What Is an Operating Partnership Unit?

An operating partnership unit (OP unit) is an ownership interest in a partnership that owns real estate, and it is what an owner receives when exchanging a rental into a fund instead of selling it. You can think of it as a share in a Fund.

The terms "units" and "operating partnership" appear frequently in discussions of 721 exchanges, often without explanation. A 721 exchange swaps a rental for ownership in a partnership instead of selling it. This post describes what an owner holds after a 721 exchange.

What is an operating partnership?

An operating partnership is a partnership that owns and runs real estate. In a 721 exchange, you exchange your property for units in that partnership. With Flock Homes, the partnership is Flock's Fund (Flock Homes OP LP), and Flock Homes is the General Partner, which means it is the company that manages the Fund. Title to your property transfers to the Fund.

The rule behind this is Section 721 of the tax code, enacted in 1954. It lets an owner exchange property for a partnership interest without the exchange counting as a sale.

What do I own with OP units?

With OP units, an owner holds a share of a diversified portfolio of professionally managed homes in place of a single house. The number of units you receive reflects the equity in the property you exchanged.

The following illustrative example uses round numbers. Say your rental is valued at $500,000 and has a $100,000 mortgage. Flock Homes pays off the mortgage at close.

After the exchange, the value of your units moves with the Fund as a whole. The Fund is valued quarterly using AVMs (automated valuation models, which estimate a home's value from data) and third-party appraisals, and every property gets a third-party appraisal at least every 24 months. Flock Homes’ proprietary Client Portal shows asset-level reporting, so you can see how the properties behind your units are doing. For how a single home gets its starting value, see our approach to valuation.

How do cash flow and taxes work?

Quarterly cash flow is a set percentage of your account, paid out each quarter, which you can take as cash or reinvest as Fund equity. The Fund's 8 to 10% total return target reflects how US housing has performed over the long run. Year-to-year returns can be higher or lower, so the target is a goal rather than a guarantee.

Each year you get a Schedule K-1, the tax form a partnership uses to report your share of its results. Because the Fund is a partnership, not a REIT (a company that owns real estate and sells shares to the public), it has pass-through tax treatment, which means the Fund doesn't pay the tax itself and income and depreciation flow through to you. If your property had unclaimed depreciation, you keep receiving an allocation of it on the K-1, as well as a share of new depreciation that the partnership creates from continuing to manage all the properties in the portfolio. A tax advisor can read the K-1 alongside the rest of your return, and owners typically review it with one before committing.

How is an OP unit different from a REIT share?

A REIT share differs from an OP unit mainly in how it's taxed. In a public UPREIT, an owner exchanges property for OP units in the REIT's operating partnership. An UPREIT is a REIT structure built so owners can swap property for partnership units, and a REIT share trades on a public market.

Flock's Fund isn't a REIT. As a partnership, it passes depreciation and income through to you on your K-1, which keeps the tax treatment of your property working for you. If you're comparing the two paths, understanding REITs and alternative investment options walks through the options.

What changes when you hold units instead of a house?

Holding units instead of a house changes what you own and who manages it. Unit holders no longer make day-to-day decisions about a single property; they hold a share of a portfolio that Flock Homes manages. The tax on the gain is deferred rather than eliminated, so an owner's tax advisor is the right person to review the details.

What kinds of rentals can become OP units?

Flock Homes works with single-family and small multifamily rentals, occupied or vacant, in a growing list of markets. The post on what kinds of property qualify for a 721 exchange covers property types and markets in more detail. The FAQ answers the rest of the common questions.

What would your rental look like as OP units?

The worked example above starts from a $500,000 home. To see the same math with your own property's value, submit your rental address for a free valuation. There's no obligation, and as Flock Homes grows into new markets, our team will reach out to walk through the result.