the shares of common stock
or an annual rate of $2.02 per share. A holder of
Series B Preferred Shares may convert the Series B
Preferred Shares into shares of common stock on a
one-for-one basis, subject to certain adjustments
and limitations related to its ownership of common
stock of the Company. The Company, at its option,
may redeem Series B Preferred Shares at any time for
common stock, plus accrued and unpaid dividends.
- Series C Cumulative Redeemable Preferred Stock:
There are 500 Series C Preferred Shares outstanding.
The Series C Preferred Shares have a liquidation
preference of $100,000 per share and an initial
annual dividend of $7,910 per share (7.91% of
purchase price). If the securities receive an
investment grade rating, the dividend will decrease
to $7,660 per share. Dividends are cumulative and
are payable quarterly. The Company may redeem
Series C Preferred Shares after February 1, 2028, at
the liquidation preference plus accrued dividends.
Classification and Removal of Board of Directors; Other Provisions
Our Charter divides the Board of Directors into three classes, with
each class to consist of an equal number of the directors or to the nearest
extent possible. The terms of office of one class of directors (2 directors)
will expire at the 1999 annual meeting of shareholders; the term of the second
class of directors (3 directors) will expire at the 2000 annual meeting of
shareholders; and the term of the third class of directors (2 directors) will
expire at the 2001 annual meeting of shareholders. At each annual meeting of
shareholders, the class of directors to be elected at such meeting will be
elected for a three year term, and the directors in the other two classes will
continue in office. Because holders of common stock have no right to cumulative
voting for the election of directors, at each annual meeting of shareholders,
the holders of a majority of the shares of common stock will be able to elect
all of the successors of the class of directors whose term expires at that
meeting.
Our Charter also provides that, except for any directors who may be
elected by holders of a class or series of capital stock other than common
stock, directors may be removed only for cause and only by the affirmative vote
of shareholders holding at least 80% of all the votes entitled to be cast for
the election of directors. Vacancies on the Board of Directors may be filled by
the affirmative vote of the remaining directors and, in the case of a vacancy
resulting from the removal of a director, by the shareholders by a majority of
the votes entitled to be cast for the election of directors. A vote of
shareholders holding at least 80% of all the votes entitled to be cast thereon
is required to amend, alter, change, repeal or adopt any provisions inconsistent
with the foregoing classified board and director removal provisions. Under our
Charter, the power to amend our Bylaws is vested exclusively in the Board of
Directors, and the shareholders will not have any power to adopt, alter or
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repeal the Bylaws absent amendment to our Charter. These provisions may make it
more difficult and time consuming to change majority control of our Board of
Directors and, thus, reduce our vulnerability to an unsolicited proposal for a
takeover or the removal of incumbent management.
Because the Board of Directors has the power to establish the
preferences and rights of additional series of capital stock without further
shareholder vote, the Board of Directors may give the holders of any series of
capital stock preferences, powers and rights, voting or otherwise, senior to
those of holders of common stock. The issuance of any such senior capital stock
could have the effect of delaying or preventing a change in control of the
Company.
Special Statutory Requirements for Certain Transactions
Business Combination Statute. The MGCL establishes special requirements
with respect to "business combinations" between Maryland corporations and
"Interested Shareholders" unless exemptions are applicable. Among other things,
the law prohibits for a period of five years a merger and other specified or
similar transactions between a Company and an Interested Shareholder and
requires a supermajority vote for such transactions after the end of the
five-year period.
"Interested Shareholders" are all persons owning beneficially, directly
or indirectly, more than 10% of the outstanding voting stock of the Maryland
corporation. "Business Combinations" include any merger or similar transaction
subject to a statutory vote and additional transactions involving transfers of
assets or securities in specified amounts to Interested Shareholders or their
affiliates. Unless an exemption is available, transactions of these types may
not be consummated between a Maryland corporation and an Interested Shareholder
or its affiliates for a period of five years after the date on which the
shareholder first became an Interested Shareholder. Thereafter, the transaction
may not be consummated unless recommended by the board of directors and approved
by the affirmative vote of at least 80% of the votes entitled to be cast by all
holders of outstanding shares of voting stock and 66-2/3% of the votes entitled
to be cast by all holders of outstanding shares of voting stock other than the
Interested Shareholder. A Business Combination with an Interested Shareholder
that is approved by the board of directors of a Maryland corporation at any time
before an Interested Shareholder first becomes an Interested Shareholder is not
subject to the special voting requirements. An amendment to a Maryland
corporation's charter electing not to be subject to the foregoing requirements
must be approved by the affirmative vote of at least 80% of the votes entitled
to be cast by all holders of outstanding shares of voting stock and 66-2/3% of
the votes entitled to be cast by holders of outstanding shares of voting stock
who are not Interested Shareholders. Any such amendment is not effective until
18 months after the vote of shareholders and does not apply to any Business
Combination of a corporation with a shareholder who was an Interested
Shareholder on the date of the shareholder vote.
As permitted by Maryland law, we have exempted from the Maryland
business corporation statute any Business Combination with Messrs. Smith or
Kogod, and all persons, firms and corporations affiliated with, or acting in
concert or as a group with, either of them, as well as any Business Combination
that involves the redemption of Units for shares of common stock.
Control Share Acquisition Statute. Maryland law imposes limitations on
the voting rights in a "control share acquisition." The Maryland statute defines
a "control share acquisition" at the 20%, 33-1/3% and 50% acquisition levels,
and requires a 2/3 shareholder vote (excluding shares owned by the acquiring
person and certain members of management) to accord voting rights to stock
acquired in a control share acquisition. The statute also requires Maryland
corporations to hold a special meeting at the request of an actual or proposed
control share acquirer generally within 50 days after a request is made with the
submission of an "acquiring person statement," but only if the acquiring person
(a) posts a bond for the cost of a meeting and (b) submits a definitive
financing agreement to the extent that financing is not provided by the
acquiring person. In addition, unless the charter or by-laws provide otherwise,
the statute gives the Maryland corporation, within certain
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time limitations, various redemption rights if there is a shareholder vote on
the issue and the grant of voting rights is not approved, or if an acquiring
person statement is not delivered to the target within 10 days following a
control share acquisition. Moreover, unless the charter or by-laws provide
otherwise, the statute provides that if, before a control share acquisition
occurs, voting rights are accorded to control shares that result in the
acquiring person having majority voting power, then minority shareholders have
appraisal rights. An acquisition of shares may be exempted from the control
share statute, provided that a charter or bylaw provision is adopted for such
purpose prior to the control share acquisition. Our Charter provides that any
acquisition of our shares of capital stock that is not prohibited by the terms
of the restrictions on transfer described below under "--Restrictions on
Transfer; Excess Stock" is exempted from the provisions of the control share
acquisition statute.
Restrictions on Transfer; Excess Stock
Ownership Limits. Our Charter restricts the number of shares of capital
stock that individual shareholders may own. For us to qualify as a REIT under
the Code, no more than 50% in value of our outstanding shares of capital stock
may be owned, directly or constructively under the applicable attribution rules
of the Code, by five or fewer individuals (which is defined in the Code to
include certain entities) during the last half of a taxable year. In addition,
the capital stock must be beneficially owned by 100 or more persons during at
least 335 days of a taxable year or during a proportionate part of a shorter
taxable year (together with the restriction referred to in the preceding
sentence, the "Existing Holder Limit"). Our Charter restricts certain
acquisitions of capital stock, including common stock, in order to comply with
these requirements. These restrictions are also intended to inhibit changes of
control of the Company.
Subject to certain exceptions specified in our Charter, no holder may
own, or be deemed to own by virtue of the attribution provisions of the Code,
more than 9.8% (the "Ownership Limit") in number or value of the issued and
outstanding shares of common stock. The Board of Directors in its discretion may
waive the Ownership Limit or the Existing Holder Limit with respect to a holder
that is an entity (but not an individual) if such holder's ownership will not
then or in the future jeopardize our status as a REIT.
Messrs. Smith and Kogod, members of their families and
entities that they control are subject to the Ownership Limit, and they also are
subject to certain additional special ownership limitations. Messrs. Smith and
Kogod, members of their families and entities that they control are prohibited
from acquiring additional shares of common stock (or rights to acquire shares),
if, as a result of, and giving effect to, such acquisition, any tenant would be
regarded as a related party tenant for purposes of Section 856(b)(2)(B) of the
Code (see "Federal Income Tax Considerations -- Requirements for Qualification
- -- Gross Income Tests" on page 30) and we would be considered to receive more
than 0.5% of our gross annual revenue from Related Party Tenants.
Notwithstanding any of the foregoing ownership limits, no holder may
own or acquire, either directly or constructively under the applicable
attribution rules of the Code, any shares of any class of our stock if such
ownership or acquisition (1) would cause more than 50% in value our outstanding
stock to be owned, either directly or constructively under the applicable
attribution rules of the Code, by five or fewer individuals (as defined in the
Code to include certain tax-exempt entities, other than, in general, qualified
domestic pension funds), (2) would result in our stock being beneficially owned
by less than 100 persons (determined without reference to any rules of
attribution), or (3) would otherwise result in our failing to qualify as a REIT.
If any shareholder purports to transfer shares to a person and either
the transfer would result in our failing to qualify as a REIT, or such transfer
would cause the transferee to hold shares in excess of the Ownership Limit or
Existing Holder Limit, the purported transfer will be null and void. In that
event, the intended transferee will acquire no rights or economic interest in
the shares,
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and the shareholder will be deemed to have transferred the shares of common
stock to us in exchange for shares of Excess Stock, which will be deemed to be
held by us as trustee of a trust for the exclusive benefit of the person or
persons to whom the shares can be transferred without violating the ownership
limit. In addition, if any person owns, either directly or constructively under
the applicable attribution rules of the Code, shares of capital stock in excess
of the applicable Ownership Limit, such person will be deemed to have exchanged
the shares of capital stock that cause the Ownership Limit to be exceeded for an
equal number of shares of Excess Stock, which will be deemed to be held by us as
trustee of a trust for the exclusive benefit of the person or persons to whom
the share can be transferred without violating the Ownership Limit.
A person who holds or transfers shares such that shares of capital
stock shall have been deemed to be exchanged for Excess Stock will not be
entitled to vote the Excess Stock and will not be entitled to receive any
dividends or distributions (any dividend or distribution paid on shares
of capital stock prior to our discovery that such shares have been exchanged for
Excess Stock shall be repaid to us upon demand, and any dividend or distribution
declared but unpaid shall be rescinded). Such person shall have the right to
designate a transferee of such Excess Stock so long as consideration received
for designating such transferee does not exceed a price that is equal to the
lesser of (1) in the case of a deemed exchange for Excess Stock resulting from a
transfer, the price paid for the shares in such transfer or, in the case of a
deemed exchange for Excess Stock resulting from some other event, the fair
market value, on the date of the deemed exchange, of the shares deemed
exchanged, and (2) the fair market value of the shares for which such Excess
Stock will be deemed to be exchanged on the date of the designation of the
transferee. For these purposes, fair market value on a given date is determined
by reference to the average closing price for the five preceding days. The
shares of Excess Stock so transferred will automatically be deemed to be
exchanged for shares of capital stock. We may purchase Excess Stock for the
lesser of the price paid or the average closing price for the five days
immediately preceding such purchase. We may elect to redeem the Excess Stock for
Units.
If the foregoing transfer restrictions are determined to be void or
invalid by virtue of any legal decisions, statute, rule or regulation, then the
intended transferee of any Excess Stock may be deemed, at our option, to have
acted as an agent on our behalf in acquiring such Excess Stock and to hold such
Excess Stock on our behalf.
All certificates representing shares of common stock will bear a legend
referring to the restrictions described above.
Every owner (or deemed owner) of more than 5% (or such lower percentage
as required by the Code or regulations thereunder) in number or value of the
issued and outstanding shares of capital stock, including common stock, must
file a written notice with us containing the information specified in our
Charter no later than January 31 of each year. In addition, each shareholder
shall be required upon demand to disclose to us in writing such information as
we may request in order to determine the effect of such shareholder's direct,
indirect and constructive ownership of such shares on our REIT status.
The foregoing ownership limitations also may have the effect of
preventing or hindering any attempt to acquire control of us without the consent
of our Board of Directors.
Transfer Agent and Registrar
The Transfer Agent, Registrar and Dividend Disbursing Agent for the
shares of common stock is First Union National Bank of North Carolina.
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SHARES AVAILABLE FOR FUTURE SALE
As of September 30, 1998, we had outstanding 17,471,741 shares of
common stock tradable without restriction (excluding shares held by our
affiliates) and Preferred Shares convertible into or redeemable for 3,614,258
shares of common stock (subject to limitations on conversion or redemption). As
of September 30, 1998, we had reserved 17.8 million additional shares of common
stock for possible issuance upon redemption of Units (including the shares
offered by this prospectus). Holders of approximately 15.3 million Units are
currently entitled to request redemption. In addition, 1 million shares have
been reserved for issuance under our Dividend and Distribution Investment and
Share Purchase Plan filed with the SEC. We also have on file with the SEC two
effective registration statements, which together allow for the sale of up to
approximately $266 million in unspecified securities, including shares of common
stock and securities convertible into shares of common stock.
Approximately 1.8 million Units or shares of common stock are available
and are reserved for future issuance under our employee benefit plans (the
"Plans") filed with the SEC. We established the Plans to attract and retain
executive officers and other key employees. As of September 30, 1998, options to
purchase up to approximately 1.6 million Units or shares of common stock have
been granted and are outstanding, 104,000 restricted Unit awards have been made
and are outstanding (20,250 of which remain restricted securities), and awards
of 21,000 restricted shares of common stock have been made (all of which remain
restricted securities) to executive officers and certain key employees. An
additional option to purchase 5,000 shares of common stock has been issued and
is outstanding to one of our directors.
We cannot predict the effect that future sales of shares of common
stock, or the perception that such sales could occur, will have on the market
prices of our shares.
REDEMPTION OF UNITS
General
Each Unitholder may, subject to certain limitations, require that the
Operating Partnership redeem Units held by the Unitholder by delivering a notice
to the Operating Partnership. Upon redemption, the Unitholder will receive, with
respect to each Unit tendered, cash in an amount equal to the market value of
one share of our common stock (subject to certain anti-dilution adjustments).
The market value of our common stock for this purpose will be equal to the
average of the closing trading price of our common stock for the ten trading
days before the day on which the redemption notice was received by the Operating
Partnership. The Limited Partnership Agreement of the Operating Partnership (the
"Partnership Agreement") provides that if such trading information is not
available, we can use another method to determine the value of the common stock
as we deem appropriate in our reasonable judgment. The Partnership Agreement
does not specify alternative valuation methodologies. The valuation methodology
to be used will depend upon all of the facts and circumstances at the time.
In lieu of the Operating Partnership redeeming Units for cash, we, as
general partner of the Operating Partnership, have the right to assume directly
and satisfy the redemption right of a Unitholder. We currently anticipate that
we generally will elect to assume directly and satisfy any redemption right
exercised by a Unitholder through the issuance of shares of our common stock
("Redemption Shares"), whereupon we will acquire the Units being redeemed and
will become the owner of such Units. However, we will make the determination
whether to pay cash or issue shares of common stock upon redemption of Units at
the time Units are tendered for redemption. Any such determination will be made
based on all of the facts and circumstances at the time, including the
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availability of cash, whether the acquisition of Units for cash is a good
investment and the market price of shares of common stock. If we acquire Units
in this way, the acquisition will be treated as a sale to us for federal income
tax purposes. See "--Tax Consequences of Redemption" below. Upon redemption,
the Unitholder will not be entitled to receive distributions with respect to the
Units redeemed (but if Units are exchanged for Redemption Shares, the Unitholder
will have rights as our shareholder from the time the Redemption Shares are
acquired).
A Unitholder must notify us, as the general partner of the Operating
Partnership, of the Unitholder's desire to require the Operating Partnership to
redeem Units by sending a notice in the form attached as an exhibit to the
Partnership Agreement, a copy of which we can provide to you upon request. The
Unitholder must request the redemption of at least 1,000 Units (or all of the
Units held by such holder, if less). The redemption generally will occur on the
tenth business day after the notice is delivered by the Unitholder, except that
no redemption can occur if the delivery of Redemption Shares would be prohibited
under the provisions of our Charter designed to protect our REIT qualification.
Tax Consequences of Redemption
The following discussion summarizes the material federal income tax
considerations that may be relevant to a Unitholder who redeems Units.
Tax Treatment of a Redemption of Units. If we assume and perform the
redemption obligation, the Partnership Agreement provides that the redemption
will be treated as a sale of Units by the Unitholder to us at the time of
such redemption. The sale will be fully taxable to the Unitholder and the
Unitholder will be treated as realizing for tax purposes an amount equal to
the sum of the cash or the value of the Redemption Shares received in the
exchange plus the amount of Operating Partnership nonrecourse liabilities
allocable to the redeemed Units at the time of the redemption.
If we do not elect to assume the obligation to redeem a Unitholder's
Units, the Operating Partnership will redeem the Units for cash. If the
Operating Partnership redeems Units for cash that we contribute to the
Operating Partnership to effect the redemption, the redemption likely would
be treated for tax purposes as a sale of the Units to us in a fully taxable
transaction. The matter, however, is not free from doubt. In that event, the
Unitholder would be treated as realizing an amount equal to the sum of the
cash received in the exchange plus the amount of Operating Partnership
nonrecourse liabilities allocable to the redeemed Units at the time of the
redemption.
If, instead, the Operating Partnership chooses to redeem a Unitholder's
Units for cash that is not contributed by us to effect the redemption, the tax
consequences would be the same as described in the previous paragraph, except
that if the Operating Partnership redeems less than all of a Unitholder's Units,
the Unitholder would not be permitted to recognize any loss occurring on the
transaction and would recognize taxable gain only to the extent that the cash,
plus the share of Operating Partnership nonrecourse liabilities allocable to the
redeemed Units, exceeded the Limited Partner's adjusted basis in all of the
Unitholder's Units immediately before the redemption.
Tax Treatment of a Sale of Units. If a Unit redemption is treated as
a sale of the Unit, the determination of gain or loss will be based on the
difference between the amount realized for tax purposes and the tax basis in
the Unit. See "Basis of Units" below. The "amount realized" will be measured
by the sum of the cash and fair market value of other property received
(e.g., Redemption Shares) plus the portion of the Operating
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Partnership's nonrecourse liabilities allocable to the Unit sold. To the
extent that this amount exceeds the Unitholder's basis in the Unit, the
Unitholder will recognize gain. It is possible that the amount of gain
recognized or even the tax liability resulting from the gain could exceed the
amount of cash and the value of any other property received upon the
disposition.
Except as described below, any gain recognized upon a sale or other
disposition of Units will be treated as gain attributable to the sale or
disposition of a capital asset. To the extent, however, that the portion of the
amount realized attributable to a Unitholder's share of "unrealized receivables"
of the Operating Partnership (as defined in Section 751 of the Code) exceeds the
portion of the Unitholder's basis attributable to those assets, the excess will
be treated as ordinary income. Unrealized receivables include, to the extent not
previously included in Operating Partnership income, any rights to payment for
services rendered or to be rendered. Unrealized receivables also include amounts
that would be subject to recapture as ordinary income if the Operating
Partnership had sold its assets at their fair market value at the time of the
transfer of a Unit.
For individuals, trusts and estates, the maximum rate of tax on the
net capital gain from a sale or exchange of a long-term capital asset (i.e.,
a capital asset held for more than one year) is (1) 20% for sales or
exchanges occurring after December 31, 1997 and (2) if the capital asset is
acquired after December 31, 2000 and held for more than five years, 18%. The
maximum rate for net capital gains attributable to the sale of depreciable
real property held for more than one year is 25% to the extent of the prior
deductions for "unrecaptured Section 1250 gain" (that is depreciation
deductions not otherwise recaptured as ordinary income under the existing
depreciation recapture rules).
The IRS has authority to issue regulations that could, among other
things, apply these rates on a look-through basis in the case of "pass-through"
entities such as us. The IRS has not yet issued such regulations, and if it does
not issue such regulations in the future, the rate of tax that would apply to
the disposition of a Unit by an individual, trust or estate would be determined
based upon the period of time over which the individual, trust or estate held
the Unit. No assurance, however, can be provided that the IRS will not issue
regulations that would provide that the rate of tax that would apply to the
disposition of a Unit by an individual, trust or estate would be determined
based upon the nature of the assets of the Operating Partnership and the periods
of time over which the Operating Partnership held such assets. Moreover, no
assurance can be provided that such regulations would not be applied
retroactively. If such regulations were to apply to the disposition of a Unit,
any gain on such disposition likely would be treated partly as gain from the
sale of a long-term capital asset, partly as gain from the sale of a short-term
capital asset (i.e., a capital asset held for one year or less), and partly as
gain from the sale of depreciable real property.
Basis of Units. In general, a Unitholder who received Units in exchange
for a contribution of property had an initial tax basis in the Units equal to
the Unitholder's basis in the contributed property. His initial basis generally
is increased by (a) the Unitholder's share of Operating Partnership taxable
income and (b) increases in the Unitholder's share of the liabilities of the
Operating Partnership (including any increase in the Unitholder's share of
nonrecourse liabilities). His initial basis generally is decreased (but not
below zero) by (1) the Unitholder's share of Operating Partnership
distributions, (2) decreases in the Unitholder's share of liabilities of the
Operating Partnership (including any decrease in the Unitholder's share of
nonrecourse liabilities of the Operating Partnership occurring in connection
with the acquisition of 2000 Commonwealth or subsequently), (3) the Unitholder's
share of losses of the Operating Partnership, and (4) the Unitholder's share of
nondeductible expenditures of the Operating Partnership that are not chargeable
to capital.
Potential Application of the Disguised Sale Rules to a Redemption of
Units. There is a risk that a redemption of Units may cause the original
transaction pursuant to which the Units
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were issued to be treated as a "disguised sale" of property, if the original
transaction otherwise would have qualified as a tax deferred contribution of
property to the Operating Partnership. Unless an exception applies, a
partner's contribution of property to a partnership and a simultaneous or
subsequent transfer of money or other consideration (including the assumption
of or taking subject to a liability) from the partnership to the partner may
be treated as a sale, in whole or in part, of the property by the partner to
the partnership. If money or other consideration is transferred by a
partnership to a partner within two years of the partner's contribution of
property, the transactions are presumed to be a sale of the contributed
property unless the facts and circumstances clearly establish that the
transfers do not constitute a sale. If two years have passed between the
transfer of money or other consideration and the contribution of property,
the transactions will not be presumed to be a sale unless the facts and
circumstances clearly establish that the transfers constitute a sale.
If a Unit is redeemed, particularly if it is redeemed within two years
of when it was issued, the IRS might contend that the original transaction
pursuant to which the Unit was issued should be treated as a disguised sale.
Comparison of Ownership of Units And Common Stock
Generally, the nature of an investment in our common stock is
substantially equivalent economically to an investment in Units in the Operating
Partnership. A holder of a share of common stock receives the same distribution
that a holder of a Unit receives and shareholders and Unitholders generally
share in the risks and rewards of ownership in our enterprise (through the
Operating Partnership). However, there are some differences between ownership of
Units and ownership of shares of common stock, some of which may be material to
investors.
The information below highlights a number of the material differences
between us and the Operating Partnership relating to, among other things, form
of organization, permitted investments, policies and restrictions, management
structure, compensation and fees, investor rights and federal income taxation,
and compares certain legal rights associated with the ownership of Units and
common stock, respectively. These comparisons are intended to assist Limited
Partners of the Operating Partnership in understanding how their investment will
be changed if their Units are redeemed for common stock. This is only a summary
is not complete, thus you should carefully review the entire prospectus for
additional important information about us and the potential effects of your
investment.
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Form of Organization and Assets Owned
-------------------------------------
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OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
The Operating Partnership is organized as a Delaware limited partnership. The
Operating Partnership owns interests (directly and through a subsidiary) in the
Properties and, through subsidiaries, conducts our management and leasing
business.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
We are a Maryland corporation. We elected to be taxed as a REIT under the Code
and intend to maintain our qualification as a REIT. Our only significant asset
is our interest in the Operating Partnership, which gives us an indirect
investment in the properties owned by the Operating Partnership.
Length of Investment
--------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
The Operating Partnership has a stated term of 99 years.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
We have a perpetual term and intend to continue our operations for an indefinite
time period.
Permitted Investments
---------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
The Operating Partnership's purpose is to conduct any business that may be
lawfully conducted by a limited partnership organized pursuant to the Act,
provided that such business is to be conducted in a manner that permits us to be
qualified as a REIT (unless we cease to qualify as a REIT). The Operating
Partnership is authorized to perform any and all acts for the furtherance of its
purposes and business, provided that the Operating Partnership may not take, or
refrain from taking, any action which, in our judgment (1) could adversely
affect our ability to continue to qualify as a REIT, (2) could subject us to any
additional taxes under Section 857 or Section 4981 of the Code, or (3) could
violate any law or regulation of any governmental body (unless we consent to
such action, or inaction).
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Under our Charter, we may engage in any lawful activity permitted by the General
Corporation Law of Maryland. However, under the Operating Partnership Agreement
we, as general partner, may not conduct any business other than the business of
the Operating Partnership and cannot own any assets other than our interest in
the Operating Partnership, except for any wholly owned special purpose corporate
subsidiary which serves as the general partner of a partnership owned at least
99%, directly or indirectly, by the Operating Partnership and other assets
necessary to carry out our responsibility under the Partnership Agreement or our
Charter.
17
<PAGE>
Additional Equity
-----------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
The Operating Partnership is authorized to issue Units and such other
partnership interests (including partnership interests of different series or
classes that may be senior to Units) as we may determine in our sole discretion
as its general partner. The Operating Partnership may issue Units and other
partnership interests to us, as long as such interests are issued in connection
with a comparable issuance of our capital stock and proceeds raised in
connection with the issuance of such capital stock are contributed to the
Operating Partnership. In addition, the Operating Partnership will issue
additional Units or shares of common stock upon exercise of the options granted
pursuant to the Plans. The issuance of additional Units or other similar equity
securities may result in the dilution of the interests of the Unitholders.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
We may issue, in the discretion of our Board of Directors, additional equity
securities consisting of common stock or any other series of capital stock
(which may be classified and issued as a variety of equity securities, including
one or more classes of common or preferred stock, in the discretion of the Board
of Directors), provided that the total number of shares issued does not exceed
the authorized number of shares of capital stock set forth in our Charter. The
issuance of additional shares of common stock, Preferred Shares or other similar
equity securities may result in the dilution of the interests of the
shareholders.
Borrowing Policies
------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
The Operating Partnership has no restrictions on borrowings, and we, as general
partner, have full power and authority to borrow money on behalf of the
Operating Partnership. Our Board of Directors has adopted a policy that
currently limits the debt-to-total market capitalization ratio of the Operating
Partnership to 60%, but the Board of Directors may alter this policy at any
time.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
We are not restricted under our Charter from incurring borrowings. However,
under the Partnership Agreement, we, as general partner, may not incur any debts
except those for which we may be liable as general partner of the Operating
Partnership and in certain other limited circumstances. Therefore, all debt we
incur will be through the Operating Partnership.
18
<PAGE>
Other Investment Restrictions
-----------------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Other than restrictions precluding investments by the Operating Partnership that
would adversely affect our REIT qualification and general restrictions on
transactions with affiliates, there are no restrictions upon the Operating
Partnership's authority to enter into certain transactions, including among
others, making investments, lending Operating Partnership funds, or re-investing
the Operating Partnership's cash flow and net sale or refinancing proceeds.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Neither our Charter nor our By-Laws impose any restrictions upon the types of
investments that we may make, except that under our Charter, the Board of
Directors cannot take any action that would terminate our REIT status, unless a
majority of the shareholders vote to terminate such REIT status. Our Charter and
By-Laws do not impose any restrictions upon dealings between us and our
directors, officers and affiliates. Applicable corporate law, however, requires
that the material facts of the relationship, the interest and the transaction
must (1) be disclosed to the Board of Directors and approved by the affirmative
vote of a majority of the disinterested directors; or (2) be disclosed to the
shareholders and approved by the affirmative vote of a majority of the
disinterested shareholders; or (3) be in fact fair and reasonable. In addition,
we have adopted a policy which requires that all contracts and transactions
between us and our directors, officers or affiliates must be approved by the
affirmative vote of a majority of the disinterested directors. Lastly, we have
adopted a policy that we must conduct our investment activities through the
Operating Partnership for so long as the Operating Partnership exists.
19
<PAGE>
Management Control
------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Generally, all management powers over the business and affairs of the Operating
Partnership are vested in us as general partner of the Operating Partnership,
and no limited partner of the Operating Partnership has any right to participate
in or exercise control or management power over the business and affairs of the
Operating Partnership. Exceptions to this are that:
- we cannot take any action in contravention of the Partnership
Agreement without written consent of all the Limited Partners;
- we cannot dispose of all or substantially all of the Operating
Partnership's assets without the consent of the holders of a
majority of the outstanding Units;
- until December 31, 2013, we cannot cause or permit the
Operating Partnership to dissolve if one or more of the
original Limited Partners objects to such dissolution; and
- from January 1, 2014 through December 31, 2043, we, as general
partner of the Operating Partnership, cannot cause or permit
the Operating Partnership to dissolve if original Limited
Partners holding at least 5% of the Units object to such
dissolution.
The Limited Partners cannot remove us as general partner with or without cause.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
The Board of Directors has exclusive control over our business and affairs
subject only to the restrictions in our Charter and By-Laws, the Partnership
Agreement and applicable law. The Board of Directors is classified into three
classes of directors. At each annual meeting of the shareholders, the successors
of the class of directors whose terms expire at that meeting will be elected.
The policies adopted by the Board of Directors may be altered or eliminated
without a vote of the shareholders. Accordingly, except for their vote in the
elections of directors, shareholders will have no control over our ordinary
business policies. The Board of Directors cannot change our policy of
maintaining our REIT status, however, without the approval of a majority of the
shareholders with voting rights.
20
<PAGE>
Fiduciary Duties
----------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Under Delaware law, we, as general partner of the Operating Partnership, are
accountable to the Operating Partnership as a fiduciary. We are, therefore,
required to exercise good faith and integrity in all of our dealings relating to
partnership affairs. However, under the Partnership Agreement, we are under no
obligation to consider the separate interests of the Limited Partners in
deciding whether to cause the Operating Partnership to take (or decline to take)
any actions, and we are not liable for monetary damages for losses sustained,
liabilities incurred, or benefits not derived by the Limited Partners in
connection with such decisions, provided that we have acted in good faith.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Under Maryland law, the directors must perform their duties in good faith, in a
manner that they reasonably believe to be in our best interests and with the
care of an ordinarily prudent person in a like position. Our directors who act
in such a manner generally will not be liable to us for monetary damages arising
from their activities.
Management Liability and Indemnification
----------------------------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
As a matter of Delaware law, we, as the general partner of the Operating
Partnership, are liable for the obligations and debts of the Operating
Partnership, unless limits as to such liability are stated in the document or
instrument evidencing the obligation. Under the Partnership Agreement, the
Operating Partnership agreed to indemnify us or any of our directors or officers
from and against all losses, claims, damages, liabilities, joint or several,
expenses (including legal fees), fines, settlements and other amounts incurred
in connection with any specified actions relating to the operations of the
Operating Partnership in which we or any such director or officer is involved.
The Operating Partnership will not indemnify us or our directors or officers,
however, if an act was done in bad faith and was material to the lawsuit, any of
us received an improper personal benefit, or in the case of any criminal
proceeding, any of us had reasonable cause to believe an act we did was
unlawful. The Operating Partnership may reimburse reasonable expenses incurred
by an indemnitee in advance of the final disposition of the proceeding if the
Operating Partnership receives an affirmation by the indemnitee of his, her or
its good faith belief that the standard of conduct necessary for indemnification
has been met and an undertaking by such indemnitee to repay the amount if it is
determined that such standard was not met.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Our Charter provides that the liability of our directors and officers to us and
to our shareholders for money damages is limited to the fullest extent permitted
under Maryland law. Our and state law provide broad indemnification to directors
and officers, whether serving us or at our request any other entity, to the full
extent permitted under Maryland law.
21
<PAGE>
Antitakeover Provisions
-----------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Except in limited circumstances (see "Voting Rights" on page 23 below), we have
exclusive management power over the business and affairs of the Operating
Partnership. The limited partners cannot remove us as the general partner of the
Operating Partnership with or without cause. Under the Partnership Agreement, we
may, in our sole discretion, prevent a limited partner from transferring an
interest in the Operating Partnership or any rights as a limited partner except
in certain limited circumstances. We may exercise this right of approval to
deter, delay or hamper attempts by persons to acquire a majority interest in the
Operating Partnership.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Our Charter and By-Laws and the MGCL contain a number of provisions that may
delay or discourage an unsolicited proposal to acquire us or to remove incumbent
management. These provisions include, among others:
- a staggered Board of Directors;
- authorized capital stock that may be classified and issued as a
variety of equity securities in the discretion of the Board of
Directors, including securities having superior voting rights to the
common stock;
- restrictions on business combinations with persons who acquire more
than a certain percentage of common stock;
- a requirement that directors may be removed only for cause and only
by a vote of at least 80% of the outstanding common stock; and
- provisions designed to avoid concentration of share ownership in a
manner that would jeopardize our REIT status under the Code.
22
<PAGE>
Voting Rights
-------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Under the Partnership Agreement, Limited Partners have voting rights only as to
the dissolution of the Operating Partnership, the sale of all or substantially
all of the assets of the Operating Partnership and amendments of the Partnership
Agreement, as more fully described below. Otherwise, all decisions relating to
the operation and management of the Operating Partnership are made by us as its
general partner. As of September 30, 1998, we owned approximately 56% of the
Units. As Units are redeemed by partners, our percentage ownership of the Units
will increase. If additional Units are issued to third parties, our percentage
ownership of the Units will decrease.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
We are managed and controlled by a Board of Directors consisting of three
classes having staggered terms of office. Each class is elected by the
shareholders at our annual meetings. Maryland law requires that certain major
corporate transactions, including most amendments to our Charter, may not be
consummated without the approval of shareholders as set forth below. All shares
of common stock have one vote, and our Charter permits the Board of Directors to
classify and issue capital stock in one or more series having voting power that
may differ from that of the common stock.
Amendment of the Partnership Agreement or the Charter
-----------------------------------------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
We or any Limited Partner holding 25% or more of the Units may propose to amend
the Partnership Agreement. Such proposal, in order to be effective, must be
approved by the written vote of holders of at least a majority in interest of
the Operating Partnership. In addition, we may, without the consent of the
Limited Partners, amend the Partnership Agreement as to ministerial matters.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Amendments to our Charter must be approved by the Board of Directors and by the
vote of at least two-thirds of the votes entitled to be cast at a meeting of
shareholders. However, an amendment of the provisions relating to the classified
Board of Directors, the power to remove directors and the share ownership limits
designed to maintain qualified REIT status must be approved by an 80% vote. An
amendment relating to termination of REIT status requires a majority vote of the
shareholders entitled to vote for such a matter.
Vote Required to Dissolve the Operating Partnership or the Company
------------------------------------------------------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Through December 31, 2013, we cannot elect to dissolve the Operating Partnership
if any original Limited Partner who became a limited partner on June 30, 1994
holding Units issued at such time objects to such dissolution. From January 1,
2014 through December 31, 2043, we cannot elect to dissolve the Operating
Partnership if any original Limited Partner who became a limited partner on June
30, 1994 and who held at least 5% of the Units on June 30, 1994 objects to such
dissolution. After January 1, 2044, we may dissolve the Operating Partnership
without the consent of the Limited Partners, in ours sole discretion.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Under Maryland law, the Board of Directors must obtain approval of holders of at
least two-thirds of the outstanding shares of common stock in order to dissolve
the Company.
23
<PAGE>
Vote Required to Sell Assets
----------------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Under the Partnership Agreement, we cannot sell, exchange, transfer or otherwise
dispose of all or substantially all of the Operating Partnership's assets
without the consent of holders of a majority of the outstanding Units.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Under Maryland law, the Board of Directors is required to obtain approval of the
shareholders by the affirmative vote of two-thirds of all the votes entitled to
be cast on the matter in order to sell all or substantially all of our assets.
No approval of the shareholders is required for the sale of less than all or
substantially all of our assets.
Vote Required to Merge
----------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Under the Partnership Agreement, we cannot merge or consolidate the Operating
Partnership without the consent of holders of a majority of the outstanding
Units.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Under Maryland law, the Board of Directors is required to obtain approval of the
shareholders by the affirmative vote of two-thirds of all the votes entitled to
be cast on the matter in order to merge or consolidate us.
Compensation, Fees and Distributions
------------------------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
We do not receive any compensation for our services as the general partner of
the Operating Partnership. As a partner in the Operating Partnership, however,
we have the same right to allocations and distributions as other partners of the
Operating Partnership. In addition, the Operating Partnership reimburses us for
all expenses incurred relating to our ongoing operation and any other offering
of additional Units or shares of common stock, including all expenses, damages
and other payments resulting from or arising in connection with litigation
related to these matters.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Our directors receive compensation for their services.
Liability of Investors
----------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Under the Partnership Agreement and applicable state law, the liability of the
Limited Partners for the Operating Partnership's debts and obligations is
generally limited to the amount of their investment in the Operating
Partnership, together with an interest in any undistributed income, if any.
Units, upon issuance, will be fully paid and nonassessable.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Under Maryland law, shareholders are not personally liable for our debts or
obligations. Shares of common stock, upon issuance, will be fully paid and
nonassessable.
24
<PAGE>
Review of Investor Lists
------------------------
- --------------------------------------------------------------------------------
OPERATING PARTNERSHIP
- --------------------------------------------------------------------------------
Under the Partnership Agreement, Limited Partners, upon written demand with a
statement of the purpose of such demand and at the limited partner's expense,
are entitled to obtain a current list of the name and last known business,
residence or mailing address of each Limited Partner of the Operating
Partnership.
- --------------------------------------------------------------------------------
COMPANY
- --------------------------------------------------------------------------------
Under Maryland law, a shareholder holding at least 5% of our outstanding stock
may upon written request inspect and copy during usual business hours our
shareholder list.
The following compares certain of the investment attributes and legal
rights associated with the ownership of Units and Shares.
Nature of Investment
--------------------
- --------------------------------------------------------------------------------
UNITS
- --------------------------------------------------------------------------------
The Units constitute equity interests entitling each Limited Partner to his pro
rata share of cash distributions made to the Limited Partners of the Operating
Partnership. The Operating Partnership generally intends to retain and reinvest
proceeds of the sale of property or excess refinancing proceeds in its business.
- --------------------------------------------------------------------------------
SHARES
- --------------------------------------------------------------------------------
Shares of our common stock constitute equity interests in us. We are entitled to
receive our pro rata share of distributions made by the Operating Partnership
with respect to the Units, and each shareholder is entitled to a pro rata share
of any dividends or distributions paid with respect to the common stock. The
dividends payable to the shareholders are not fixed in amount and are only paid
if, when and as declared by the Board of Directors. In order to qualify as a
REIT, we must distribute at least 95% of our taxable income (excluding capital
gains), and any taxable income (including capital gains) not distributed will be
subject to corporate income tax.
Potential Dilution of Rights
----------------------------
- --------------------------------------------------------------------------------
UNITS
- --------------------------------------------------------------------------------
We are authorized, in our sole discretion and without Unitholder approval, to
cause the Operating Partnership to issue additional limited partnership
interests and other equity securities for any partnership purpose at any time to
the Unitholders or to other persons on terms we may establish. The issuance of
additional Units or other similar equity securities may result in the dilution
of the interests of the Unitholders.
- --------------------------------------------------------------------------------
SHARES
- --------------------------------------------------------------------------------
The Board of Directors may issue, in its discretion, additional shares of common
stock and Preferred Shares and has the authority to issue from the authorized
capital stock a variety of our other equity securities with such powers,
preferences and rights as the Board of Directors may designate at the time. The
issuance of additional shares of common stock, Preferred Shares or other similar
equity securities may result in the dilution of the interests of the
shareholders.
25
<PAGE>
Liquidity
---------
- --------------------------------------------------------------------------------
UNITS
- --------------------------------------------------------------------------------
Units may be transferred by a Limited Partner only with our consent, which
consent may be withheld in our sole discretion. We will permit transfers of
Units only in connection with gifts, bequests and transfers by a Unit holder to
family members and certain other persons. Subject to certain conditions, each
Unitholder has the right to elect to have the Unitholder's Units redeemed by the
Operating Partnership. Upon redemption, such Limited Partner will receive, at
our election, either shares of common stock or the cash equivalent in exchange
for such Units.
- --------------------------------------------------------------------------------
SHARES
- --------------------------------------------------------------------------------
Our common stock is freely transferable. The common stock is listed on the NYSE,
and a public market for the common stock exists. The breadth and strength of
this secondary market will depend, among other things, upon the number of shares
outstanding, our financial results and prospects, the general interest in us and
in our real estate investments, and our dividend yield compared to that of other
debt and equity securities.
Taxation
--------
- --------------------------------------------------------------------------------
UNITS
- --------------------------------------------------------------------------------
The Operating Partnership will not be subject to federal income taxes. Instead,
each holder of Units includes his allocable share of the Operating Partnership's
taxable income or loss in determining his individual federal income tax
liability. The maximum effective federal tax rate for individuals under current
law is 39.6%.
Income and loss from the Operating Partnership generally will be subject to the
"passive activity" limitations. Under the "passive activity" rules, income and
loss from the Operating Partnership that is considered "passive income"
generally can be offset against income and loss from other investments that
constitute "passive activities" (unless the Operating Partnership is considered
a "publicly traded partnership," in which case income and loss from the
Operating Partnership can be offset only against other income and loss from the
Operating Partnership). Income of the Operating Partnership, however,
attributable to dividends from the Property Service Businesses or interest paid
by the Property Service Businesses will not qualify as passive income and cannot
be offset with losses and deductions from a "passive activity" (including losses
and deductions attributable to the Operating Partnership's multifamily rental
activities).
Cash distributions from the Operating Partnership will not be taxable to a
holder of Units except to the extent they exceed such holder's basis in his
interest in the Operating Partnership (which will include such holder's
allocable share of the Operating Partnership's debt).
Each year, holders of Units will receive a Schedule K-1 tax form containing
detailed tax information for inclusion in preparing their federal income tax
returns.
Holders of Units will be required, in some cases, to file state income tax
returns and/or pay state income taxes in the states in which the Operating
Partnership owns property, even if they are not residents of those states.
26
<PAGE>
- --------------------------------------------------------------------------------
SHARES
- --------------------------------------------------------------------------------
The Company has elected to be taxed as a REIT. So long as it qualifies as a
REIT, the Company will be permitted to deduct distributions paid to its
shareholders, which effectively will reduce the "double taxation" that typically
results when a corporation earns income and distributes that income to its
shareholders in the form of dividends. The Property Service Businesses, however,
will not qualify as REITs and thus they will be subject to federal income tax on
their net income at normal corporate rates. The maximum effective tax rate for
corporations under current law is 35%.
Dividends paid by the Company will be treated as "portfolio" income and cannot
be offset with losses from "passive activities."
Distributions made by the Company to its taxable domestic shareholders out of
current or accumulated earnings and profits will be taken into account by them
as ordinary income. Distributions in excess of current or accumulated earnings
and profits that are not designated as capital gain dividends will be treated as
a non-taxable return of basis to the extent of a shareholder's adjusted basis in
its shares of Common Stock, with the excess taxed as capital gain. Distributions
that are designated as capital gain dividends generally will be taxed as gains
from the sale or exchange of a capital asset held for more than one year (to the
extent they do not exceed the Company's actual net capital gain for the taxable
year). For the Company's taxable years commencing on or after January 1, 1998,
the Company may elect to require its shareholders to include the Company's
undistributed net capital gains in their income. If the Company so elects,
shareholders would include their proportionate share of such gains in their
income and be deemed to have paid their share of the tax paid by the Company on
such gains.
Each year, Shareholders will receive Form 1099 used by corporations to report
dividends paid to their shareholders.
Shareholders who are individuals generally will not be required to file state
income tax returns and/or pay state income taxes outside of their state of
residence with respect to the Company's operations and distributions. The
Company may be required to pay state income taxes in certain states.
27
<PAGE>
FEDERAL INCOME TAX CONSIDERATIONS
General
The following discussion summarizes the material federal income tax
considerations to a prospective holder of common stock. The following discussion
is for general information only, is not exhaustive of all possible tax
considerations, and is not intended to be and should not be construed as tax
advice. For example, it does not include a detailed discussion of any state,
local or foreign tax considerations. Nor does it discuss all of the aspects of
federal income taxation that may be relevant to a prospective shareholder in
light of its particular circumstances or to certain types of shareholders
(including insurance companies, tax-exempt entities, financial institutions or
broker-dealers, foreign corporations and persons who are not citizens or
residents of the United States) who are subject to special treatment under the
federal income tax laws.
The information in this section is based on the Code, current,
temporary and proposed Treasury Regulations, the legislative history of the
Code, current administrative interpretations and practices of the IRS (including
its practices and policies as endorsed in private letter rulings, which are not
binding on the IRS except with respect to the taxpayer that receives the
ruling), and court decisions, all as of the date hereof. No assurance can be
given that future legislation, Treasury Regulations, administrative
interpretations and court decisions will not significantly change current law or
adversely affect existing interpretations of existing law. Any such change could
apply retroactively to transactions preceding the date of the change. Except as
described below in "--Requirements for Qualification--Income Tests," the Company
has not received any rulings from the IRS concerning the tax treatment of the
Company. Therefore, no assurance can be provided that the statements made in the
following discussion, which do not bind the IRS or the courts, will not be
challenged by the IRS or will be sustained by a court if so challenged.
As used in this discussion, the term "Company" refers
solely to Charles E. Smith Residential Realty, Inc.
Each prospective holder of common stock is urged to consult with its
own tax advisor to determine the impact of its personal tax situation on the
anticipated tax consequences of the ownership and sale of common stock. This
includes the federal, state, local, foreign and other tax consequences of the
ownership and sale of common stock, and the potential changes in applicable tax
laws.
Taxation of the Company
General. The Company has elected to be taxed as a REIT under Sections 856
through 860 of the Code commencing with its taxable year ending December 31,
1994. The Company believes that it was organized and has operated in conformity
with the requirements for qualification and taxation as a REIT under the Code
and it intends to continue to operate in such a manner. No assurance, however,
can be provided that the Company has operated in a manner so as to qualify as a
REIT or that it will continue to operate in such a manner in the future. The
Company's qualification and taxation as a REIT depend upon the Company's ability
to meet on a continuing basis (through actual annual operating results,
distribution levels and diversity of stock ownership) the various qualification
tests imposed under the Code, which are summarized below. While the Company
intends to operate so that it qualifies as a REIT, given the highly complex
nature of the rules governing REITs, the ongoing importance of factual
determinations, and the possibility of future changes in the circumstances of
the Company, no assurance can be given that the actual results of the operations
of the Company for any taxable year has satisfied or will satisfy the
requirements under the Code for qualification and taxation as a REIT. Further,
the anticipated income tax
28
<PAGE>
treatment described herein may be changed, perhaps retroactively, by
legislative, administrative or judicial action at any time. See "-- Failure to
Qualify."
The following is a general summary of the Code provisions that govern
the federal income tax treatment of a REIT and its shareholders. These
provisions of the Code are highly technical and complex. This summary is
qualified in its entirety by the applicable Code provisions, Treasury
Regulations, and administrative and judicial interpretations thereof, all of
which are subject to change prospectively or retroactively.
In any year in which the Company qualifies for taxation as a REIT, it
generally will not be subject to federal corporate income taxes on net income
that it distributes currently to shareholders. This treatment substantially
eliminates the "double taxation" (at the corporate and shareholder levels) that
generally results from investment in a corporation. However, the Company will be
subject to federal income tax on any income that it does not distribute, and in
some circumstances, on certain types of income even though that income is
distributed. In addition, the Property Services Businesses, which do not qualify
as REITs, are subject to federal corporate income tax on their net income.
Requirements for Qualification.
Organizational Requirements. The Code defines a REIT
as a corporation, trust or association--
(1) that is managed by one or more trustees or directors;
(2) the beneficial ownership of which is evidenced by transferable shares,
or by transfer certificates of beneficial interest;
(3) that would be taxable as a domestic corporation, but for Sections 856
through 859 of the Code;
(4) that is neither a financial institution nor an insurance company
subject to certain provisions of the Code;
(5) the beneficial ownership of which is held by 100 or more persons;
(6) during the last half of each taxable year not more than 50% in value of
the outstanding stock of which is owned, directly or indirectly, by five or
fewer individuals (as defined in the Code to include certain entities); and
(7) that meets certain other tests, described below, regarding the nature
of its income and assets.
The Code provides that conditions (1) through (4), inclusive, must be
met during the entire taxable year and that condition (5) must be met during at
least 335 days of a taxable year of 12 months, or during a proportionate part of
a taxable year of less than 12 months. The Company believes that it currently
satisfies requirements (1) through (6). In addition, the Company's Charter
includes restrictions regarding the transfer of its shares that are intended to
assist the Company in continuing to satisfy the share ownership requirements
described in (5) and (6) above. See "Description of Capital Stock--Restrictions
on Transfer; Excess Stock on page 11." Moreover, if the Company complies with
regulatory rules pursuant to which it is required to send annual letters to
holders of common stock requesting information regarding the actual ownership of
the common stock, and the Company does not know, or exercising reasonable
diligence would not have known,
29
<PAGE>
whether it failed to meet requirement (6) above, the Company will be treated as
having met the requirement.
Gross Income Tests. In order to maintain qualification as a REIT, the
Company must satisfy two gross income requirements, which are applied on an
annual basis. First, at least 75% of the Company's gross income (excluding gross
income from prohibited transactions) for each taxable year must be derived
directly or indirectly from investments relating to real property or mortgages
on real property (including "rents from real property" and, in certain
circumstances, interest) or from certain types of temporary investments. Second,
at least 95% of the Company's gross income (excluding gross income from
prohibited transactions) for each taxable year must be derived from sources that
qualify for purposes of the 75% test, and from dividends, interest and gain from
the sale or disposition of stock or securities, or from any combination of the
foregoing. In addition, for its taxable years ending on or before December 31,
1997, the Company was required to derive less than 30% of the its gross income
(including gross income from prohibited transactions) from short-term gain from
the sale or other disposition of stock or securities, gain from prohibited
transactions and gain on the sale or other disposition of real property held for
less than four years (apart from involuntary conversions and sales of
foreclosure property).
Rents received by the Company will qualify as "rents from real
property" in satisfying the gross income requirements for a REIT described
above only if several conditions (relating to the identity of the tenant, the
computation of the rent payable, and the nature of the property leased) are
met. The Company believes that the portion, if any, of the rents that it
receives that fails to qualify as "rents from real property" has been and
will continue to be sufficiently small that the Company will satisfy the 75%
and 95% gross income tests. The Company's belief with respect to this matter,
however, is based upon the advice of counsel with respect to certain
technical issues regarding the determination of "rents from real property"
that are not definitively answered under the Code, the Treasury Regulations,
and published administrative interpretations. There can be no assurance that
the IRS will agree with these conclusions.
In addition, for rents received to qualify as "rents from real
property," the Company generally must not operate or manage the property or
furnish or render services to tenants, other than through an "independent
contractor" from whom the Company derives no revenue. The "independent
contractor" requirement, however, does not apply to the extent the services are
"usually or customarily rendered" in connection with the rental space for
occupancy only and are not otherwise considered "rendered to the occupant"
("Permissible Services"). The Operating Partnership itself and the Property
Service Businesses, which are not independent contractors, provide certain
services with respect to the Properties. The Company received rulings from the
IRS that the provision of certain of these services will not cause the rents
received with respect to the Properties to fail to qualify as "rents from real
property." The Company also received rulings from the IRS to the effect that
certain revenues (including rents from corporate apartments, revenues from
laundry equipment, certain parking revenues, and certain revenues related to the
provision of telephone and cable television services) will qualify as "rents
from real property." Based upon its experience in the multifamily and retail
property rental markets in which the Company's properties are located, the
Company believes that all services provided to tenants by the Company (whether
through the Operating Partnership or through the Property Services Businesses)
should be considered "usually or customarily rendered" in connection with the
rental of apartments or retail space, as applicable, for occupancy only,
although there can be no assurance that the IRS will not contend otherwise. In
this regard, if the Operating Partnership contemplates providing services that
reasonably might be expected not to meet the "usual or customary" standard, it
will arrange to have such services provided by an independent contractor from
which neither the Company nor the Operating Partnership receives any income.
Rents received generally will qualify as rents from real property
notwithstanding the fact that the Company provides services that are not
Permissible Services so long as the amount received
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for such services meets a de minimis standard. The amount received for
"impermissible services" with respect to a property (or, if services are
available only to certain tenants, possibly with respect to such tenants) cannot
exceed one percent of all amounts received, directly or indirectly, by the REIT
with respect to such property (or, if services are available only to certain
tenants, possibly with respect to such tenants). The amount that a REIT will be
deemed to have received for performing "impermissible services" will be the
greater of the actual amount so received or 150% of the direct cost to the REIT
of providing those services.
The Operating Partnership may receive fees for the performance of
property management and other services with respect to properties in which the
Operating Partnership has a partial interest. Only the portion of the management
fee that corresponds to the Operating Partnership's interest in such properties
will qualify as "rents from real property," with the balance being nonqualifying
income. The Operating Partnership also may receive certain other types of
non-qualifying income (including, for example, certain expense reimbursements,
and dividends and interest from the Property Service Businesses (which qualify
under the 95% gross income test but not under the 75% gross income test)). The
Company believes, however, that the aggregate amount of such fees and other
non-qualifying income in any taxable year will not cause the Company to exceed
the limits on non-qualifying income under the 75% and 95% gross income tests.
If the Company fails to satisfy one or both of the 75% or the 95% gross
income tests for any taxable year, it may nevertheless qualify as a REIT for
such year if it is entitled to relief under certain provisions of the Code. It
is not possible, however, to state whether in all circumstances the Company
would be entitled to the benefit of these relief provisions. Even if these
relief provisions were to apply, a 100% tax would be imposed with respect to the
"excess net income" attributable to the failure to satisfy the 75% and 95% gross
income tests.
Asset Tests. At the close of each quarter of the Company's taxable
year, the Company must satisfy three tests relating to the nature of its assets.
First, at least 75% of the value of the Company's total assets must be
represented by "real estate assets," cash, cash items, and government
securities. Second, not more than 25% of the Company's total assets may be
represented by securities, other than those in the 75% asset class. Third, of
the investments included in the 25% asset class, the value of any one issuer's
securities owned by the Company may not exceed 5% of the value of the Company's
total assets, and the Company may not own more than 10% of any one issuer's
outstanding voting securities. The Operating Partnership owns 100% of the
nonvoting stock of each of the Property Service Businesses. In addition, the
Operating Partnership holds notes from each of the Property Service Businesses,
and by virtue of its ownership of Units, the Company will be considered to own
its pro rata share of the assets of the Operating Partnership, including the
securities of each of the Property Service Businesses described above. The
Operating Partnership, however, does not own more than 10% of the voting
securities of any of the Property Service Businesses. In addition, the Company
believes that the Company's pro rata share of the value of the securities of
each of the Property Service Businesses does not exceed 5% of the total value of
the Company's assets. There can be no assurance, however, that the IRS might not
contend either that the value of the securities of one or more of the Property
Service Businesses exceeds the 5% value limitation, or that all or some of the
Property Service Businesses shall be viewed as a single corporation for purposes
of the 5% value limitation and that the value of the securities of that
corporation exceeds the 5% limitation, or that the nonvoting stock of one or
more of the Property Service Businesses should be considered "voting securities"
for purposes of the 10% limitation.
The 5% value requirement must be satisfied not only on the date the
Company acquired securities of the Property Service Businesses, but also each
time the Company increases its ownership of securities of the Property Service
Businesses (including as a result of increasing its interest in the Operating
Partnership as Limited Partners exercise their rights to have Units redeemed for
shares of common stock or, at the option of the Company, cash). Although the
Company plans to take steps to ensure that it satisfies the 5% value test for
any quarter with respect
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to which retesting is to occur, there can be no assurance that such steps always
will be successful or will not require a reduction in the Operating
Partnership's overall interest in the Property Service Businesses.
On February 2, 1998, the Clinton administration released its budget
proposal for fiscal year 1999. The proposal includes a number of provisions
affecting REITs. One proposed provision would amend the 10% limitation described
above to preclude a REIT from owning more than 10% of the vote or value of all
classes of stock of any one issuer (other than a qualified REIT subsidiary or
another REIT). Stock currently owned by the Company in the Property Service
Businesses would be "grandfathered" (i.e., with respect to such stock, the
Company would be subject only to the existing 10% voting securities test
described above). However, if the corporation in which such grandfathered stock
is held were to engage in a new trade or business or acquire substantial new
assets, the grandfathered status would terminate. Accordingly, if the proposal
were enacted as currently drafted and the Property Service Businesses (in which
the Company's stock ownership exceeds 10% of the value of the securities) were
to engage in a new trade or business or acquire substantial new assets after the
effective date, the grandfathered status of the Company's ownership of stock in
these entities would terminate and the Company would fail to qualify as a REIT.
Moreover, the Company would not be able to own more than 10% of the vote or
value of any subsidiary formed after the effective date of the proposal. Thus,
the proposal, if enacted as currently drafted, would materially impede the
ability of the Company to engage in new third-party management or similar
activities. Although the proposal is not expected to be enacted in 1998, it
cannot be predicted whether, in what form, or with what effective date, any
future legislation affecting the Company might be enacted.
Annual Distribution Requirements. To qualify as a REIT, the Company
generally must distribute dividends to its shareholders in an amount at least
equal to (1) the sum of (a) 95% of the Company's REIT taxable income (computed
without regard to the dividends paid deduction and the Company's net capital
gain) and (b) 95% of the net income (after tax), if any, from foreclosure
property, minus (2) the sum of certain items of noncash income. Distributions
must be made either during the taxable year to which they relate or, if certain
procedures are followed, during the subsequent taxable year. The Company will be
subject to tax on amounts not distributed at regular capital gains and ordinary
income rates.
In addition, if the Company fails to distribute during each calendar
year at least the sum of 85% of its ordinary income, 95% of its capital gain net
income and 100% of its undistributed income from prior years, it will be subject
to a 4% nondeductible excise tax on the excess of this required amount over the
sum of the amounts it actually distributes and amounts retained with respect to
which it pays federal income tax.
The Company believes that it has made, and intends to continue to make,
timely distributions sufficient to satisfy the annual distribution requirements.
It is possible, however, that the Company, from time to time, may not have
sufficient cash or other liquid assets to meet the 95% distribution requirement.
In that event, the Company may cause the Operating Partnership to arrange for
short-term, or possibly long-term, borrowing to permit the payments of required
dividends.
Failure to Qualify. If the Company fails to qualify for taxation as a
REIT in any taxable year and the relief provisions do not apply, the Company
will be subject to tax (including any applicable alternative minimum tax) on its
taxable income at regular corporate rates. Unless entitled to relief under
specific statutory provisions, the Company also will be disqualified from
taxation as a REIT for the four taxable years following the year during which
qualification was lost. It is not possible to state whether in all circumstances
the Company would be entitled to such statutory relief.
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Tax Aspects of the Company's Investments in the Operating Partnership and
Property Service Businesses
General. All of the Company's investments are through the Operating
Partnership, and the Operating Partnership holds substantially all of the
Properties through certain subsidiary partnerships. This structure may involve
special tax considerations. These tax considerations include: (a) the
allocations of income and expense items of the Operating Partnership and such
subsidiary partnerships, which could affect the computation of taxable income of
the Company, (b) the status of the Operating Partnership and each such
subsidiary partnership as partnership (as opposed to an association taxable as a
corporation) for income tax purposes, and (c) the taking of actions by the
Operating Partnership or any of such subsidiary partnerships that could
adversely affect the Company's qualification as a REIT. The Company believes
that the Operating Partnership and each of the subsidiary partnerships will be
treated for tax purposes as a partnership (and not as an association taxable as
a corporation). If, however, the Operating Partnership or any of such subsidiary
partnerships were treated as an association taxable as a corporation, the
Company would fail to qualify as a REIT for a number of reasons.
Tax Allocations with Respect to the Properties. The Operating Partnership
was formed by way of contributions of appreciated property (including certain of
the Properties) to the Partnership at the time of its formation, and it has
acquired a number of properties by contribution since that time. When property
is contributed to a partnership in exchange for an interest in the partnership,
the partnership generally takes a carryover basis in that property for tax
purposes equal to the adjusted basis of the contributing partner in the
property, rather than a basis equal to the fair market value of the property at
the time of contribution (this difference is referred to as a "Book-Tax
Difference"). The Partnership Agreement requires such allocations to be made in
a manner consistent with Section 704(c) of the Code and the regulations
thereunder, which allocations will tend to eliminate the Book-Tax Differences
with respect to the contributed Properties over the life of the Operating
Partnership. However, because of certain technical limitations, the special
allocation rules of Section 704(c) of the Code may not always entirely eliminate
the Book-Tax Difference on an annual basis or with respect to a specific taxable
transaction such as a sale. Thus, the carryover basis of the contributed
Properties in the hands of the Operating Partnership could cause the Company (1)
to be allocated lower amounts of depreciation and other deductions for tax
purposes than would be allocated to the Company if all Properties were to have a
tax basis equal to their fair market value at the time of the Formation
Transactions or a subsequent acquisition, and (2) possibly to be allocated
taxable gain in the event of a sale of such contributed Properties in excess of
the economic or book income allocated to the Company as a result of such sale.
Property Service Businesses. A substantial portion of the amounts used
by the Operating Partnership to fund distributions to partners (which in turn
are used by the Company to fund distributions to holders of common stock) comes
from the Property Service Businesses, through payments on notes issued by the
Property Service Businesses and dividends on non-voting stock of the Property
Service Businesses held by the Operating Partnership. The Property Service
Businesses do not qualify as REITs and thus pay federal, state and local income
taxes on their net income at normal corporate rates. The Property Service
Businesses attempt to limit the amount of such taxes. There can be no assurance,
however, whether or the extent to which measures taken to limit taxes will be
successful. Moreover, even if those measures are successful, future increases in
the income of the Property Service Businesses inevitably will be subject to
income tax. To the extent that the Property Service Businesses are required to
pay federal, state and local income taxes, the cash available for distribution
to shareholders will be reduced accordingly. In addition, as described above,
the value of the securities of each of the Property Service Businesses held by
the Operating Partnership cannot exceed 5% of the value of the Operating
Partnership's assets at a time when a Limited Partner exercises his redemption
right (or the Company otherwise is considered to acquire additional securities
of a Property Service Business) and the Company cannot own 10% or more of
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the voting securities of the Property Service Businesses. See "--Requirements
for Qualification--Asset Tests." These limitations may restrict the ability of
the Property Service Businesses to increase the size of their respective
businesses unless the value of the assets of the Operating Partnership is
increasing at a commensurate rate, and they prohibit the Operating
Partnership from exercising control over the Property Service Businesses.
Taxation of Shareholders
Taxation of Taxable Domestic Shareholders. As used herein, the term
"U.S. Shareholder" means a holder of common stock who (for United States federal
income tax purposes) is (1) a citizen or resident of the United States, (2) a
corporation, partnership, or other entity created or organized in or under the
laws of the United States or of any political subdivision thereof, (3) an estate
or trust the income of which is subject to United States federal income taxation
regardless of its source, or (iv) a trust whose administration is subject to the
primary supervision of a United States court and which has one or more United
States persons who have the authority to control all substantial decisions of
the trust.
As long as the Company qualifies as a REIT, distributions made to the
Company's taxable U.S. Shareholders out of current or accumulated earnings and
profits (and not designated as capital gain dividends) will be taken into
account by them as ordinary income, and corporate shareholders will not be
eligible for the dividends received deduction as to such amounts. For purposes
of determining whether the distributions on shares of common stock are out of
current or accumulated earnings and profits, the earnings and profits of the
Company will be allocated first to shares of preferred stock and second to
shares of common stock. There can be no assurance that the Company will have
sufficient earnings and profits to cover any distributions on preferred stock.
Distributions that are designated as capital gain dividends will be
taxed to taxable non-corporate (i.e., individuals, estates, or trusts) U.S.
shareholders as gains from the sale or exchange of a capital asset held for more
than one year (to the extent they do not exceed the Company's actual net capital
gain for the taxable year) without regard to the period for which such
shareholders have held their stock. On November 10, 1997, the IRS issued Notice
97-64, which provides generally that the Company may classify portions of its
designated capital gain dividend as (1) a 20% gain distribution (which would be
taxable to taxable non-corporate U.S. Shareholders at a maximum rate of 20%),
(2) an unrecaptured Section 1250 gain distribution (which would be taxable to
taxable non-corporate U.S. Shareholders at a maximum rate of 25%), or (3) a 28%
gain distribution (which would be taxable to taxable non-corporate U.S.
Shareholders at a maximum rate of 28%). In light of the IRS Restructuring and
Reform Act of 1998, which eliminates the 18-month holding period that was
required to be met to take advantage of the lowest capital gain tax rates, the
IRS is expected to issue clarifying guidance regarding the designation of REIT
capital gain dividends. Notice 97-64 provides that a REIT must determine the
maximum amounts that it may designate as 20% and 25% capital gain dividends by
performing the computation required by the Code as if the REIT were an
individual whose ordinary income were subject to a marginal tax rate of at least
28%. Notice 97- 64 further provides that designations made by the REIT only will
be effective to the extent that they comply with Revenue Ruling 89-81, which
requires that distributions made to different classes of shares be composed
proportionately of dividends of a particular type.
Distributions made by the Company that are properly designated as
capital gain dividends will be taxable to taxable corporate U.S. Shareholders as
long-term gain (to the extent that they do not exceed the Company's actual net
capital gain for the taxable year) without regard to the period for which such
corporate U.S. Shareholders have held their common stock. Such corporate U.S.
Shareholders, however, may be required to treat up to 20% of certain capital
gain dividends as ordinary income.
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Distributions in excess of current and accumulated earnings and profits
will not be taxable to a taxable U.S. Shareholder to the extent that they do not
exceed the adjusted basis of such U.S. Shareholder's common stock, but rather
will reduce the adjusted basis of such common stock. To the extent that such
distributions exceed the adjusted basis of a taxable U.S. Shareholder's common
stock, they will be included in income as capital gains, assuming the common
stock is a capital asset in the hands of the shareholder.
In general, a taxable U.S. Shareholder will realize gain or loss on
the disposition of common stock equal to the difference between (1) the
amount of cash and the fair market value of any property received on such
disposition and (2) the U.S. Shareholder's adjusted basis of such common
stock. Such gain or loss will be capital gain or loss if the common stock has
been held as a capital asset. In the case of a taxable U.S. Shareholder that
is a corporation, such capital gain or loss will be long-term capital gain or
loss if such common stock has been held for more than one year. Generally, in
the case of a taxable non-corporate U.S. Shareholder, such capital gain or
loss will be taxed (1) for dispositions occurring after December 31, 1997, at
a maximum rate of 20% and (2) for dispositions occurring after December 31,
2000, at a maximum rate of 18% if the common stock is acquired after December
31, 2000 and held for more than five years. The Taxpayer Relief Act of 1997
(the "1997 Act") allows the IRS to issue regulations relating to how the 1997
Act's new capital gain rates will apply to sales of capital assets by
"pass-through entities," which include REITs such as the Company, and to
sales of interests in "pass-through entities." To date, the IRS has not
issued such regulations, but if issued, such regulations could affect the
taxation of gain and loss realized on the disposition of common stock.
Shareholders are urged to consult with their own tax advisors with respect to
the new rules contained in the 1997 Act.
Loss upon a sale or exchange of common stock by a taxable U.S.
Shareholder who has held such common stock for six months or less (after
applying certain holding period rules) will be treated as long-term capital loss
to the extent of distributions from the Company required to be treated by such
shareholder as long-term capital gain. For a taxable non-corporate U.S.
Shareholder, the long-term capital loss will be apportioned among the applicable
long-term capital gain groups to the extent that distributions received by such
U.S. Shareholder were previously so treated.
The Company may elect to require the holders of common stock to include
the Company's undistributed net capital gains in their income. If the Company
makes such an election, the holders of common stock will (1) include in their
income as long-term capital gains their proportionate share of such
undistributed capital gains and (2) be deemed to have paid their proportionate
share of the tax paid by the Company on such undistributed capital gains and
thereby receive a credit or refund for such amount. A holder of common stock
will increase the basis in its common stock by the difference between the amount
of capital gain included in its income and the amount of the tax it is deemed to
have paid. The earnings and profits of the Company will be adjusted
appropriately.
Under certain circumstances, U.S. Shareholders may be subject to backup
withholding at the rate of 31% with respect to dividends paid.
Taxation of Tax-Exempt Shareholders. The Company does not expect the
distributions by the Company to a shareholder that is a tax-exempt entity will
constitute "unrelated business taxable income" ("UBTI"), provided that the
tax-exempt entity has not financed the acquisition of its common stock with
"acquisition indebtedness" within the meaning of the Code, and the common stock
is not otherwise used in an unrelated trade or business of the tax-exempt
entity. For a tax-exempt shareholder that is a social club, voluntary employee
benefit association, supplemental unemployment benefit trust, or qualified group
legal services plan exempt from federal income taxation under Code Sections 501
(c)(7), (c)(9), (c)(17) or (c)(20), respectively, income from an investment in
the Company will constitute UBTI unless the organization is able to properly
deduct amounts set aside or placed in reserve for certain purposes so as to
offset the income generated by its
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investment in the Company. Such a prospective shareholder should consult its own
tax advisors concerning these "set aside" and reserve requirements.
Taxation of Non-U.S. Shareholders. The rules governing U.S. federal income
taxation of nonresident alien individuals, foreign corporations, foreign
partnerships and other foreign shareholders (collectively, "Non-U.S.
Shareholders") are complex, and no attempt will be made herein to provide more
than a limited summary of such rules. Prospective Non-U.S. Shareholders should
consult with their own tax advisors to determine the impact of U.S. federal,
state and local income tax laws with regard to an investment in common stock,
including any reporting requirements.
Distributions that are not attributable to gain from sales or exchanges by
the Company of U.S. real property interests and not designated by the Company as
capital gain dividends will be treated as dividends of ordinary income to the
extent that they are made out of current or accumulated earnings and profits of
the Company. Such distributions, ordinarily, will be subject to a withholding
tax equal to 30% of the gross amount of the distribution unless an applicable
tax treaty reduces that tax. Distributions in excess of current and accumulated
earnings and profits of the Company will not be taxable to a shareholder to the
extent that they do not exceed the adjusted basis of the shareholder's common
stock, but rather will reduce the adjusted basis of such common stock. To the
extent that such distributions exceed the adjusted basis of a Non-U.S.
Shareholder's common stock, they will give rise to tax liability if the Non-U.S.
Shareholder otherwise would be subject to tax on any gain from the sale or
disposition of his common stock as described below. To the extent that such
distributions exceed the adjusted basis of a Non-U.S. Shareholder's common
stock, they will give rise to gain from the sale or exchange of its common
stock, the tax treatment of which is described below. As a result of a
legislative change made by the Small Business Job Protection Act of 1996, it
appears that the Company will be required to withhold 10% of any distribution in
excess of the Company's current and accumulated earnings and profits.
Consequently, although the Company intends to withhold at a rate of 30% on the
entire amount of any distribution (or a lower applicable treaty rate), to the
extent that the Company does not do so, any portion of a distribution not
subject to withholding at a rate of 30% (or a lower applicable treaty rate) will
be subject to withholding at a rate of 10%. However, the Non-U.S. Shareholder
may seek a refund of such amounts from the IRS if it subsequently determined
that such distribution was, in fact, in excess of current or accumulated
earnings and profits of the Company, and the amount withheld exceeded the
Non-U.S. Shareholder's United States tax liability, if any, with respect to the
distribution.
For any year in which the Company qualifies as a REIT, distributions
that are attributable to gain from sales or exchanges by the Company of U.S.
real property interests (whether or not designated as a capital gain dividend)
will be taxed to a Non-U.S. Shareholder under the provisions of the Foreign
Investment in Real Property Tax Act of 1980 ("FIRPTA"), at the normal capital
gain rates applicable to U.S. shareholders (subject to applicable alternative
minimum tax and a special alternative minimum tax in the case of nonresident
alien individuals). Also, distributions subject to FIRPTA may be subject to a
30% branch profits tax in the hands of a corporate Non-U.S. Shareholder not
entitled to treaty relief or exemption. The Company is required by applicable
Treasury Regulations to withhold 35% of any distribution that could be
designated by the Company as a capital gain dividend. This amount is creditable
against the Non-U.S. Shareholder's FIRPTA tax liability.
Although the law is not entirely clear on the matter, it appears that
amounts designated by the Company pursuant to the 1997 Act as undistributed
capital gains in respect of shares of common stock (see "Taxation of
Shareholders --Taxation of Taxable Domestic Shareholders" above) would be
treated with respect to Non-U.S. Shareholders in the manner outlined in the
preceding paragraph for actual distributions by the Company of capital gain
dividends. Under that approach, the Non-U.S. Shareholders would be able to
offset as a credit against their United States federal income tax liability
resulting therefrom their proportionate share of the tax paid by the Company on
such
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undistributed capital gains (and to receive from the IRS a refund to the extent
their proportionate share of such tax paid by the Company were to exceed their
actual United States federal income tax liability).
Gain recognized by a Non-U.S. Shareholder upon a sale of common stock
generally will not be taxed under FIRPTA if the Company is a "domestically
controlled REIT," defined generally as a REIT in which at all times during a
specified testing period less than 50% in value of the stock was held directly
or indirectly by foreign persons. The Company believes that it currently is a
"domestically controlled REIT," and, therefore, the sale of common stock will
not be subject to taxation under FIRPTA. If the gain on the sale of common stock
were to be subject to tax under FIRPTA, the Non-U.S. Shareholder would be
subject to the same treatment as U.S. shareholders with respect to such gain
(subject to applicable alternative minimum tax and a special alternative minimum
tax in the case of nonresident alien individuals), and the purchaser of the
common stock would be required to withhold and remit to the IRS 10% of the
purchase price.
Backup Withholding Tax and Information Reporting. Backup withholding tax
(which generally is a withholding tax imposed at the rate of 31% on certain
payments to persons that fail to furnish certain information under the United
States information reporting requirements) and information reporting will
generally not apply to distributions paid to Non-U.S. Shareholders outside the
United States that are treated as (1) dividends subject to the 30% (or lower
treaty rate) withholding tax discussed above, (2) capital gains dividends or (3)
distributions attributable to gain from the sale or exchange by the Company of
United States real property interests. As a general matter, backup withholding
and information reporting will not apply to a payment of the proceeds of a sale
of common stock by or through a foreign office of a foreign broker. Information
reporting (but not backup withholding) will apply, however, to a payment of the
proceeds of a sale of common stock by a foreign office of a broker that (a) is a
United States person, (b) derives 50% or more of its gross income for certain
periods from the conduct of a trade or business in the United States or (c) is a
"controlled foreign corporation" (generally, a foreign corporation controlled by
United States shareholders) for United States tax purposes, unless the broker
has documentary evidence in its records that the holder is a Non-U.S.
Shareholder and certain other conditions are met, or the shareholder otherwise
establishes an exemption. Payment to or through a United States office of a
broker of the proceeds of a sale of common stock is subject to both backup
withholding and information reporting unless the shareholder certifies under
penalty of perjury that the shareholder is a Non-U.S. Shareholder, or otherwise
establishes an exemption. A Non-U.S. Shareholder may obtain a refund of any
amounts withheld under the backup withholding rules by filing the appropriate
claim for refund with the IRS.
The IRS has recently finalized regulations regarding the withholding and
information reporting rules discussed above. In general, these regulations do
not alter the substantive withholding and information reporting requirements but
unify certification procedures and forms and clarify and modify reliance
standards. Pursuant to IRS Notice 98-16, these regulations generally will be
effective for payments made after December 31, 2000, subject to certain
transition rules. Valid withholding certificates that are held on December 31,
1999, will remain valid until the earlier of December 31, 2000 or the date of
expiration of the certificate under rules currently in effect (unless otherwise
invalidated due to changes in the circumstances of the person whose name is on
such certificate). A Non-U.S. Shareholder should consult its own advisor
regarding the effect of these regulations.
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Other Tax Considerations
Recent Legislation. The 1997 Act contains a number of technical
provisions that either (1) reduce the risk that the Company will
inadvertently cease to qualify as a REIT, or (2) provide additional
flexibility with which the Company can meet the REIT qualification
requirements.
State and Local Taxes; District of Columbia Unincorporated Business
Tax. The Company and its shareholders may be subject to state or local taxation
in various state or local jurisdictions, including those in which it or they
transact business or reside. The state and local tax treatment of the Company
and its shareholders may not conform to the federal income tax consequences
discussed above. Consequently, prospective shareholders should consult their own
tax advisors regarding the effect of state and local tax laws on an investment
in common stock.
In this regard, the District of Columbia imposes an unincorporated
business income tax, at an effective rate of 9.975% on the "District of Columbia
taxable income" of partnerships doing business in the District of Columbia.
Because certain of the Properties are located in the District of Columbia, the
subsidiary partnership owning these properties will be subject to this tax.
Thus, in effect, the Company's share of the "District of Columbia taxable
income" attributable to the Properties located in the District of Columbia will
be subject to this tax. The Operating Partnership and such subsidiary
partnership will attempt to reduce the amount of income that is considered
"District of Columbia taxable income," but it is likely that some portion of the
income attributable to the Properties located in the District of Columbia will
be subject to the District of Columbia tax. To the extent the Operating
Partnership or such subsidiary partnership is required to pay the District of
Columbia unincorporated business income tax, the cash available for distribution
to the Company and, therefore, to its shareholders as dividends will be reduced
accordingly. Moreover, a shareholder of the Company will not receive a credit
against its own state income tax liability for its share of any District of
Columbia unincorporated business income tax paid by the Operating Partnership or
such subsidiary partnership. This tax would not apply if the Company were to own
and operate its assets directly, rather than through the Operating Partnership;
however, the Company's ability to eliminate the Operating Partnership and thus
own its assets directly is severely limited.
PLAN OF DISTRIBUTION
We may issue the shares of common stock covered by this prospectus to
Commonwealth Reservoir Park Limited Partnership (or its partners, if that
partnership distributes its Units to its partners in the future), if that
partnership (or any of its partners) requests redemption of its Units. A
redeeming Unitholder who receives any shares of common stock covered by this
prospectus will be entitled to sell such shares without restriction in the open
market or otherwise.
We will acquire one Unit from a redeeming Unitholder in exchange for
each Redemption Share that the we issue. Thus, with each redemption, our
interest in the Operating Partnership will increase.
AVAILABLE INFORMATION
We have filed with the SEC a Registration Statement (of which this
Prospectus is a part) on Form S-3 under the Securities Act with respect to the
securities offered in this prospectus. This prospectus does not contain all the
information set forth in the Registration Statement, certain portions of which
have been omitted as permitted by the rules and regulations of the SEC.
Statements contained in this prospectus as to the content of any contract or
other document are not necessarily complete, and, therefore, we recommend that
you refer to the copy of any such contract or other document filed as an exhibit
to the Registration Statement. Any statement relating to any
38
<PAGE>
such contract or document is qualified in all respects by its copy contained in
the exhibits and schedules incorporated by reference into this prospectus. For
further information about us and our common stock offered in this prospectus,
refer to the Registration Statement and its exhibits and schedules.
We are subject to the informational requirements of the Securities
Exchange Act (the "Exchange Act"). We have filed reports and other information
with the SEC and are subject to the periodic reporting and informational
requirements of the Exchange Act. The Registration Statement, its exhibits and
schedules, as well as such reports and other information we have filed with the
SEC can be inspected and copies obtained from the SEC at Room 1204, Judiciary
Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549, and at the following
regional offices of the SEC: 7 World Trade Center, 13th Floor, New York, New
York 10048 and Northwestern Atrium Center, 500 West Madison Street, Suite 1400,
Chicago, Illinois 60661-2511. You can obtain copies of such material and
information on the operation of the Public Reference Room at 450 Fifth Street,
N.W., Washington, D.C. 20549, at prescribed rates, or by calling the SEC at
1-800-SEC-0330. The SEC also maintains a Web site at http://www.sec.gov that
contains reports, proxy and information statements and other information
regarding registrants that file electronically with the SEC. Our electronic SEC
filings may also be obtained from our website at http://www.smithreit.com. In
addition, our common stock is listed on the NYSE and similar information about
us can be inspected and copied at the offices of the NYSE, 20 Broad Street, New
York, New York 10005.
We furnish our equityholders with annual reports containing
consolidated financial statements audited by our independent public accountants
and, upon request by its equityholders, quarterly reports containing unaudited
condensed consolidated financial statements for each of the first three quarters
of each fiscal year.
INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE
We file annual, quarterly and special reports, proxy statements and
other information with the SEC (using file number 1-13174). You may read and
copy any document we file at the SEC's public reference rooms in Washington,
D.C., New York, New York and Chicago, Illinois. Please call the SEC at
1-800-SEC-0330 for further information on the public reference rooms. Our
electronic SEC filings are also available to the public at the SEC's web site at
http://www.sec.gov.
The SEC allows us to "incorporate by reference" the information we file
with them, which means that we can disclose important information to you by
referring you to those documents. The information incorporated by reference is
considered to be part of this prospectus, and later information filed with the
SEC will update and supersede this information. We incorporate by reference the
documents listed below and any future filings made with the SEC under Section
13(a), 13(c), 14 or 15(d) of the Securities Exchange Act of 1934.
1. Registration Statement on Form 8-A filed on August 16, 1994
registering our common stock under Section 12(b) of the
Exchange Act.
2. Annual Report on Form 10-K for the year ended December 31, 1997.
3. Quarterly Reports on Form 10-Q for the quarter ended March 31, 1998
(as amended on Form 10-Q/A), and for the quarter ended June 30, 1998.
4. Current Reports on Form 8-K dated April 17, 1998 (as amended on Form
8-K/A) and July 1, 1998.
39
<PAGE>
You may request a copy of these filings (other than exhibits and
schedules to such filings, unless such exhibits or schedules are specifically
incorporated by reference into this prospectus), at no cost, by writing or
calling us at the following address
Charles E. Smith Residential Realty,
Inc.
2345 Crystal Drive
Arlington, Virginia 22202
Attention: Mr. Gregory Samay, Vice
President and Treasurer
(703) 769-1020
You should rely on the information incorporated by reference or
provided in this prospectus. We have authorized no one to provide you with
different information. We are not making an offer of the common stock in any
state where the offer is not permitted. You should not assume that the
information in this prospectus is accurate as of any date other than the date on
the front of this document.
EXPERTS
Our financial statements for the fiscal year ended December 31, 1997
and the related schedule incorporated by reference in this prospectus and
elsewhere in the Registration Statement have been audited by Arthur Andersen
LLP, independent public accountants, as indicated in their report dated February
9, 1998 relating to such financial statements, and are included in this
prospectus in reliance upon the authority of Arthur Andersen LLP as experts in
giving such report.
The consolidated balance sheets of McClurg Court Associates Limited
Partnership as of December 31, 1997 and 1996, and the related consolidated
statements of income, changes in partners' capital and cash flows for the years
then ended incorporated by reference in this prospectus and elsewhere in the
Registration Statement, have been audited by Altschuler, Melvoin and Glasser
LLP, independent public accountants, as indicated in their report dated February
17, 1998 with respect thereto, and are included herein in reliance upon the
authority of Altschuler, Melvoin and Glasser LLP as experts in giving such
report.
LEGAL MATTERS
In connection with this prospectus, Hogan & Hartson L.L.P., Washington,
D.C. has provided its opinion as to the validity of the issuance of the common
stock offered by this prospectus and the discussion of tax matters in this
prospectus.
40
<PAGE>
You should rely on the information incorporated by reference or provided in this
prospectus. We have authorized no one to provide you with different information.
We are not making an offer of the common stock in any state where the offer is
not permitted. You should not assume that the information in this prospectus is
accurate as of any date other than the date on the front of this document.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
<S> <C>
Prospectus Summary............................... 1
Risk Factors..................................... 3
Description of Capital Stock 8
Shares Available for Future Sale 13
Redemption of Units.............................. 13
Federal Income Tax Considerations 28
Plan of Distribution............................. 38
Available Information............................ 38
Incorporation of Certain Documents by Reference
................................................. 39
Experts.......................................... 40
Legal Matters.................................... 40
</TABLE>
[LOGO]
464,667 Shares
Charles E. Smith
Residential Realty, Inc.
Common Stock
PROSPECTUS
October __, 1998
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
Item 14. Other Expenses of Issuance and Distribution
The following table sets forth those expenses for distribution to be
incurred in connection with the issuance and distribution of the securities
being registered.
<TABLE>
<S> <C>
Registration Fee.................................... $4,164
Printing and Duplicating Expenses................... 1,000
Legal Fees and Expenses............................. 30,000
Accounting Fees and Expenses........................ 10,000
Blue Sky Fees and Expenses.......................... 5,000
Miscellaneous....................................... 1,000
-----------
Total............................................... $51,164
-----------
-----------
</TABLE>
Item 15. Indemnification of Trustees and Officers
The Company's officers and directors are and will be indemnified under
Maryland law, the Charter of the Company, and the Partnership Agreement against
certain liabilities. The Charter requires the Company to indemnify its directors
and officers to the fullest extent permitted from time to time by the laws of
Maryland. The Company's Charter also provides that, to the fullest extent
permitted under Maryland law, directors and officers of the Company will not be
liable to the Company and its shareholders for money damages.
Section 2-418 of the Maryland General Corporation Law generally permits
indemnification of any director made a party to any proceedings by reason of
service as a director unless it is established that (i) the act or omission of
such person was material to the matter giving rise to the proceeding and was
committed in bad faith or was the result of active and deliberate dishonesty; or
(ii) such person actually received an improper personal benefit in money
property or services; or (iii) in the case of any criminal proceeding, such
person had reasonable cause to believe that the act or omission was unlawful.
The indemnity may include judgments, penalties, fines, settlements and
reasonable expenses actually incurred by the director in connection with the
proceeding; but, if the proceeding is one by or in the right of the corporation,
indemnification is not permitted with respect to any proceeding in which the
director has been adjudged to be liable to the corporation, or if the proceeding
is one charging improper personal benefit to the director, whether or not
involving action in the director's official capacity, indemnification of the
director is not permitted if the director was adjudged to be liable on the basis
that personal benefit was improperly received. The termination of any proceeding
by conviction or upon a plea of nolo contendere or its equivalent, or any entry
of an order of probation prior to judgment, creates a rebuttable presumption
that the director did not meet the requisite standard of conduct required for
permitted indemnification. The termination of any proceeding by judgment, order
or settlement, however, does not create a presumption that the director failed
to meet the requisite standard of conduct for permitted indemnification.
The Partnership Agreement also provides for indemnification of the
Company, or any director or officer of the Company, in its capacity as general
partner of the Operating Partnership, from and against all losses, claims,
damages, liabilities, joint or several, expenses (including legal fees), fines,
settlements and other amounts incurred in connection with any actions relating
to the operations of the Operating Partnership as set forth in the Partnership
Agreement.
Item 16. Exhibits
<TABLE>
<S> <C>
*3.1 Amended and Restated Articles of Incorporation of the
Company
**3.2 Articles Supplementary relating to Series A
Cumulative Convertible Redeemable Preferred Stock
***3.3 Articles Supplementary relating to Series B
Cumulative Convertible Redeemable Preferred Stock
***3.4 Certificate of Correction relating to Series B
Cumulative
Convertible Redeemable Preferred Stock
****3.5 Articles Supplementary relating to Series C Cumulative
Redeemable Preferred Stock
*****3.6 Certificate of Correction relating to Series C
Cumulative Redeemable Preferred Stock
******3.7 Amended and Restated Bylaws of the Company
</TABLE>
II-1
<PAGE>
<TABLE>
<S> <C>
*******4.1 First Amended and Restated Agreement of Limited
Partnership of the Operating Partnership, as amended
*******4.2 Certificate of Limited Partnership of the
Operating Partnership
5.1 Opinion of Hogan & Hartson L.L.P. regarding legality of
the Common Stock
8.1 Opinion of Hogan & Hartson L.L.P. regarding certain tax
matters
23.1 Consent of Hogan & Hartson L.L.P. (included in Exhibit 5.1)
23.2 Consent of Arthur Andersen LLP
23.3 Consent of Altschuler, Melvoin and Glasser LLP
24 Power of Attorney (included on signature page (II-4))
</TABLE>
* Incorporated by reference to Exhibit 3.1 to the Company's registration
statement on Form S-11 (File No. 33-75288).
** Incorporated by reference to Exhibit 3.1 to the Company's quarterly
report on Form 10-Q for the quarter ended June 30, 1997
(File No. 1-13174).
*** Incorporated by reference to Exhibit 4.1 to the Company's current
report on Form 8-K dated October 3, 1997 (File No. 1-13174).
**** Incorporated by reference to Exhibit 3.5 to the Company's registration
statement on Form S-3 (File No. 333-17053).
***** Incorporated by reference to Exhibit 3.6 to the Company's registration
statement on Form S-3 (File No. 333-17053).
****** Incorporated by reference to Exhibit 3.2 to the Company's registration
statement on Form S-3 (File No. 33-93986).
******* Incorporated by reference to the same titled and numbered exhibit to
the Company's Annual Report on Form 10-K for the year ended
December 31, 1994 (File No. 1-13174).
Item 17. Undertakings
The undersigned Registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being made,
a post-effective amendment to this registration statement:
(i) To include any prospectus required by Section
10(a)(3) of the Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising
after the effective date of the registration statement (or the most recent
post-effective amendment thereof) which, individually or in the aggregate,
represent a fundamental change in the information set forth in this registration
statement. Notwithstanding the foregoing, any increase or decrease in volume of
securities offered (if the total dollar value of securities offered would not
exceed that which was registered) and any deviation from the low or high end of
the estimated maximum offering range may be reflected in the form of prospectus
filed with the SEC pursuant to Rule 424(b) if, in the aggregate, the changes in
volume and price represent no more than 20 percent change in the maximum
aggregate offering price set forth in the "Calculation of registration Fee"
table in the effective registration statement;
(iii) To include any material information with respect to the
plan of distribution not previously disclosed in the registration statement or
any material change to such information in this registration statement;
provided, however, that paragraphs (a)(1)(i) and (a)(1)(ii) do not apply if the
registration statement is on Form S-3, Form S-8 or Form F-3, and the information
required to be included in a post-effective amendment by those paragraphs is
contained in the periodic reports filed by the registrant pursuant to Section 13
or Section 15(d) of the Securities Exchange Act of 1934 that are incorporated by
reference in this registration statement.
(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall be deemed to be
a new registration statement relating to the Securities offered herein, and the
offering of such Securities at that time shall be deemed to be the initial bona
fide offering thereof.
(3) To remove from registration by means of a post-effective amendment
any of the Securities being registered which remain unsold at the termination of
the offering.
II-2
<PAGE>
The undersigned Registrant hereby further undertakes that, for the
purposes of determining any liability under the Securities Act of 1933, each
filing of the Registrant's annual report pursuant to Section 13(a) or Section
15(d) of the Securities Exchange Act of 1934 that is incorporated by reference
in this registration statement shall be deemed to be a new registration
statement relating to the Securities offered herein, and the offering of such
Securities at that time shall be deemed to be the initial bona fide offering
thereof. The undersigned Registrant hereby further undertakes that:
(1) For purposes of determining any liability under the Securities Act
of 1933, the information omitted from the form of prospectus filed as part of
this registration statement in reliance under Rule 430A and contained in a form
of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or
497(h) under the Securities Act of 1933 shall be deemed to be part of this
registration statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities
Act of 1933, each post-effective amendment that contains a form of prospectus
shall be deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling persons of
the Registrant pursuant to the provisions described under Item 15 of this
registration statement, or otherwise (other than insurance), the Registrant has
been advised that in the opinion of the Securities and Exchange Commission such
indemnification is against public policy as expressed in such Act and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the Registrant of expenses incurred
or paid by a director, officer or controlling person of the Registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the Securities being
registered, the Registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in such Act and will be governed by the final adjudication
of such issue.
II-3
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the
Registrant certifies that it has reasonable grounds to believe that it meets all
the requirements for filing on Form S-3 and has duly caused this Registration
Statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the County of Arlington, Commonwealth of Virginia, on October 23,
1998.
CHARLES E. SMITH RESIDENTIAL REALTY, INC.
By: /s/ Ernest A. Gerardi, Jr.
----------------------------------------------
Name: Ernest A. Gerardi, Jr.
Title: President and Chief Operating Officer
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints each of Ernest A. Gerardi, Jr. and Robert D.
Zimet, or either one of them, as true and lawful attorney-in-fact, with full
power of substitution, for him and in his name, place and stead, in any and all
capacities, to sign any amendments to this Registration Statement (including
post-effective amendments), and to file the same, with all exhibits thereto, and
other documents in connection therewith, with the Securities and Exchange
Commission, hereby ratifying and confirming all that said attorney-in-fact may
lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities and on the dates indicated:
<TABLE>
<CAPTION>
Name Title Date
---- ----- ----
<S> <C> <C>
/s/ Robert H. Smith Co-Chairman of the Board, October 23,1998
- --------------------------------- Co-Chief Executive Officer, and Director
Robert H. Smith
/s/ Robert P. Kogod Co-Chairman of the Board, October 23,1998
- --------------------------------- Co-Chief Executive Officer, and Director
Robert P. Kogod
/s/ Ernest A. Gerardi, Jr. President, Chief October 23,1998
- --------------------------------- Operating Officer,
Ernest A. Gerardi, Jr. and Director
/s/ Wesley D. Minami Senior Vice President and October 23,1998
- --------------------------------- Chief Financial Officer
Wesley D. Minami
/s/ Steven E. Gulley Vice President, October 23,1998
- --------------------------------- Controller, and Chief
Steven E. Gulley Accounting Officer
</TABLE>
II-4
<PAGE>
<TABLE>
<S> <C> <C>
/s/ Fred J. Brinkman Director October 23,1998
- ---------------------------------
Fred J. Brinkman
/s/ Charles B. Gill Director October 23,1998
- ---------------------------------
Charles B. Gill
/s/ Mandell J. Ourisman Director October 23,1998
- ---------------------------------
Mandell J. Ourisman
/s/ Mallory Walker Director October 23,1998
- ---------------------------------
Mallory Walker
</TABLE>
II-5
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit Sequentially
Number Exhibit Description Numbered Page
- ------- ------------------- -------------
<S> <C> <C>
*3.1 Amended and Restated Articles of Incorporation of the Company............
**3.2 Articles Supplementary relating to Series A Cumulative...................
Convertible Redeemable Preferred Stock...................................
***3.3 Articles Supplementary relating to Series B Cumulative...................
Convertible Redeemable Preferred Stock...................................
***3.4 Certificate of Correction relating to Series B Cumulative................
Convertible Redeemable Preferred Stock...................................
****3.5 Articles Supplementary relating to Series C Cumulative...................
Redeemable Preferred Stock...............................................
*****3.6 Certificate of Correction relating to Series C Cumulative................
Redeemable Preferred Stock...............................................
******3.7 Amended and Restated Bylaws of the Company...............................
*******4.1 First Amended and Restated Agreement of Limited Partnership
of the Operating Partnership, as amended.................................
*******4.2 Certificate of Limited Partnership of the Operating Partnership..........
5.1 Opinion of Hogan & Hartson L.L.P. regarding legality of the
Common Stock.............................................................
8.1 Opinion of Hogan & Hartson L.L.P. regarding certain tax
matters..................................................................
23.1 Consent of Hogan & Hartson L.L.P. (included in Exhibit 5.1)..............
23.2 Consent of Arthur Andersen LLP...........................................
23.3 Consent of Altschuler, Melvoin and Glasser LLP...........................
24 Power of Attorney (included on signature page (II-4))
</TABLE>
* Incorporated by reference to Exhibit 3.1 to the Company's registration
statement on Form S-11 (File No. 33-75288).
** Incorporated by reference to Exhibit 3.1 to the Company's quarterly
report on Form 10-Q for the quarter ended June 30, 1997 (File No.
1-13174).
*** Incorporated by reference to Exhibit 4.1 to the Company's current
report on Form 8-K dated October 3, 1997 (File No. 1-13174).
**** Incorporated by reference to Exhibit 3.5 to the Company's registration
statement on Form S-3 (File No. 333-17053).
***** Incorporated by reference to Exhibit 3.6 to the Company's registration
statement on Form S-3 (File No. 333-17053).
****** Incorporated by reference to Exhibit 3.2 to the Company's registration
statement on Form S-3 (File No. 33-93986).
******* Incorporated by reference to the same titled and numbered exhibit to
the Company's Annual Report on Form 10-K for the year ended December
31, 1994 (File No. 1- 13174).
<PAGE>
Exhibit 5.1
[Letterhead of Hogan & Hartson L.L.P.]
October 23, 1998
Board of Directors
Charles E. Smith Residential Realty, Inc.
2345 Crystal Drive
Crystal City, Arlington, Virginia 22202
Gentlemen:
We are acting as counsel to Charles E. Smith Residential Realty, Inc., a
Maryland corporation (the "Company"), in connection with its registration
statement on Form S-3 (the "Registration Statement") filed with the Securities
and Exchange Commission relating to the proposed issuance of up to 464,667
shares of the Company's common stock, par value $.01 per share (the "Shares"),
which may be issued if and to the extent that the holder of 464,667 units of
limited partnership interest (the "Units") in Charles E. Smith Residential
Realty L.P. (the "Operating Partnership") tenders such Units for redemption.
This opinion letter is furnished to you at your request to enable you to fulfill
the requirements of Item 601(b)(5) of Regulation S-K, 17 C.F.R. Section
229.601(b)(5), in connection with the Registration Statement.
For purposes of the opinion expressed in this letter, which is set forth
below (the "Opinion"), we have examined copies of the following documents:
1. An executed copy of the Registration Statement.
2. The Amended and Restated Articles of Incorporation of the Company, as
certified by the Department of Assessments and Taxation of the State
of Maryland on October 21, 1998 and by the Secretary of the Company
on the date hereof as then being complete, accurate and in effect.
3. The Amended and Restated Bylaws of the Company, as certified by the
Secretary of the Company on the date hereof as then being complete,
accurate and in effect.
<PAGE>
Board of Directors
October 23, 1998
Page 2
4. The Certificate of Limited Partnership of the Operating Partnership,
as amended, as certified by the Secretary of the State of Delaware on
October 20, 1998 and as certified by the Secretary of the Company, as
general partner of the Operating Partnership, on the date hereof as
being complete, accurate and in effect.
5. The First Amended and Restated Agreement of Limited Partnership of
the Operating Partnership, as amended, as certified by the Secretary
of the Company, as general partner of the Operating Partnership, on
the date hereof as being complete, accurate and in effect (the
"Partnership Agreement").
6. Certain resolutions of the Board of Directors of the Company adopted
on July 21, 1998, as certified by the Secretary of the Company on the
date hereof as then being complete, accurate and in effect, relating
to the issuance and sale of the Shares and arrangements in connection
therewith.
In our examination of the aforesaid certificates, documents and agreements,
we have assumed the genuineness of all signatures, the legal capacity of all
natural persons, the accuracy and completeness of all documents submitted to us,
the authenticity of all original documents and the conformity to authentic
original documents of all documents submitted to us as copies (including
telecopies). We also have assumed the authenticity, accuracy and completeness of
the foregoing certifications (of public officials and corporate officers) and
statements of fact, on which we are relying, and have made no independent
investigations thereof. This opinion letter is given, and all statements herein
are made, in the context of the foregoing.
This opinion letter is based as to matters of law solely on
applicable provisions of Maryland law. We express no opinion herein as to any
other laws, statutes, regulations or ordinances or as to compliance with the
securities (or "blue sky") laws or the real estate syndication laws of Maryland.
Based upon, subject to and limited by the foregoing, we are of
the opinion that following (i) effectiveness of the Registration Statement and
(ii) issuance of the Shares, if and when issued and delivered in accordance with
the terms of the Partnership Agreement and the resolutions of the Board of
Directors of the Company authorizing the issuance of the Shares upon redemption
of the Units
<PAGE>
Board of Directors
October 23, 1998
Page 3
as contemplated thereby, the Shares will be validly issued, fully paid and
nonassessable under the laws of the State of Maryland.
We assume no obligation to advise you of any changes in the foregoing
subsequent to the delivery of this opinion letter. This opinion letter has been
prepared solely for your use in connection with the filing of the Registration
Statement on the date of this opinion letter and should not be quoted in whole
or in part or otherwise be referred to, nor filed with or furnished to any
governmental agency or other person or entity, without the prior written consent
of this firm.
We hereby consent to the filing of this opinion letter as Exhibit 5.1 to
the Registration Statement and to the reference to this firm under the caption
"Legal Matters" in the prospectus constituting a part of the Registration
Statement. In giving this consent, we do not thereby admit that we are an
"expert" within the meaning of the Securities Act of 1933, as amended.
Very truly yours,
/s/ Hogan & Hartson L.L.P.
----------------------------
HOGAN & HARTSON L.L.P.
<PAGE>
Exhibit 8.1
[Letterhead of Hogan & Hartson L.L.P.]
October 23, 1998
Charles E. Smith Residential Realty, Inc.
2345 Crystal Drive
Crystal City
Arlington, VA 22202
Ladies and Gentlemen:
We have acted as counsel to Charles E. Smith Residential Realty, Inc.,
a Maryland corporation (the "Company"), in connection with the registration
statement on Form S-3 (the "Registration Statement") and the prospectus included
therein (the "Prospectus") filed by the Company with the Securities and Exchange
Commission relating to the possible issuance by the Company of up to 464,667
shares (the "Redemption Shares") of common stock, par value $.01 per share
("Common Stock"), if, and to the extent that, the Company elects to issue such
Redemption Shares to the holder of up to 464,667 units of Limited Partnership
interest ("Units") in Charles E. Smith Residential Realty L.P. (the "Operating
Partnership"), which Units were issued by the Operating Partnership in
connection with the acquisition of 2000 Commonwealth Avenue Apartments, an
apartment complex located in Boston, Massachusetts, upon the tender of such
Units for redemption. In connection with the Registration Statement, we have
been asked to provide you with our opinion on certain federal income tax
matters. Capitalized terms used in this letter and not otherwise defined herein
have the meanings set forth in the Registration Statement.
Bases for Opinion
The opinion set forth in this letter is based on relevant current
provisions of the Internal Revenue Code of 1986, as amended (the "Code"),
Treasury Regulations thereunder (including proposed and temporary Treasury
Regulations), and interpretations of the foregoing as expressed in court
decisions, existing administrative rulings and practices of the Internal Revenue
Service (the "IRS") (including the private letter ruling issued by the IRS) to
the Company on June 8, 1994, as supplemented by the ruling letter dated June 16,
1995, and the private letter ruling issued by the IRS to the Company on August
27, 1997), and legislative
<PAGE>
Charles E. Smith Residential Realty, Inc.
October 23, 1998
Page 2
history, all as of the date hereof. These provisions and interpretations are
subject to changes, which may or may not be retroactive in effect, that might
result in material modifications of our opinion.
In rendering the following opinion, we have examined such statutes,
regulations, records, certificates and other documents as we have considered
necessary or appropriate as a basis for such opinion, including the following:
(1) the Registration Statement; (2) the First Amended and Restated Agreement of
Limited Partnership of the Operating Partnership, as amended as of January 31,
1995, as certified by the Secretary of State of the State of Delaware on October
20, 1998 and by the Secretary of the Company on the date hereof as being a true,
correct and complete copy and as being in full force and effect; (3) the Amended
and Restated Articles of Incorporation of the Company dated as of June 27, 1994,
as certified by the Department of Assessments and Taxation of the State of
Maryland on October 21, 1998 and by the Secretary of the Company on the date
hereof as being a true, correct and complete copy and as being in full force and
effect; (4) the agreements of limited partnership of the partnership
subsidiaries of the Operating Partnership; (5) the articles of organization and
stock ownership records of the Property Service Businesses; (6) the articles of
incorporation of the wholly-owned subsidiaries of the Company that serve as the
general partners of the various subsidiary financing partnerships (the "REIT
Subs"); and (7) other necessary documents. The opinion set forth in this letter
also is premised on certain written representations of the Company contained in
a letter to us dated as of the date hereof (the "Management Representation
Letter").
We have made such factual and legal inquiries, including examination of
the documents set forth above, as we have deemed necessary or appropriate for
purposes of our opinion. For purposes of rendering our opinion, however, we have
not made an independent investigation or audit of the facts set forth in the
above referenced documents, including the Management Representation Letter. We
consequently have relied upon representations in the Management Representation
Letter that the information presented in such documents or otherwise furnished
to us accurately and completely describes all material facts relevant to our
opinion.
Moreover, we have assumed that (i) the Company, the Operating
Partnership, each of the REIT Subs, each of the partnership subsidiaries, and
each of the Property Services Businesses have been and will continue to be
operated in the manner described in the relevant partnership agreement, articles
(or certificate) of incorporation, or other organizational documents; (ii) as
represented by the
<PAGE>
Charles E. Smith Residential Realty, Inc.
October 23, 1998
Page 3
Company, there are no agreements or understandings between the Company or the
Operating Partnership, on the one hand, and the partnerships that own the voting
stock of the Property Services Businesses (the "Voting Stock Partnerships") or
their partners, on the other, that are inconsistent with the relevant Voting
Stock Partnership being considered to be both the record and beneficial owner of
more than 90% of the outstanding voting stock of the respective Property
Services Businesses; and (iii) the Company is a validly organized and duly
incorporated corporation under the laws of the State of Maryland, each of the
Property Services Businesses and each of the REIT Subs are validly organized and
duly incorporated corporations under the laws of the State of Delaware or
Virginia (as applicable), and the Operating Partnership and each of the
subsidiary partners are duly organized and validly existing partnerships under
the applicable laws of the State of Delaware.
In our review, we have assumed that all of the representations and
statements set forth in the documents that we reviewed (including the Management
Representation Letter) are true and correct, and all of the obligations imposed
by any such documents on the parties thereto, including obligations imposed
under the Articles of Incorporation of the Company, have been and will continue
to be performed or satisfied in accordance with their terms. We also have
assumed the genuineness of all signatures, the proper execution of all
documents, the authenticity of all documents submitted to us as originals, the
conformity to originals of documents submitted to us as copies, and the
authenticity of the originals from which any copies were made.
Opinion
Based upon, subject to, and limited by the assumptions and
qualifications set forth herein, we are of the opinion as follows:
1. The Company was organized and has operated in conformity with the
requirements for qualification and taxation as a real estate investment trust
("REIT") under the Code for its taxable years ending December 31, 1994,
December 31, 1995, December 31, 1996, and December 31, 1997, and the
Company's current organization and method of operation, as described in the
Management Representation Letter, will enable it to continue to meet the
requirements for qualification and taxation as a REIT.
<PAGE>
Charles E. Smith Residential Realty, Inc.
October 23, 1998
Page 4
2. The discussions in the Prospectus under the headings "Federal Income
Tax Considerations" and "Redemption of Units--Tax Consequences of
Redemption," to the extent that they describe matters of federal income
tax law, are correct in all material respects.
Our opinion is limited to the opinions described above. Our opinion
does not, and is not intended to, address the tax consequences to any Unitholder
with respect to the acquisition, ownership, redemption or disposition of its
Units.
We assume no obligation to advise you of any changes in our opinion
subsequent to the delivery of this opinion letter. The Company's qualification
and taxation as a REIT depend upon the Company's ability to meet on a continuing
basis, through actual annual operating and other results, the various
requirements under the Code with regard to, among other things, the sources of
its gross income, the composition of its assets, the level of its distributions
to stockholders, and the diversity of its stock ownership. Hogan & Hartson
L.L.P. has relied upon representations of the Company with respect to these
matters and will not review the Company's compliance with these requirements on
a continuing basis. Accordingly, no assurance can be given that the actual
results of the Company's operations, the sources of its income, the nature of
its assets, the level of its distributions to stockholders and the diversity of
its stock ownership for any given taxable year will satisfy the requirements
under the Code for qualification and taxation as a REIT.
An opinion of counsel merely represents counsel's best judgment with
respect to the probable outcome on the merits and is not binding on the IRS or
the courts. There can be no assurance that positions contrary to our opinion
will not be taken by the IRS, or that a court considering the issue would not
hold contrary to such opinion. Furthermore, no assurance can be given that
future legislative, judicial or administrative changes, on either a prospective
or retroactive basis, would not adversely affect the accuracy of the opinion
expressed herein. Nevertheless, we undertake no responsibility to advise you of
any such changes.
<PAGE>
Charles E. Smith Residential Realty, Inc.
October 23, 1998
Page 5
We hereby consent to the filing of this opinion letter, which has been
prepared solely for your use in connection with the filing of the Registration
Statement, as Exhibit 8.1 to the Registration Statement and to the use of the
name of the firm therein. In giving the consent, we do not thereby admit that we
are an "expert" within the meaning of the Securities Act of 1933, as amended.
Very truly yours,
/s/ Hogan & Hartson L.L.P.
-----------------------------
Hogan & Hartson L.L.P.
<PAGE>
Exhibit 23.2
[Letterhead of Arthur Andersen LLP]
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation by
reference in this registration statement of our report dated February 9, 1998
included in Charles E. Smith Residential Realty, Inc.'s previously filed Form
10-K for the year ended December 31, 1997 and to all references to our Firm
included in this registration statement.
/s/ ARTHUR ANDERSEN LLP
-------------------
ARTHUR ANDERSEN LLP
Washington, D.C.
October 23, 1998
<PAGE>
Exhibit 23.3
[Letterhead of Altschuler, Melvoin and Glasser LLP]
CONSENT OF INDEPENDENT AUDITORS
We hereby consent to the incorporation by reference in this registration
statement of our report dated February 17, 1998, with respect to the
consolidated balance sheets of McClurg Court Associates Limited Partnership as
of December 31, 1997 and 1996, and the related consolidated statements of
income, changes in partners' capital and cash flows for the years then ended,
which report is included in Charles E. Smith Residential Realty, Inc.'s
previously filed Form 8-K/A dated April 17, 1998, and to all references to our
Firm included in this registration statement.
/s/ ALTSCHULER, MELVOIN AND GLASSER LLP
-----------------------------------
ALTSCHULER, MELVOIN AND GLASSER LLP
Chicago, Illinois
October 23, 1998
