RIDEA structure overview
What is the RIDEA Structure and how is it used in senior living investment?
By Scott McCorvie, CEO, Enhance Senior Living
About Enhance Senior Living
Enhance Senior Living is a national senior living broker firm specializing in nationwide senior living investment brokerage solutions, including active adult brokerage, independent living brokerage, assisted living brokerage, memory care brokerage, and skilled nursing brokerage, with tailored strategies for operators and investors nationwide.
Additionally, RIDEA informs our approach to these solutions and how we engage with clients across markets. Learn more about our senior living broker and operational improvement offerings, and contact us to discover how we can help you enhance senior living, now and into the future.
To enhance your senior living knowledge subscribe to the Enhance Senior Living Podcast. The show is on all podcast platforms including Apple Podcasts | Spotify | Amazon Music
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There has been growing interest in RIDEA; however, confusion remains about its makeup, use, and perceived benefits and risks. In this article I examine the Act’s history, describe how it is used by REITs, and outline benefits and risks. Finally, I discuss how the structure affects senior living valuation.
Additionally, RIDEA stands for the REIT Investment Diversification and Empowerment Act. This legislation was enacted in a REIT reform act of 2007 and allows REITs to change the way they account for healthcare (senior living) real estate income. Previously, healthcare and senior living real estate investments had to be structured as leases (typically triple-net leases) with monthly rent payments and annual escalations over a specific term of the lease.
However, the RIDEA Act allowed REITs to participate in net operating income from the community.
This required a third-party manager to control day-to-day operations.
The legal structure creates Taxable REIT Subsidiaries (TRS) with leases between landlord and tenant entities, both owned by the REIT.
How did this change the senior living investment landscape? Moreover, REITs under RIDEA could move beyond underwriting stagnant rent income with annual lease escalations. They could analyze and underwrite larger shifts in operations and income potential. This is critical for value-add investments with material upside from occupancy gains and efficiency. It also opens the door for REITs to expand their acquisition horizons, including joint venture structures. Additionally, the underwriting mindset shifted from tenant credit and rent coverage to sophisticated operating pro forma models. It also emphasizes operator selection, including leadership, culture, and prior senior living performance.
So, what are the benefits of this structure? Moreover, under RIDEA, the main benefit is investment in non-stable assets. It includes new development and value-add opportunities and increases income growth from operations. Instead of 2-3% rent escalations, REITs can benefit from market rent increases. It also reflects increased occupancy and operational improvements. This has led to normalized income growth well above the 2-3% range found in a triple-net lease.
For example, during the second quarter of 2014, Ventas (VTR) reported their U.S. RIDEA portfolio experienced income growth.
Their seniors housing operating portfolio, called SHOP, saw growth of 6.6% on a year-over-year basis.
This was on a same-store basis.
Moreover, this is almost double the range of typical escalation in a NNN lease.
Another benefit is a hedge against inflation.
As inflation rises, rental rates, operating expenses, and NOI increase.
The third-party manager can also benefit.
They do not need to assume long-term lease liability while still earning favorable management fees and potential incentive fees.
But, there are also some additional risks. Along with the ability to greatly increase the operations and income, there is also a risk of decreased operations and income (no credit guaranteed rent payments). However, this can be partially mitigated by creating credit enhancements within the Management Agreement (to be discussed in a later article). These credit enhancements also create favorable alignment between the REIT and Manager — as both are focused on maximizing operational efficiency and net operating income.
Additionally, since the REIT is participating in the operations, there is additional risk of potential legal liability.
There are also increased on-going operating costs.
These include a TRS income tax from the TRS lease rent difference and ongoing capital expenditures.
Lastly, it’s critical that the REIT maintains a solid asset management platform.
This includes consistent monitoring of operating metrics, and a team experienced in senior living operations, market fundamentals, and new competition.
Moreover, the RIDEA structure has changed how REITs view senior living investments. With effective underwriting, program implementation, asset management, and traditional NNN investments, it can enhance income growth and returns. Additionally, the structure impacts the senior living valuation model.
Additionally, if you liked this article, be sure to read other articles in the Enhance Senior Living News section.
Also consider subscribing to the Enhance Senior Living Podcast on podcast platforms, including Apple Podcasts, Spotify, and Amazon Music.
Learn how an experienced senior living broker can help you manage the senior living brokerage and investment sales process.
About Enhance Senior Living
Enhance Senior Living is a national senior living broker firm specializing in nationwide senior living investment brokerage solutions including active adult brokerage, independent living brokerage, assisted living brokerage, memory care brokerage, and skilled nursing brokerage. Learn more about our senior living broker and operational improvement solutions and contact us today to learn how we can help you enhance senior living today.
To enhance your senior living knowledge subscribe to the Enhance Senior Living Podcast. The show is on all podcast platforms including Apple Podcasts | Spotify | Amazon Music
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