In response to a September 4, 2012 letter from the National Association of Real Estate Investment Trusts (the “NAREIT Request Letter”), the CFTC’s Division of Swap Dealer and Intermediary Oversight issued interpretative guidance on October 11, 2012 (the “Guidance”) stating that real estate investment trusts (“REITs”) that satisfy the following criteria are not “commodity pools” as that term is defined in Section 1a(10) of the Commodity Exchange Act (the "CEA") and CFTC Regulation 4.10(d):
- The REIT primarily derives its income from the ownership and management of real estate and uses derivatives only to hedge interest rate or currency risk;
- The REIT complies with the requirements of a REIT election under the Internal Revenue Code (including the 75% test and the 95% test); and
- The REIT identified itself as an equity REIT in Item G of its last U.S. income tax return on Form 1120-REIT and continues to qualify as such.
The Guidance quotes the NAREIT Request Letter, saying: “[t]he Division believes that REITs that primarily derive their income from the ownership and management of real estate and that use derivatives for the limited purpose of ‘mitigat[ing] their exposure to changes in interest rates or fluctuations in currency’ are outside the definition of ‘commodity pool’ under Section 1a(10) of the CEA and Commission Regulation 4.10(d).” However, the limited relief granted in the letter requires compliance with the conditions listed above.
In the Guidance, the CFTC discusses the history of the definition of “pool,” and in particular, the CFTC’s interpretation of the phrase “operated for the purpose of trading.” When the CFTC first adopted the definition of “pool” in 1981, it received a number of comments suggesting that the definition of “pool” should be narrowly construed to cover, for example, only those funds whose “principal purpose” is the trading of commodity interests. As noted in the Guidance, the CFTC rejected all such suggestions to interpret narrowly the definition of “pool,” citing concerns for “customer and market protection.” The Guidance adds that the CFTC recently “affirmed and refined” its interpretation of the phrase “operated for the purpose of” by maintaining in its final rule release issued in February 2012, regarding registration exemptions for commodity pool operators, that entering into a single swap would be enough to cause the operator of the fund to be a “commodity pool operator” thereby triggering potential registration requirements under the CEA.