Registration Statement No. : 333-253606
On November 10,
2022, we entered into an equity distribution agreement with JMP Securities LLC, which we refer to as the sales agent, relating to shares
of our common stock offered by this prospectus supplement. In accordance with the terms of the equity distribution agreement, we may offer
and sell up to 11,000,000 shares of our common stock from time to time through the sales agent.
Our common stock is listed
on the New York Stock Exchange, or NYSE, under the symbol “TWO.” The closing price of our common stock on the NYSE on November 9,
2022 was $15.30 per share.
Sales of shares of our common
stock, if any, under this prospectus supplement may be made in negotiated transactions or transactions that are deemed to be “at
the market” offerings as defined in Rule 415 under the Securities Act of 1933, as amended, including sales made directly on
the NYSE or sales made to or through a market maker other than on an exchange. The sales agent will make all sales using commercially
reasonable efforts consistent with its normal trading and sales practices, on mutually agreed terms between the sales agent and us.
The sales agent will be entitled
to total compensation of up to 2% of the gross proceeds from the sale of the shares of common stock sold under the equity distribution
agreement, as further described herein under the caption “Plan of Distribution.” In connection with the sale of shares of
common stock on our behalf, the sales agent may be deemed to be an “underwriter” within the meaning of the Securities Act
of 1933, as amended, and the compensation of the sales agent may be deemed to be underwriting commissions or discounts.
We have elected to be taxed
as a real estate investment trust, or REIT, for U.S. federal income tax purposes. To assist us in qualifying as a REIT, among other purposes,
ownership of shares of our common stock by any person is limited, with certain exceptions, to 9.8% by value or by number of shares, whichever
is more restrictive, of the outstanding shares of our common stock and 9.8% by value or by number of shares, whichever is more restrictive,
of the aggregate of the outstanding shares of our capital stock. In addition, our charter contains various other restrictions on the ownership
and transfer of our stock.
Neither the Securities and
Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus
supplement or the accompanying prospectus is truthful or complete. Any representation to the contrary is a criminal offense.
U.S. FEDERAL INCOME TAX CONSIDERATIONS
The following is a summary
of the material U.S. federal income tax considerations relating to the qualification and taxation of Two Harbors as a REIT and the acquisition,
holding and disposition of our common stock. For purposes of this section, references to “Two Harbors,” “our,”
“us” or “we” mean only Two Harbors Investment Corp. and not any of its subsidiaries or other lower-tier entities
except as otherwise indicated. This summary is based upon the Code, the regulations promulgated by the U.S. Treasury Department, or the
Treasury Regulations, current administrative interpretations and practices of the Internal Revenue Service, or IRS, (including administrative
interpretations and practices expressed in private letter rulings which are binding on the IRS only with respect to the particular taxpayers
who requested and received those rulings) and judicial decisions, all as currently in effect and all of which are subject to differing
interpretations or to change, possibly with retroactive effect. No assurance can be given that the IRS would not assert, or that a court
would not sustain, a position contrary to any of the tax considerations described below. No advance ruling has been or will be sought
from the IRS regarding any matter discussed in this summary. The summary is also based upon the assumption that our operation, and the
operation of our subsidiaries and other lower-tier and affiliated entities will, in each case, be in accordance with such entity’s
applicable organizational documents. This summary does not discuss the impact that U.S. state and local taxes and taxes imposed by non-U.S.
jurisdictions could have on the matters discussed in this summary. This summary is for general information only, and does not purport
to discuss all aspects of U.S. federal income taxation that may be important to a particular stockholder in light of its investment or
tax circumstances or to stockholders subject to special tax rules, such as:
| ● | persons who mark-to-market our common stock; |
| ● | subchapter S corporations; |
| ● | U.S. stockholders (as defined below) whose functional currency is not the U.S. dollar; |
| ● | regulated investment companies, or RICs; |
| ● | holders who receive our common stock through the exercise of employee stock options or otherwise as compensation; |
| ● | persons holding our common stock as part of a “straddle,” “hedge,” “conversion
transaction,” “synthetic security” or other integrated investment; |
| ● | persons subject to the alternative minimum tax provisions of the Code; |
| ● | persons holding their interest in us through a partnership or similar pass-through entity; |
| ● | persons holding a 10% or more (by vote or value) beneficial interest in us; |
| ● | tax-exempt organizations; and |
| ● | non-U.S. stockholders (as defined below, and except as otherwise discussed below). |
This summary assumes that
holders hold our common stock as capital assets, which generally means as property held for investment.
THE U.S. FEDERAL INCOME TAX TREATMENT OF HOLDERS
OF OUR COMMON STOCK DEPENDS IN SOME INSTANCES ON DETERMINATIONS OF FACT AND INTERPRETATIONS OF COMPLEX PROVISIONS OF U.S. FEDERAL INCOME
TAX LAW FOR WHICH NO CLEAR PRECEDENT OR AUTHORITY MAY BE AVAILABLE. IN ADDITION, THE U.S. FEDERAL INCOME TAX TREATMENT OF HOLDING
OUR COMMON STOCK TO ANY PARTICULAR STOCKHOLDER WILL DEPEND ON THE STOCKHOLDER’S PARTICULAR TAX CIRCUMSTANCES. YOU ARE URGED TO CONSULT
YOUR TAX ADVISOR REGARDING THE U.S. FEDERAL, STATE, LOCAL, AND FOREIGN INCOME AND OTHER TAX CONSEQUENCES TO YOU, IN LIGHT OF YOUR
PARTICULAR INVESTMENT OR TAX CIRCUMSTANCES, OF ACQUIRING, HOLDING, AND DISPOSING OF TWO HARBORS COMMON STOCK.
U.S. Federal Income Tax Considerations of Two
Harbors as a REIT
Taxation of Two Harbors—General
We have elected to be taxed
as a REIT under Sections 856 through 860 of the Code, commencing with our taxable year ended December 31, 2009. We believe that we
have been organized and we intend to operate in a manner that allows us to continue to qualify for taxation as a REIT under the Code.
The law firm of Sidley Austin
LLP has acted as our special counsel for tax matters in connection with this registration. We have received an opinion of Sidley Austin
LLP to the effect that we have been organized and operated in conformity with the requirements for qualification and taxation as a REIT
under the Code, and our actual method of operation has enabled, and our proposed method of operation will continue to enable us, to meet
the requirements for qualification and taxation as a REIT under the Code. It must be emphasized that the opinion of Sidley Austin LLP
is based on various assumptions relating to our organization and operation, including that all factual representations and statements
set forth in all relevant documents, records and instruments are true and correct and that we will at all times operate in accordance
with the method of operation described in our organizational documents and this document. Additionally, the opinion of Sidley Austin LLP
is conditioned upon factual representations and covenants made by our management, regarding our organization, assets, present and future
conduct of our business operations and other items regarding our ability to continue to meet the various requirements for qualification
as a REIT, and assumes that such representations and covenants are accurate and complete and that we will take no action that could adversely
affect our qualification as a REIT. While we believe we are organized and intend to continue to operate so that we will qualify 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 our circumstances or applicable law, no assurance can be given by Sidley Austin LLP or us that we will so qualify
for any particular year. Sidley Austin LLP will have no obligation to advise us or the holders of our shares of common stock of any subsequent
change in the matters stated, represented or assumed or of any subsequent change in the applicable law. You should be aware that opinions
of counsel are not binding on the IRS, or any court, and no assurance can be given that the IRS will not challenge the conclusions set
forth in such opinions.
Qualification and taxation
as a REIT depend on our ability to meet, on a continuing basis, through actual results of operations, distribution levels, diversity of
share ownership and various qualification requirements imposed upon REITs by the Code, the compliance with which will not be reviewed
by Sidley Austin LLP. In addition, our ability to qualify as a REIT may depend in part upon the operating results, organizational structure
and entity classification for U.S. federal income tax purposes of certain entities in which we invest. Our ability to qualify as a REIT
also requires that we satisfy certain asset and income tests, some of which depend upon the fair market values of assets directly or indirectly
owned by us or which serve as security for loans made by us. Such values may not be susceptible to a precise determination. Accordingly,
no assurance can be given that the actual results of our operations for any taxable year will satisfy the requirements for qualification
and taxation as a REIT.
Taxation of REITs in General
As indicated above, qualification
and taxation as a REIT depend on our ability to meet, on a continuing basis, through actual results of operations, distribution levels,
diversity of share ownership and various qualification requirements imposed upon REITs by the Code. The material qualification requirements
are summarized below, under “—Requirements for Qualification as a REIT.” While we believe that we will continue
to operate so that we qualify as a REIT, no assurance can be given that the IRS will not challenge our qualification as a REIT or that
we will be able to continue to operate in accordance with the REIT requirements in the future. See “—Failure to Qualify.”
Provided that we qualify
as a REIT, we will generally be entitled to a deduction for dividends that we pay and, therefore, will not be subject to U.S.
federal corporate income tax on our net taxable income that is currently distributed to our stockholders. This treatment
substantially eliminates the “double taxation” at the corporate and stockholder levels that results generally from
investment in a corporation. Rather, income generated by a REIT and distributed to its stockholders generally is taxed only at the
stockholder level, upon a distribution of dividends by the REIT. See “—Taxation of Taxable U.S.
Stockholders.”
Individuals who are stockholders
of corporations that are not REITs are generally taxed on qualifying corporate dividends at a maximum rate of 20%, thereby substantially
reducing, though not completely eliminating, the double taxation that has historically applied to corporate dividends. With limited exceptions,
however, dividends received by individual U.S. stockholders from us or from other entities that are taxed as REITs are taxed at rates
applicable to ordinary income, which will be as high as 37%. However, under the Tax Cuts and Jobs Act, or TCJA, dividends received by
individual U.S. stockholders from us that are neither attributable to “qualified dividend income” nor designated as “capital
gain dividends” will be eligible for a deduction equal to 20% of the amount of such dividends in taxable years beginning before
January 1, 2026, provided that the U.S. stockholder satisfies certain holding period requirements. Net operating losses, foreign tax
credits and other tax attributes of a REIT generally do not pass through to the stockholders of the REIT, subject to special rules for
certain items, such as capital gains, recognized by REITs. See “—Taxation of Taxable U.S. Stockholders.”
Even if we qualify for taxation
as a REIT, however, we will be subject to U.S. federal income taxation as follows:
| ● | We will be taxed at the regular U.S. federal corporate income tax rate (currently 21%) on any undistributed
income, including undistributed net capital gains. |
| ● | If we have net income from prohibited transactions, which are, in general, sales or other dispositions
of property held primarily for sale to customers in the ordinary course of business, other than foreclosure property, such income will
be subject to a 100% tax. See “—Prohibited Transactions” and “—Foreclosure Property”
below. |
| ● | If we elect to treat property that we acquire in connection with a foreclosure of a mortgage loan or from
certain leasehold terminations as “foreclosure property,” we may thereby avoid (a) the 100% tax on gain from a resale
of that property (if the sale would otherwise constitute a prohibited transaction) and (b) the inclusion of any income from such
property not qualifying for purposes of the REIT gross income tests discussed below, but the income from the sale or operation of the
property may be subject to income tax at the corporate tax rate. |
| ● | If we fail to satisfy the 75% gross income test or the 95% gross income test, as discussed below, but
nonetheless maintain our qualification as a REIT because other requirements are met, we will be subject to a 100% tax on an amount equal
to (a) the greater of (1) the amount by which we fail the 75% gross income test or (2) the amount by which we fail the
95% gross income test, as the case may be, multiplied by (b) a fraction intended to reflect our profitability. |
| ● | If we fail to satisfy any of the REIT asset tests, as described below, other than a failure of the 5%
or 10% REIT asset tests that does not exceed a statutory de minimis amount as described more fully below, but our failure is due
to reasonable cause and not due to willful neglect and we nonetheless maintain our REIT qualification because of specified cure provisions,
we will be required to pay a tax equal to the greater of $50,000 or the corporate tax rate of the net income generated by the non-qualifying
assets during the period in which we failed to satisfy the asset tests. |
| ● | If we fail to satisfy any provision of the Code that would result in our failure to qualify as a REIT
(other than a gross income or asset test requirement) and the violation is due to reasonable cause and not willful neglect, we may retain
our REIT qualification but we will be required to pay a penalty of $50,000 for each such failure. |
| ● | If we fail to distribute during each calendar year at least the sum of (a) 85% of our REIT ordinary
income for such year, (b) 95% of our REIT capital gain net income for such year and (c) any undistributed taxable income from
prior periods (the foregoing sum is referred to as the required distribution), we will be subject to a 4% excise tax on the excess of
the required distribution over the sum of (1) the amounts actually distributed (taking into account excess distributions from prior
years), plus (2) retained amounts on which income tax is paid at the corporate level. |
| ● | We may be required to pay monetary penalties to the IRS in certain circumstances, including if we fail
to meet record-keeping requirements intended to monitor our compliance with rules relating to the composition of our stockholders,
as described below in “—Requirements for Qualification as a REIT.” |
| ● | A 100% excise tax may be imposed on some items of income and expense that are directly or constructively
paid between us and any TRSs we may own if and to the extent that the IRS successfully adjusts the reported amounts of these items. |
| ● | If we acquire appreciated assets from a corporation that is not a REIT in a transaction in which the adjusted
tax basis of the assets in our hands is determined by reference to the adjusted tax basis of the assets in the hands of the non-REIT corporation,
we will be subject to tax on such appreciation at the corporate income tax rate then applicable if we subsequently recognize gain on a
disposition of any such assets during the 5-year period following their acquisition from the non-REIT corporation. The results described
in this paragraph assume that the non-REIT corporation will not elect, in lieu of this treatment, to be subject to an immediate tax when
the asset is acquired by us. |
| ● | We will generally be subject to tax on the portion of any excess inclusion income derived from an investment
in residual interests in real estate mortgage investment conduits, or REMICs, to the extent our stock is held by specified tax-exempt
organizations not subject to tax on unrelated business taxable income. Similar rules will apply if we own an equity interest in a
taxable mortgage pool. To the extent that we own a REMIC residual interest or a taxable mortgage pool through a TRS, we will not be subject
to this tax. |
| ● | We may elect to retain and pay income tax on our net long-term capital gain. In that case, a stockholder
would include its proportionate share of our undistributed long-term capital gain (to the extent we make a timely designation of such
gain to the stockholder) in its income, would be deemed to have paid the tax that we paid on such gain, and would be allowed a credit
for its proportionate share of the tax deemed to have been paid, and an adjustment would be made to increase the stockholder’s basis
in our common stock. Stockholders that are U.S. corporations will also appropriately adjust their earnings and profits for the retained
capital gains in accordance with Treasury Regulations to be promulgated. |
| ● | We may have subsidiaries or own interests in other lower-tier entities that are subchapter C corporations,
the earnings of which would be subject to U.S. federal corporate income tax. |
In addition, we may be subject
to a variety of taxes other than U.S. federal income tax, including payroll taxes and state and local income, franchise property and other
taxes. We could also be subject to tax in situations and on transactions not presently contemplated.
Requirements for Qualification as a REIT
The Code defines a REIT as
a corporation, trust or association:
| ● | that is managed by one or more trustees or directors; |
| ● | the beneficial ownership of which is evidenced by transferable shares or by transferable certificates
of beneficial interest; |
| ● | that would be taxable as a domestic corporation but for the special Code provisions applicable to REITs; |
| ● | that is neither a financial institution nor an insurance company subject to specific provisions of the
Code; |
| ● | the beneficial ownership of which is held by 100 or more persons 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; |
| ● | in which, during the last half of each taxable year, not more than 50% in value of the outstanding stock
is owned, directly or indirectly, by five or fewer “individuals” (as defined in the Code to include specified entities); |
| ● | which meets other tests described below, including with respect to the nature of its income and assets
and the amount of its distributions; and |
| ● | that makes an election to be a REIT for the current taxable year or has made such an election for a previous
taxable year that has not been terminated or revoked. |
The Code provides that the
first through fourth conditions must be met during the entire taxable year, and that the fifth condition must be met during at least 335
days of a taxable year of 12 months, or during a proportionate part of a shorter taxable year. The fifth and sixth conditions do not need
to be satisfied for the first taxable year for which an election to become a REIT has been made. Our charter provides restrictions regarding
the ownership and transfer of our stock, which are intended, among other purposes, to assist in satisfying the share ownership requirements
described in the fifth and sixth conditions. For purposes of the sixth condition, an “individual” generally includes a supplemental
unemployment compensation benefit plan, a private foundation or a portion of a trust permanently set aside or used exclusively for charitable
purposes, but does not include a qualified pension plan or profit sharing trust.
To monitor compliance with
the share ownership requirements, we are generally required to maintain records regarding the actual ownership of our shares. To do so,
we must demand written statements each year from the record holders of significant percentages of our shares of stock, in which the record
holders are to disclose the actual owners of the shares (i.e., the persons required to include in gross income the dividends paid
by us). A list of those persons failing or refusing to comply with this demand must be maintained as part of our records. Failure by us
to comply with these record-keeping requirements could subject us to monetary penalties. If we satisfy these requirements and after exercising
reasonable diligence would not have known that the sixth condition is not satisfied, we will be deemed to have satisfied such condition.
A stockholder that fails or refuses to comply with the demand is required by Treasury Regulations to submit a statement with its tax return
disclosing the actual ownership of the shares and other information.
In addition, a corporation
generally may not elect to become a REIT unless its taxable year is the calendar year. We satisfy this requirement.
Effect of Subsidiary Entities
Ownership of Partnership
Interests
In the case of a REIT that
is a partner in a partnership, Treasury Regulations provide that the REIT is deemed to own its proportionate share of the partnership’s
assets and to earn its proportionate share of the partnership’s gross income based on its pro rata share of capital interests
in the partnership for purposes of the asset and gross income tests applicable to REITs, as described below. However, solely for purposes
of the 10% value test, described below, the determination of a REIT’s interest in partnership assets will be based on the REIT’s
proportionate interest in any securities issued by the partnership, excluding for these purposes, certain excluded securities as described
in the Code. In addition, the assets and gross income of the partnership generally are deemed to retain the same character in the hands
of the REIT. Thus, our proportionate share of the assets and items of income of partnerships in which we own an equity interest is treated
as an asset and as an item of income for us for purposes of applying the REIT requirements described below. Consequently, to the extent
that we directly or indirectly hold a preferred or other equity interest in a partnership, the partnership’s assets and operations
may affect our ability to qualify as a REIT, even though we may have no control or only limited influence over the partnership.
Disregarded Subsidiaries
If a REIT owns a corporate
subsidiary that is a “qualified REIT subsidiary,” that subsidiary is disregarded for U.S. federal income tax purposes, and
all assets, liabilities and items of income, deduction and credit of the subsidiary are treated as assets, liabilities and items of income,
deduction and credit of the REIT itself, including for purposes of the gross income and asset tests applicable to REITs, as summarized
below. A qualified REIT subsidiary is any corporation, other than a TRS, that is wholly owned by a REIT, by other disregarded subsidiaries
or by a combination of the two. Single member limited liability companies that are wholly owned by a REIT are also generally disregarded
as separate entities for U.S. federal income tax purposes, including for purposes of the REIT gross income and asset tests. Disregarded
subsidiaries, along with partnerships in which we hold an equity interest, are sometimes referred to herein as “pass-through subsidiaries.”
In the event that a disregarded
subsidiary ceases to be wholly owned by us (for example, if any equity interest in the subsidiary is acquired by a person other than us
or another disregarded subsidiary of ours), the subsidiary’s separate existence would no longer be disregarded for U.S. federal
income tax purposes. Instead, it would have multiple owners and would be treated as either a partnership or a taxable corporation. Such
an event could, depending on the circumstances, adversely affect our ability to satisfy the various asset and gross income tests applicable
to REITs, including the requirement that REITs generally may not own, directly or indirectly, more than 10% of the value or voting power
of the outstanding securities of another corporation. See “—Asset Tests” and “—Gross Income Tests.”
Taxable REIT Subsidiaries
A REIT, in general, may jointly
elect with a subsidiary corporation, whether or not wholly owned, to treat the subsidiary corporation as a TRS. The separate existence
of a TRS or other taxable corporation, unlike a disregarded subsidiary as discussed above, is not ignored for U.S. federal income tax
purposes. Accordingly, such an entity would generally be subject to corporate income tax on its earnings, which may reduce the cash flow
generated by us and our subsidiaries in the aggregate and our ability to make distributions to our stockholders.
We and one of our subsidiaries
have jointly elected for such subsidiary to be treated as a TRS. This election allows such subsidiary to invest in assets and engage in
activities that could not be held or conducted directly by us without jeopardizing our qualification as a REIT. While we currently only
have one TRS, we may make joint elections for additional subsidiaries to be treated as TRSs in the future.
A REIT is not treated as holding
the assets of a TRS or other taxable subsidiary corporation or as receiving any income that the subsidiary earns. Rather, the stock issued
by the subsidiary is an asset in the hands of the REIT, and the REIT generally recognizes as income the dividends, if any, that it receives
from the subsidiary. This treatment can affect the gross income and asset test calculations that apply to the REIT, as described below.
Because a parent REIT does not include the assets and income of such subsidiary corporations in determining the parent’s compliance
with the REIT requirements, such entities may be used by the parent REIT to undertake indirectly activities that the REIT rules might
otherwise preclude it from doing directly or through pass-through subsidiaries or render commercially unfeasible (for example, activities
that give rise to certain categories of income such as non-qualifying hedging income or inventory sales). If dividends are paid to us
by one or more TRSs we may own, then a portion of the dividends that we distribute to stockholders who are taxed at individual rates generally
will be eligible for taxation at preferential qualified dividend income tax rates rather than at ordinary income rates. See “—Taxation
of Taxable U.S. Stockholders” and “—Annual Distribution Requirements.”
Certain restrictions imposed
on TRSs are intended to ensure that such entities will be subject to appropriate levels of U.S. federal income taxation. If amounts are
paid to a REIT or deducted by a TRS due to transactions between a REIT, its tenants and/or the TRS, that exceed the amount that would
be paid to or deducted by a party in an arm’s-length transaction, the REIT generally will be subject to an excise tax equal to 100%
of such excess. In addition, under Section 163(j) of the Code, a TRS generally may not deduct “business interest”
expense (i.e., business interest expense in excess of the TRS’s business interest income for the tax year) to the extent such interest
exceeds 30% of the TRS’s “adjusted taxable income” (as defined under Section 163(j) of the Code). Any amount
disallowed is carried forward and treated as business interest expense paid or accrued in the succeeding tax year.
Gross Income Tests
In order to maintain our qualification
as a REIT, we must annually satisfy two gross income tests. First, at least 75% of our gross income for each taxable year, excluding gross
income from sales of inventory or dealer property in “prohibited transactions” and certain hedging and foreign currency transactions,
must consist of defined types of income that we derive, directly or indirectly, from investments relating to real property or mortgage
loans on real property or qualified temporary investment income. Qualifying income for purposes of the 75% gross income test generally
includes:
| ● | rents from real property; |
| ● | interest on debt secured by a mortgage on real property or on interests in real property; |
| ● | dividends or other distributions on, and gain from the sale of, stock in other REITs; |
| ● | gain from the sale of real estate assets (other than a nonqualified publicly offered REIT debt instrument); |
| ● | income and gain derived from foreclosure property; |
| ● | amounts, such as commitment fees, received in consideration for entering into an agreement to make a loan
secured by real property, unless such amounts are determined by income and profits; |
| ● | income derived from a REMIC in proportion to the real estate assets held by the REMIC, unless at least
95% of the REMIC’s assets are real estate assets, in which case all of the income derived from the REMIC; and |
| ● | income derived from certain kinds of temporary investments. |
Second, at least 95% of our
gross income in each taxable year, excluding gross income from prohibited transactions and certain hedging and foreign currency transactions,
must be derived from some combination of income that qualifies under the 75% gross income test described above, as well as other dividends,
interest, and gain from the sale or disposition of stock or securities, which need not have any relation to real property.
For purposes of the 75% and
95% gross income tests, a REIT is deemed to have earned a proportionate share of the income earned by any partnership, or any limited
liability company treated as a partnership for U.S. federal income tax purposes, in which it owns an interest, which share is determined
by reference to its capital interest in such entity, and is deemed to have earned the income earned by any qualified REIT subsidiary or
other disregarded subsidiary for U.S. federal income tax purposes.
Interest Income
Interest income constitutes
qualifying mortgage interest for purposes of the 75% gross income test to the extent that the obligation is secured by a mortgage on real
property. If we receive interest income with respect to a mortgage loan that is secured by both real property and other property and the
highest principal amount of the loan outstanding during a taxable year exceeds the fair market value of the real property on the date
that we acquired the mortgage loan, the interest income will be apportioned between the real property and the other property, and our
income from the arrangement will qualify for purposes of the 75% gross income test only to the extent that the interest is allocable to
the real property. Even if a loan is not secured by real property or is under secured, the income that it generates may nonetheless qualify
for purposes of the 95% gross income test.
We may invest in Agency RMBS
whose principal and interest payments are guaranteed by a U.S. government agency, such as Ginnie Mae, or a government sponsored entity,
or GSE, that are pass-through certificates. We expect that these agency pass-through certificates will be treated as interests in grantor
trusts for federal income tax purposes. Consequently, we will be treated as owning an undivided beneficial interest in the mortgage loans
held by the grantor trust. The interest on such mortgage loans will be qualifying income for purposes of the 75% and 95% gross income
tests to the extent that the obligation is secured by real property, as discussed above.
We may invest in RMBS
that are not issued or guaranteed by a U.S. government agency or a GSE. We expect that our investments in non-agency RMBS will be
treated as interests in REMICs for federal income tax purposes. In the case of a non-agency RMBS treated as an interest in a REMIC,
such interest will generally qualify as a real estate asset. Income derived from REMIC interests will generally be treated as
qualifying income for purposes of the 75% and 95% gross income tests described above. If, however, less than 95% of the assets of a
REMIC consists of real estate assets (determined as if we held such assets), only the income derived from the REMIC in proportion to
the real estate assets held by the REMIC would be qualifying income for purposes of the 75% gross income
test. In addition, some REMIC securitizations include embedded interest rate swap or cap contracts or other derivative instruments
that potentially could produce non-qualifying income.
We expect that the interest
income that we receive from our mortgage-related securities generally will be qualifying income for purposes of both the 75% and 95% gross
income tests. However, to the extent that we own non-REMIC collateralized mortgage obligations, or CMOs, or other debt instruments secured
by mortgage loans (rather than by real property) or secured by non-real estate assets, or debt securities that are not secured by mortgages
on real property or interests in real property, the interest income received with respect to such securities generally will be qualifying
income for purposes of the 95% gross income test, but not the 75% gross income test.
Dividend Income
We may receive distributions
from TRSs or other corporations that are not REITs or qualified REIT subsidiaries. These distributions are generally classified as dividend
income to the extent of the earnings and profits of the distributing corporation. Such distributions generally constitute qualifying income
for purposes of the 95% gross income test, but not the 75% gross income test. Any dividends received by us from a REIT will be qualifying
income in our hands for purposes of both the 95% and 75% gross income tests.
TBAs
We may use “to-be-announced”,
or TBA, forward contracts as a means of investing and financing Agency RMBS. There is no direct authority with respect to the qualifications
of income or gains from dispositions of TBAs as gains from the sale of real property (including interests in real property and interests
in mortgages on real property) or other qualifying income for purposes of the 75% gross income test. We intend to treat income and gains
from our TBAs as qualifying income for purposes of the 75% gross income test, to the extent set forth in an opinion from Sidley Austin
LLP substantially to the effect that, for purposes of the 75% gross income test, any gain recognized by us in connection with the settlement
of TBAs should be treated as gain from the sale or disposition of the underlying Agency RMBS. Such opinions of counsel are not binding
on the IRS, and there can be no assurance that the IRS will not successfully challenge the conclusions set forth therein. In addition,
the opinion of Sidley Austin LLP is based on various assumptions relating to our TBAs and is conditioned upon fact-based representations
and covenants made by our management regarding our TBAs. If the IRS were to successfully challenge the opinion of Sidley Austin LLP, we
could be subject to a penalty tax or we could fail to remain qualified as a REIT if a sufficient portion of our assets consists of TBAs
or a sufficient portion of our income consists of income or gains from the disposition of TBAs.
Excess MSRs
We may invest in excess MSRs.
Based upon IRS guidance, we intend to treat interest received from excess MSRs as interest on obligations, secured by mortgages on real
property and, therefore, as qualifying for purposes of the 75% gross income test. However, it is possible that the IRS could assert that
such interest income is not qualifying income under the 75% gross income test. In the event that such income was determined not to be
qualifying income for the 75% gross income test, we could be subject to a penalty tax or we could fail to remain qualified as a REIT if
a sufficient portion of our assets consists of excess MSRs or a sufficient portion of our income consists of income or gains from excess
MSRs.
Hedging Transactions
We may enter into hedging
transactions with respect to one or more of our assets or liabilities. Hedging transactions could take a variety of forms, including interest
rate swap agreements, interest rate cap agreements, options, futures contracts, forward rate agreements or similar financial instruments.
Except to the extent provided by Treasury Regulations, any income from a hedging transaction we enter into (i) in the normal course
of our business primarily to manage risk of interest rate or price changes or currency fluctuations with respect to borrowings made or
to be made, or ordinary obligations incurred or to be incurred, to acquire or carry real estate assets, which is clearly identified as
specified in Treasury Regulations before the close of the day on which it was acquired, originated, or entered into, including gain from
the sale or disposition of such a transaction, or (ii) primarily to manage risk of currency fluctuations with respect to any
item of income or gain that would be qualifying income under the 75% or 95% income tests, which is clearly identified as such before the
close of the day on which it was acquired, originated, or entered into, will not constitute gross income for purposes of the 75% or 95%
gross income test. In addition, income from certain new hedging transactions that counteract prior qualifying hedging transactions described
in (i) and (ii) above may not constitute gross income for purposes of the 75% and 95% gross income tests. To the extent that
we enter into other types of hedging transactions, the income from those transactions is likely to be treated as non-qualifying income
for purposes of both of the 75% and 95% gross income tests. We intend to structure any hedging transactions in a manner that does not
jeopardize our qualification as a REIT.
Failure to Satisfy the
Gross Income Tests
We intend to monitor our sources
of income, including any non-qualifying income received by us, so as to ensure our compliance with the gross income tests. If we fail
to satisfy one or both of the 75% or 95% gross income tests for any taxable year, we may still qualify as a REIT for the year if we are
entitled to relief under applicable provisions of the Code. These relief provisions will generally be available if our failure to meet
these tests was due to reasonable cause and not due to willful neglect and, following the identification of such failure, we set forth
a description of each item of our gross income that satisfies the gross income tests in a schedule for the taxable year filed in accordance
with the Treasury Regulations. It is not possible to state whether we would be entitled to the benefit of these relief provisions in all
circumstances. If these relief provisions are inapplicable to a particular set of circumstances involving us, we will not qualify as a
REIT. As discussed above under “—Taxation of REITs in General,” even where these relief provisions apply, a tax
would be imposed upon the profit attributable to the amount by which we fail to satisfy the particular gross income test.
Phantom Income
Due to the nature of the assets
in which we will invest, we may be required to recognize taxable income from certain of our assets in advance of our receipt of cash flow
on or proceeds from disposition of such assets, and we may be required to report taxable income in early periods that exceeds the economic
income ultimately realized on such assets.
We may acquire mortgage-backed
securities in the secondary market for less than their face amount. For example, it is likely that we will invest in assets, including
mortgage-backed securities, requiring us to accrue original issue discount, or OID, or recognize market discount income, that generate
taxable income in excess of economic income or in advance of the corresponding cash flow from the assets referred to as “phantom
income.” We may also be required under the terms of the indebtedness that we incur to use cash received from interest payments to
make principal payment on that indebtedness, with the effect that we will recognize income but will not have a corresponding amount of
cash available for distribution to our stockholders.
Due to each of these
potential differences between income recognition or expense deduction and related cash receipts or disbursements, there is a
significant risk that we may have taxable income substantially in excess of cash available for distribution. In that
event, we may need to borrow funds or take other actions to satisfy the REIT distribution requirements for the taxable year in which
this “phantom income” is recognized. See “—Annual Distribution Requirements.”
Asset Tests
We, at the close of each calendar
quarter, must also satisfy four tests relating to the nature of our assets.
| ● | First, at least 75% of the value of our total assets must be represented by some combination of: |
| - | U.S. government securities; |
| - | interests in real property; |
| - | interests in mortgage loans secured by real property; |
| - | stock (or transferable certificates of beneficial interest) in other REITs; |
| - | debt instruments issued by publicly offered REITs; and |
| - | regular or residual interests in a REMIC. However, if less than 95% of the
assets of a REMIC consist of assets that are qualifying real estate-related assets under the U.S. federal income tax laws, determined
as if we held such assets, we will be treated as holding our proportionate share of the assets of such REMIC. |
| ● | Second, the value of any one issuer’s securities owned by us may not exceed 5% of the value of our
assets. |
| ● | Third, we may not own more than 10% of any one issuer’s outstanding securities, as measured by either
voting power or value. |
| ● | Fourth, the aggregate value of all securities of TRSs held by us may not exceed 20% of the value of our
gross assets. |
| ● | Fifth, debt instruments issued by publicly offered REITs, if they would not otherwise qualify as “real
estate assets,” cannot exceed 25% of the value of our total assets. |
The 5% and 10% asset tests
do not apply to securities of TRSs and qualified REIT subsidiaries and securities that satisfy the 75% asset test. The 10% value test
does not apply to certain “straight debt” and other excluded securities, as described in the Code, including but not limited
to any loan to an individual or an estate, any obligation to pay rents from real property and any security issued by a REIT. In addition,
(i) a REIT’s interest as a partner in a partnership is not considered a security for purposes of applying the 10% value test;
(ii) any debt instrument issued by a partnership (other than straight debt or other excluded security) will not be considered a security
issued by the partnership if at least 75% of the partnership’s gross income is derived from sources that would qualify for the 75%
REIT gross income test; and (iii) any debt instrument issued by a partnership (other than straight debt or other excluded security)
will not be considered a security issued by the partnership to the extent of the REIT’s interest as a partner in the partnership.
For purposes of the 10% value
test, “straight debt” means a written unconditional promise to pay on demand on a specified date a sum certain in money if:
| ● | the debt is not convertible, directly or indirectly, into stock; |
| ● | the interest rate and interest payment dates are not contingent on profits, the borrower’s discretion,
or similar factors other than certain contingencies relating to the timing and amount of principal and interest payments, as described
in the Code; and |
| ● | in the case of an issuer that is a corporation or a partnership, securities that otherwise would be considered
straight debt will not be so considered if we, and any of our “controlled taxable REIT subsidiaries” as defined in the Code,
hold any securities of the corporate or partnership issuer that: |
| - | are not straight debt or other excluded securities (prior to the application
of this rule); and |
| - | have an aggregate value greater than 1% of the issuer’s outstanding
securities (including, for the purposes of a partnership issuer, its interest as a partner in the partnership). |
After initially meeting the
asset tests at the close of any quarter, we will not lose our qualification as a REIT for failure to satisfy the asset tests at the end
of a later quarter solely by reason of changes in asset values. If we fail to satisfy the asset tests because we acquire or increase our
ownership interest in securities during a quarter, we can cure this failure by disposing of sufficient non-qualifying assets within 30
days after the close of that quarter. If we fail the 5% asset test, or the 10% vote or value asset tests at the end of any quarter and
such failure is not cured within 30 days thereafter, we may dispose of sufficient assets (generally within six months after the last day
of the quarter in which our identification of the failure to satisfy these asset tests occurred) to cure such a violation that does not
exceed the lesser of 1% of our assets at the end of the relevant quarter or $10,000,000. If we fail any of the other asset tests or our
failure of the 5% and 10% asset tests is in excess of the de minimis amount described above, as long as such failure was due to
reasonable cause and not willful neglect, we may be permitted to avoid disqualification as a REIT, after the 30 day cure period, by taking
steps including the disposition of sufficient assets to meet the asset test (generally within six months after the last day of the quarter
in which our identification of the failure to satisfy the REIT asset test occurred) and paying a tax equal to the greater of $50,000 or
the corporate income tax rate (currently 21%) of the net income generated by the non-qualifying assets during the period in which we failed
to satisfy the asset test.
We may invest in Agency RMBS
whose principal and interest payments are guaranteed by a U.S. government agency, such as Ginnie Mae, or a GSE that are pass-through certificates.
We expect that these agency pass-through certificates will be treated as interests in grantor trusts. Consequently, we will be treated
as owning an undivided beneficial ownership interest in the mortgage loans held by the grantor trust, and, therefore, we will treat the
Agency RMBS as qualifying assets for purposes of the 75% asset test.
We may invest in RMBS that
are not issued or guaranteed by a U.S. government agency or GSE. We expect that our investments in non-agency RMBS will be treated as
interests in REMICs for U.S. federal income tax purposes. In the case of an RMBS treated as an interest in a REMIC, such interest will
generally qualify as a real estate asset for purposes of the 75% asset test. If less than 95% of the assets of a REMIC are real estate
assets, however, then only a proportionate part of our interest in the REMIC would qualify for purposes of the 75% asset test.
We expect that the assets
and mortgage-related securities that we own generally will be qualifying assets for purposes of the 75% asset test. However, to the extent
that we own non-REMIC CMOs or other debt instruments secured by mortgage loans (rather than by real property) or secured by non-real estate
assets, or debt securities that are not secured by mortgages on real property, those securities may not be qualifying assets for purposes
of the 75% asset test.
TBAs
We may use TBA, forward contracts
as a means of investing and financing Agency RMBS. There is no direct authority with respect to the qualification of TBAs as real estate
assets or U.S. government securities for purposes of the 75% asset test. We intend to treat our TBAs as qualifying assets for purposes
of the 75% asset test, to the extent set forth in an opinion from Sidley Austin LLP substantially to the effect that, for purposes of
the 75% asset test, our ownership of a TBA should be treated as ownership of the underlying Agency RMBS. Such opinion of counsel is not
binding on the IRS, and there can be no assurance that the IRS will not successfully challenge the conclusions set forth therein. In addition,
the opinion of Sidley Austin LLP is based on various assumptions relating to our TBAs and is conditioned upon fact-based representations
and covenants made by our management regarding our TBAs. If the IRS were to successfully challenge the opinion of Sidley Austin LLP, we
could be subject to a penalty tax or we could fail to remain qualified as a REIT if a sufficient portion of our assets consists of TBAs
or a sufficient portion of our income consists of income or gains from the disposition of TBAs.
Excess MSRs
We may invest in excess MSRs.
Based on IRS guidance, we intend to treat excess MSRs as obligations secured by mortgages on real property and, therefore, as qualifying
for purposes of the 75% asset test. However, it is possible that the IRS could assert that such excess MSRs are not qualifying assets
under the 75% asset test. In the event that such excess MSRs were determined not to be qualifying assets for the 75% asset test, we could
be subject to a penalty tax or we could fail to remain qualified as a REIT if a sufficient portion of our assets consists of excess MSRs
or a sufficient portion of our income consists of income or gains from excess MSRs.
Repurchase Agreements
In order to finance some of
the assets that we hold or acquire, we may enter into repurchase agreements under which we will nominally sell certain of our assets to
a counterparty and simultaneously enter into an agreement to repurchase the sold assets. Although the tax treatment of repurchase transactions
is unclear, we take the position that, for U.S. federal income tax purposes, we are the owner of those assets that are the subject of
any such repurchase agreement notwithstanding that we may transfer record ownership of those assets to the counterparty during the term
of any such agreement. Because we enter into repurchase agreements, the tax treatment of which is unclear, the IRS could assert that we
did not own the assets during the term of the repurchase agreement, in which case we could fail to qualify as a REIT.
Annual Distribution Requirements
In order to qualify as a REIT,
we are required to distribute dividends, other than capital gain dividends, to our stockholders in an amount at least equal to:
| ● | 90% of our “REIT taxable income” (computed without regard to the deduction for dividends paid
and our net capital gains); and |
| ● | 90% of the net income (after tax), if any, from foreclosure property (as described below); minus |
| ● | the sum of specified items of non-cash income that exceeds a percentage of our income. |
These distributions must be
paid in the taxable year to which they relate or in the following taxable year if such distributions are declared in October, November or
December of the taxable year, are payable to stockholders of record on a specified date in any such month and are actually paid before
the end of January of the following year. Such distributions are treated as both paid by us and received by each stockholder on December 31
of the year in which they are declared. In addition, at our election, a distribution for a taxable year may be declared before we timely
file our tax return for the year and be paid with or before the first regular dividend payment after such declaration, provided that such
payment is made during the 12-month period following the close of such taxable year. These distributions are taxable to our stockholders
in the year in which paid, even though the distributions relate to our prior taxable year for purposes of the 90% distribution requirement.
Except for distributions by
“publicly offered REITs”, distributions must not be “preferred dividends” in order for such distributions to be
counted towards the distribution requirement. A dividend is not a preferential dividend if it is pro rata among all outstanding
shares of stock within a particular class and is in accordance with the preferences among different classes of stock as set forth in the
organizational documents. We believe that we are and will continue to be a publicly offered REIT and, therefore, will not be subject to
this limitation.
To the extent that we distribute
at least 90%, but less than 100%, of our “REIT taxable income,” as adjusted, we will be subject to tax at the regular corporate
tax rate on the retained portion. In addition, we may elect to retain, rather than distribute, our net long-term capital gains and pay
tax on such gains. In this case, we could elect to have our stockholders include their proportionate share of such undistributed long-term
capital gains in income and receive a corresponding credit for their proportionate share of the tax paid by us. Our stockholders would
then increase the adjusted basis of their stock in us by the difference between the designated amounts included in their long-term capital
gains and the tax deemed paid with respect to their proportionate shares.
If we fail to distribute during
each calendar year at least the sum of:
| ● | 85% of our REIT ordinary income for such year; |
| ● | 95% of our REIT capital gain net income for such year; and |
| ● | any undistributed taxable income from prior periods, |
we will be subject to a 4% excise tax on the excess
of such required distribution over the sum of (i) the amounts actually distributed (taking into account excess distributions from
prior periods) and (ii) the amounts of income retained on which we have paid corporate income tax. We intend to make timely distributions
so that we are not subject to the 4% excise tax.
It is possible that we, from
time to time, may not have sufficient cash to meet the distribution requirements due to timing differences between (i) the actual
receipt of cash, including receipt of distributions from our subsidiaries and (ii) the inclusion of items in income by us for U.S.
federal income tax purposes. For example, we may acquire debt instruments or notes whose stated redemption price may exceed its issue
price as determined for U.S. federal income tax purposes (such excess, OID), such that we will be required to include in our income a
portion of the OID each year that the instrument is held before we receive any corresponding cash. In the event that such timing differences
occur, in order to meet the distribution requirements, it might be necessary to arrange for short-term, or possibly long-term, borrowings
or to pay dividends in the form of taxable in-kind distributions of property, including taxable stock dividends. In the case of a taxable
stock dividend, stockholders would be required to include the dividend as income and would be required to satisfy the tax liability associated
with the distribution with cash from other sources including sales of our common stock. Both a taxable stock distribution and sale of
common stock resulting from such distribution could adversely affect the price of our common stock.
We may be able to rectify
a failure to meet the distribution requirements for a year by paying “deficiency dividends” to stockholders in a later year,
which may be included in our deduction for dividends paid for the earlier year. In this case, we may be able to avoid losing our qualification
as a REIT or being taxed on amounts distributed as deficiency dividends.
However, we will be required
to pay interest and a penalty based on the amount of any deduction taken for deficiency dividends.
Recordkeeping Requirements
We are required to maintain
records and request on an annual basis information from specified stockholders. These requirements are designed to assist us in determining
the actual ownership of our outstanding stock and maintaining our qualifications as a REIT.
Prohibited Transactions
Net income we derive from
a prohibited transaction is subject to a 100% tax. The term “prohibited transaction” generally includes a sale or other disposition
of property (other than foreclosure property) that is held as inventory or primarily for sale to customers, in the ordinary course of
a trade or business by a REIT, by a lower-tier partnership in which the REIT holds an equity interest or by a borrower that has issued
a shared appreciation mortgage or similar debt instrument to the REIT. We intend to conduct our operations so that no asset owned by us
or our pass-through subsidiaries will be held as inventory or primarily for sale to customers, and that a sale of any assets owned by
us directly or through a pass-through subsidiary will not be in the ordinary course of business. However, whether property is held as
inventory or “primarily for sale to customers in the ordinary course of a trade or business” depends on the particular facts
and circumstances. No assurance can be given that any particular asset in which we hold a direct or indirect interest will not be treated
as property held as inventory or primarily for sale to customers or that certain safe harbor provisions of the Code that prevent such
treatment will apply. The 100% tax will not apply to gains from the sale of property that is held through a TRS or other taxable corporation,
although such income will be subject to tax in the hands of the corporation at the regular corporate income tax rate.
Foreclosure Property
Foreclosure property is real
property and any personal property incident to such real property:
| ● | that is acquired by a REIT as a result of the REIT having bid on the property at foreclosure or having
otherwise reduced the property to ownership or possession by agreement or process of law after there was a default (or default was imminent)
on a lease of the property or a mortgage loan held by the REIT and secured by the property; |
| ● | for which the related loan or lease was acquired by the REIT at a time when default was not imminent or
anticipated; and |
| ● | for which such REIT makes a proper election to treat the property as foreclosure property. REITs generally
are subject to tax at the corporate tax rate (currently 21%) on any net income from foreclosure property, including any gain from the
disposition of the foreclosure property, other than income that would otherwise be qualifying income for purposes of the 75% gross income
test. Any gain from the sale of property for which a foreclosure property election has been made will not be subject to the 100% tax on
gains from prohibited transactions described above, even if the property would otherwise constitute inventory or dealer property in the
hands of the selling REIT. We do not anticipate that we will receive any income from foreclosure property that is not qualifying income
for purposes of the 75% gross income test, but, if we do receive any such income, we intend to elect to treat the related property as
foreclosure property. |
Failure to Qualify
In the event that we violate
a provision of the Code that would result in our failure to qualify as a REIT, we may nevertheless continue to qualify as a REIT. Specified
relief provisions will be available to us to avoid such disqualification if:
| ● | the violation is due to reasonable cause and not due to willful neglect; |
| ● | we pay a penalty of $50,000 for each failure to satisfy a requirement for qualification as a REIT; and |
| ● | the violation does not include a violation under the gross income or asset tests described above (for
which other specified relief provisions are available). |
This cure provision reduces
the instances that could lead to our disqualification as a REIT for violations due to reasonable cause. If we fail to qualify for taxation
as a REIT in any taxable year and none of the relief provisions of the Code apply, we will be subject to tax on our taxable income at
the regular corporate rate. Distributions to our stockholders in any year in which we are not a REIT will not be deductible by us, nor
will they be required to be made. In this situation, to the extent of current and accumulated earnings and profits, and, subject to limitations
of the Code, distributions to our stockholders will generally be taxable in the case of our stockholders who are individual U.S. stockholders
(as defined below) at a maximum rate of 20% and dividends in the hands of our corporate U.S. stockholders may be eligible for the dividends
received deduction. In addition, distributions to individual U.S. stockholders during any year in which we are not a REIT will not be
eligible for the deduction equal to 20% of the amount of such dividends. Unless we are entitled to relief under specific statutory provisions,
we will also be disqualified from re-electing to be taxed 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, we will be entitled to statutory relief.
Taxation of Taxable U.S. Stockholders
This section summarizes the
taxation of U.S. stockholders who hold our stock that are not tax-exempt organizations. For these purposes, a U.S. stockholder is a beneficial
owner of our stock who for U.S. federal income tax purposes is:
| ● | a citizen or resident of the U.S.; |
| ● | a corporation (including an entity treated as a corporation for U.S. federal income tax purposes) created
or organized in or under the laws of the U.S. or of a political subdivision thereof (including the District of Columbia); |
| ● | an estate whose income is subject to U.S. federal income taxation regardless of its source; or |
| ● | any trust if (i) a U.S. court is able to exercise primary supervision over the administration of
such trust and one or more U.S. persons have the authority to control all substantial decisions of the trust or (ii) it has a valid
election in place to be treated as a U.S. person. |
If an entity or arrangement
treated as a partnership for U.S. federal income tax purposes holds our stock, the U.S. federal income tax treatment of a partner generally
will depend upon the status of the partner and the activities of the partnership. A partner of a partnership holding our common stock
should consult its own tax advisor regarding the U.S. federal income tax consequences to the partner of the acquisition, ownership and
disposition of our stock by the partnership.
Distributions
Provided that we qualify as
a REIT, distributions made to our taxable U.S. stockholders out of our current or accumulated earnings and profits, and not designated
as capital gain dividends, will generally be taken into account by them as ordinary dividend income and will not be eligible for the dividends
received deduction for corporations.
In determining the extent
to which a distribution with respect to our common stock constitutes a dividend for U.S. federal income tax purposes, our earnings and
profits will be allocated first to distributions with respect to our preferred stock, if any, and then to our common stock. Dividends
received from REITs are generally not eligible to be taxed at the preferential qualified dividend income rates applicable to individual
U.S. stockholders who receive dividends from taxable subchapter C corporations.
In addition, distributions
from us that are designated as capital gain dividends will be taxed to U.S. stockholders as long-term capital gains, to the extent that
they do not exceed our actual net capital gain for the taxable year, without regard to the period for which the U.S. stockholder has held
our stock. To the extent that we elect under the applicable provisions of the Code to retain our net capital gains, U.S. stockholders
will be treated as having received, for U.S. federal income tax purposes, our undistributed capital gains as well as a corresponding credit
for taxes paid by us on such retained capital gains. U.S. stockholders will increase their adjusted tax basis in our common stock by the
difference between their allocable share of such retained capital gain and their share of the tax paid by us. Long-term capital gains
are generally taxable at maximum federal rates of 20% in the case of U.S. stockholders who are individuals and 21% for corporations.
Distributions in excess of
our current and accumulated earnings and profits will not be taxable to a U.S. stockholder to the extent that they do not exceed the adjusted
tax basis of the U.S. stockholder’s shares in respect of which the distributions were made, but rather will reduce the adjusted
tax basis of those shares. To the extent that such distributions exceed the adjusted tax basis of an individual U.S. stockholder’s
shares, they will be included in income as long-term capital gain, or short-term capital gain if the shares have been held for one year
or less. In addition, any dividend declared by us in October, November or December of any year and payable to a U.S. stockholder
of record on a specified date in any such month will be treated as both paid by us and received by the U.S. stockholder on December 31
of such year, provided that the dividend is actually paid by us before the end of January of the following calendar year.
With respect to U.S. stockholders
who are taxed at the rates applicable to individuals, we may elect to designate a portion of our distributions paid to such U.S. stockholders
as “qualified dividend income.” A portion of a distribution that is properly designated as qualified dividend income is taxable
to non-corporate U.S. stockholders at the same rates as capital gain, provided that the U.S. stockholder has held the common stock with
respect to which the distribution is made for more than 60 days during the 121-day period beginning on the date that is 60 days before
the date on which such common stock became ex-dividend with respect to the relevant distribution. The maximum amount of our distributions
eligible to be designated as qualified dividend income for a taxable year is equal to the sum of:
| ● | the qualified dividend income received by us during such taxable year from non-REIT C corporations (including
any TRS in which we may own an interest); |
| ● | the excess of any “undistributed” REIT taxable income recognized during the immediately preceding
year over the U.S. federal income tax paid by us with respect to such undistributed REIT taxable income; and |
| ● | the excess of any income recognized during the immediately preceding year attributable to the sale of
a built-in-gain asset that was acquired in a carry-over basis transaction from a non-REIT C corporation over the U.S. federal income tax
paid by us with respect to such built-in gain. |
In addition, the total amount
of dividends that we may designate as “qualified dividend income” or “capital gain dividends” may not exceed our
dividends paid for the taxable year. Generally, dividends that we receive will be treated as qualified dividend income for purposes of
the first bullet above if the dividends are received from a domestic C corporation (other than a REIT or a RIC), any TRS we may form,
or a “qualifying foreign corporation” and specified holding period requirements and other requirements are met.
Under the TCJA, dividends
received by individual U.S. stockholders from us that are neither attributable to “qualified dividend income” nor designated
as “capital gain dividends” will be eligible for a deduction equal to 20% of the amount of such dividends in taxable years
beginning before January 1, 2026, provided that the U.S. stockholders satisfies certain holding period requirements.
To the extent that we have
available net operating losses and capital losses carried forward from prior tax years, such losses may reduce the amount of distributions
that must be made in order to comply with the REIT distribution requirements. See “U.S. Federal Income Tax Considerations of
Two Harbors as a REIT—Taxation of Two Harbors—General” and “U.S. Federal Income Tax Considerations of Two
Harbors as a REIT—Annual Distribution Requirements.” Such losses, however, are not passed through to U.S. stockholders
and do not offset income of U.S. stockholders from other sources, nor do they affect the character of any distributions that are actually
made by us, which are generally subject to tax in the hands of U.S. stockholders to the extent that we have current or accumulated earnings
and profits.
Dispositions of Our Common Stock
In general, a U.S. stockholder
will realize gain or loss upon the sale, redemption or other taxable disposition of our common stock in an amount equal to the difference
between the sum of the fair market value of any property and the amount of cash received in such disposition and the U.S. stockholder’s
adjusted tax basis in the common stock at the time of the disposition. In general, a U.S. stockholder’s adjusted tax basis will
equal the U.S. stockholder’s acquisition cost, increased by the excess of net capital gains deemed distributed to the U.S. stockholder
(discussed above) less tax deemed paid on such gain and reduced by returns of capital. In general, capital gains recognized by individuals
and other non-corporate U.S. stockholders upon the sale or disposition of shares of our common stock will be subject to a maximum U.S.
federal income tax rate of 20%, if our common stock is held for more than one year, and will be taxed at ordinary income rates (of up
to 37%) if our common stock is held for one year or less. Gains recognized by U.S. stockholders that are corporations are subject to U.S.
federal income tax at a rate of 21%, whether or not classified as long-term capital gains.
U.S. stockholders are advised
to consult with their tax advisors with respect to their capital gain tax liability. Capital losses recognized by a U.S. stockholder upon
the disposition of our common stock held for more than one year at the time of disposition will be considered long-term capital losses,
and are generally available only to offset capital gain income of the U.S. stockholder but not ordinary income (except in the case of
individuals, who may offset up to $3,000 of ordinary income each year). In addition, any loss upon a sale or exchange of shares of our
common stock by a U.S. stockholder who has held the shares for six months or less, after applying holding period rules, will be treated
as a long-term capital loss to the extent of distributions received from us that were required to be treated by the U.S. stockholder as
long-term capital gain.
Passive Activity Losses and Investment Interest
Limitations
Distributions made by us and
gain arising from the sale or exchange by a U.S. stockholder of our common stock will not be treated as passive activity income. As a
result, U.S. stockholders will not be able to apply any “passive losses” against income or gain relating to our common stock.
Distributions made by us, to the extent they do not constitute a return of capital, generally will be treated as investment income for
purposes of computing the investment interest limitation. A U.S. stockholder that elects to treat capital gain dividends, capital gains
from the disposition of stock or qualified dividend income as investment income for purposes of the investment interest limitation will
be taxed at ordinary income rates on such amounts.
Medicare Tax
Certain U.S. stockholders,
who are individuals, estates or trusts and whose income exceeds certain thresholds will be required to pay a 3.8% Medicare tax on dividends
and other income, including capital gain from the sale or disposition of our common stock.
Taxation of Tax-Exempt U.S. Stockholders
U.S. tax-exempt entities,
including qualified employee pension and profit sharing trusts and individual retirement accounts, generally are exempt from U.S. federal
income taxation. However, they are subject to taxation on their unrelated business taxable income, or UBTI. While many investments in
real estate may generate UBTI, the IRS has ruled that dividend distributions from a REIT to a tax-exempt entity do not constitute UBTI.
Based on that ruling, and provided that:
| ● | a tax-exempt U.S. stockholder has not held our common stock as “debt financed property” within
the meaning of the Code (i.e., where the acquisition or holding of the property is financed through a borrowing by the tax-exempt
stockholder), |
| ● | our common stock is not otherwise used in an unrelated trade or business, and |
| ● | we do not hold an asset that gives rise to excess inclusion income, |
distributions from us and income from
the sale of our common stock generally should not give rise to UBTI to a tax-exempt U.S. stockholder.
Tax-exempt U.S. stockholders
that are social clubs, voluntary employee benefit associations, supplemental unemployment benefit trusts, and qualified group legal services
plans exempt from U.S. federal income taxation under Sections 501(c)(7), (c)(9), (c)(17) and (c)(20) of the Code, respectively, are subject
to different UBTI rules, which generally will require them to characterize distributions from us as UBTI unless they are able to properly
claim a deduction for amounts set aside or placed in reserve for specific purposes so as to offset the income generated by its investment
in our common stock. These prospective investors should consult their tax advisors concerning these “set aside” and reserve
requirements.
In certain circumstances,
a pension trust that (i) is described in Section 401(a) of the Code, (ii) is tax exempt under Section 501(a) of
the Code, and (iii) owns more than 10% of our stock could be required to treat a percentage of the dividends from us as UBTI if we
are a “pension-held REIT.” We will not be a pension-held REIT unless (i) either (a) one pension trust owns more
than 25% of the value of our stock, or (b) a group of pension trusts, each individually holding more than 10% of the value of our
stock, collectively owns more than 50% of such stock; and (ii) we would not have qualified as a REIT but for the fact that Section 856(h)(3) of
the Code provides that stock owned by such trusts shall be treated, for purposes of the requirement that not more than 50% of the value
of the outstanding stock of a REIT is owned, directly or indirectly, by five or fewer “individuals” (as defined in the Code
to include certain entities), as owned by the beneficiaries of such trusts. Certain restrictions limiting ownership and transfer of our
stock should generally prevent a tax-exempt entity from owning more than 10% of the value of our stock, or us from becoming a pension-held
REIT.
Tax-exempt U.S. stockholders
are urged to consult their tax advisors regarding the U.S. federal, state and local tax consequences of owning our stock.
Taxation of Non-U.S. Stockholders
The following is a summary
of certain U.S. federal income tax consequences of the acquisition, ownership and disposition of our common stock applicable to non-U.S.
stockholders of our common stock. For these purposes, a non-U.S. stockholder is a beneficial owner of our stock who is neither a U.S.
stockholder nor an entity that is treated as a partnership for U.S. federal income tax purposes.
The discussion is based on
current law and is for general information only. It addresses only selective and not all aspects of U.S. federal income taxation of non-U.S.
stockholders. In addition, this discussion assumes that:
| ● | you will not have held more than 10% of our common stock (taking into account applicable constructive
ownership rules) at any time during the five-year period ending on the date on which you dispose of our common stock or receive distributions
from us; |
| ● | our common stock is and will continue to be “regularly traded” on an established securities
market located in the United States within the meaning of the Foreign Investment in Real Property Tax Act of 1980, or FIRPTA, although
there can be no assurance that this will continue to be the case; and |
| ● | you are not a “qualified shareholder”, as defined in Section 897(k)(3)(A) of the
Code, which describes certain partnerships and other collective investment vehicles that satisfy various recordkeeping, administrative
and other requirements. |
If you are a non-U.S. stockholder
as to which any of these assumptions is not accurate, and in particular if you are a “qualified shareholder” within the meaning
of FIRPTA, you should consult your own tax advisor concerning the tax consequence to you of sales of our stock and the receipt of dividends
and other distributions from us.
General
For most foreign investors,
investment in a REIT that invests principally in mortgage loans and mortgage-backed securities is not the most tax-efficient way to invest
in such assets. That is because receiving distributions of income derived from such assets in the form of REIT dividends subjects most
foreign investors to withholding taxes that direct investment in those asset classes, and the direct receipt of interest and principal
payments with respect to them, would not. The principal exceptions are foreign sovereigns and their agencies and instrumentalities, which
may be exempt from withholding taxes on certain REIT dividends under the Code, and certain foreign pension funds or similar entities able
to claim an exemption from withholding taxes on REIT dividends under the terms of a bilateral tax treaty between their country of residence
and the United States.
Ordinary Dividends
The portion of dividends received
by non-U.S. stockholders payable out of our earnings and profits that are not effectively connected with a U.S. trade or business of the
non-U.S. stockholder will generally be subject to U.S. federal withholding tax at the rate of 30%, unless reduced or eliminated by an
applicable income tax treaty. Under some treaties, however, lower rates generally applicable to dividends do not apply to dividends from
REITs. In addition, any portion of the dividends paid to non-U.S. stockholders that are treated as excess inclusion income will not be
eligible for exemption from the 30% withholding tax or a reduced treaty rate. In the case of a taxable stock dividend with respect to
which any withholding tax is imposed, we may have to withhold or dispose of part of the shares otherwise distributable in such dividend
and use such shares or the proceeds of such disposition to satisfy the withholding tax imposed.
In general, non-U.S. stockholders
will not be considered to be engaged in a U.S. trade or business solely as a result of their ownership of our stock. In cases where the
dividend income from a non-U.S. stockholder’s investment in our common stock is, or is treated as, effectively connected with the
non-U.S. stockholder’s conduct of a U.S. trade or business, the non-U.S. stockholder generally will be subject to U.S. federal income
tax at graduated rates, in the same manner as U.S. stockholders are taxed with respect to such dividends, and may also be subject to the
30% branch profits tax on the income after the application of the income tax in the case of a non-U.S. stockholder that is a corporation.
Non-Dividend Distributions
Unless either (i) the
non-U.S. stockholder’s investment in our common stock is effectively connected with a U.S. trade or business conducted by such non-U.S.
stockholder (in which case the non-U.S. stockholder will be subject to the same treatment as U.S. stockholders with respect to such gain)
or (ii) the non-U.S. stockholder is a nonresident alien individual who was present in the U.S. for 183 days or more during the taxable
year and has a “tax home” in the U.S. (in which case the non-U.S. stockholder will be subject to a 30% tax on the individual’s
net capital gain for the year), distributions by us which are not dividends out of our earnings and profits will not be subject to U.S.
federal income tax. If we cannot determine at the time at which a distribution is made whether or not the distribution will exceed current
and accumulated earnings and profits, the distribution will be subject to withholding at the rate applicable to dividends. However, the
non-U.S. stockholder may seek a refund from the IRS of any amounts withheld if it is subsequently determined that the distribution was,
in fact, in excess of our current and accumulated earnings and profits.
Capital Gain Dividends
Capital gain dividends received
by a non-U.S. stockholder from a REIT are generally not subject to U.S. federal income or withholding tax, unless either (i) the
non-U.S. stockholder’s investment in our common stock is effectively connected with a U.S. trade or business conducted by such non-U.S.
stockholder (in which case the non-U.S. stockholder will be subject to the same treatment as U.S. stockholders with respect to such gain)
or (ii) the non-U.S. stockholder is a nonresident alien individual who was present in the U.S. for 183 days or more during the taxable
year and has a “tax home” in the U.S. (in which case the non-U.S. stockholder will be subject to a 30% tax on the individual’s
net capital gain for the year). In addition, under FIRPTA, a distribution made by us to a non-U.S. stockholder, to the extent attributable
to a gain from disposition of a “U.S. real property interest” held by us directly or through pass-through subsidiaries, will
be treated as a distribution subject to the rules discussed above under “—Taxation of Non-U.S. Stockholders—Ordinary
Dividends.”
Dispositions of Our Common Stock
Gain from the sale of our
common stock will be taxable in the U.S. to a non-U.S. stockholder, in two cases: (i) if the non-U.S. stockholder’s investment
in our common stock is effectively connected with a U.S. trade or business conducted by such non-U.S. stockholder, the non-U.S. stockholder
will be subject to the same treatment as a U.S. stockholder with respect to such gain, or (ii) if the non-U.S. stockholder is a nonresident
alien individual who was present in the U.S. for 183 days or more during the taxable year and has a “tax home” in the U.S.,
the nonresident alien individual will be subject to a 30% tax on the individual’s capital gain.
Other U.S. Federal Income Tax Withholding
and Reporting Requirements
The Foreign Account Tax Compliance
Act provisions of the Code currently impose a 30% withholding tax on U.S.-source dividends, interest and other income items paid to (i) foreign
financial institutions that do not agree to comply with certain diligence, reporting and withholding obligations with respect to their
U.S. accounts and (ii) non-financial foreign entities that do not identify (or confirm the absence of) substantial U.S. owners. The
withholding tax of 30% would apply to dividends paid to certain foreign entities unless various information reporting requirements are
satisfied. Recently issued proposed Treasury regulations, which non-U.S. stockholders may rely on, eliminate the FATCA withholding tax
on gross proceeds, but such regulations are currently only in proposed form and are subject to change. For these purposes, a foreign financial
institution generally is defined as any non-U.S. entity that (i) accepts deposits in the ordinary course of a banking or similar
business, (ii) is engaged in the business of holding financial assets for the account of others, or (iii) is engaged or holds
itself out as being engaged primarily in the business of investing, reinvesting, or trading in securities, partnership interests, commodities,
or any interest in such assets.
Backup Withholding and Information Reporting
We will report to our U.S.
stockholders and the IRS the amount of dividends paid during each calendar year and the amount of any tax withheld. Under the backup
withholding rules, a U.S. stockholder may be subject to backup withholding with respect to dividends paid unless the stockholder is a
corporation or comes within other exempt categories and, when required, demonstrates this fact or provides a taxpayer identification
number or social security number, certifies as to no loss of exemption from backup withholding and otherwise complies with applicable
requirements of the backup withholding rules. A U.S. stockholder that does not provide his or her correct taxpayer identification number
or social security number may also be subject to penalties imposed by the IRS. In addition, we may be required to withhold a portion
of capital gain distributions to any U.S. stockholder who fails to certify its non-foreign status.
We must report annually to
the IRS and to each non-U.S. stockholder the amount of dividends paid to such holder and the tax withheld with respect to such dividends,
regardless of whether withholding was required. Copies of the information returns reporting such dividends and withholding may also be
made available to the tax authorities in the country in which the non-U.S. stockholder resides under the provisions of an applicable income
tax treaty. A non-U.S. stockholder may be subject to backup withholding unless applicable certification requirements are met.
Payment of the proceeds of
a sale of our common stock within the U.S. is subject to both backup withholding and information reporting unless the beneficial owner
certifies under penalties of perjury that it is a non-U.S. stockholder (and the payor does not have actual knowledge or reason to know
that the beneficial owner is a U.S. person) or the stockholder otherwise establishes an exemption. Payment of the proceeds of a sale of
our common stock conducted through certain U.S. related financial intermediaries is subject to information reporting (but not backup withholding)
unless the financial intermediary has documentary evidence in its records that the beneficial owner is a non-U.S. stockholder and specified
conditions are met or an exemption is otherwise established.
Backup withholding is not
an additional tax. Any amounts withheld under the backup withholding rules may be allowed as a refund or a credit against such stockholder’s
U.S. federal income tax liability provided the required information is furnished to the IRS.
State and Local Taxes
We and our stockholders may
be subject to state or local taxation in various jurisdictions, including those in which we or they transact business, own property or
reside. The state or local tax treatment of us and our stockholders may not conform to the U.S. federal income tax treatment discussed
above. Prospective stockholders should consult their tax advisors regarding the application and effect of state and local income and other
tax laws on an investment in our common stock.
Future legislative or regulatory changes to
the U.S. federal income tax laws could adversely affect REITs and their stockholders and therefore could adversely affect us and our
stockholders.
Future legislative or regulatory tax changes to
the U.S. federal income tax laws could adversely affect REITs and their stockholders and therefore could adversely affect us and our stockholders.
In addition, the 20% deduction for ordinary REIT dividends that a REIT distributes on its common stock to individual U.S. stockholders
will expire at the end of 2025 unless the deduction is extended by future legislation. See “— Taxation of Taxable
U.S. Stockholders — Distributions” above. Additionally, the REIT rules are constantly under
review by persons involved in the legislative process and by the IRS and the U.S. Department of the Treasury, which may result in revisions
to regulations and interpretations in addition to legislative changes.
DESCRIPTION OF DEBT SECURITIES
General
The following description of the terms
of our senior debt securities and subordinated debt securities, together, referred to as the debt securities, sets forth certain general
terms and provisions of the debt securities to which any prospectus supplement may relate. Unless otherwise noted, the general terms and
provisions of our debt securities discussed below apply to both our senior debt securities and our subordinated debt securities. Our debt
securities may be issued from time to time in one or more series. The particular terms of any series of debt securities and the extent
to which the general provisions may apply to a particular series of debt securities will be described in the prospectus supplement relating
to that series.
The senior debt securities will be issued
under an indenture between us and The Bank of New York Mellon Trust Company, N.A., as “Senior Indenture Trustee,” referred
to as the senior indenture. The subordinated debt securities will be issued under an indenture between us and a Subordinated Indenture
Trustee, referred to as the subordinated indenture and, together with the senior indenture, the indentures. The Senior Indenture Trustee
and the Subordinated Indenture Trustee are both referred to, individually, as the Trustee. The senior debt securities will constitute
our unsecured and unsubordinated obligations and the subordinated debt securities will constitute our unsecured and subordinated obligations.
A detailed description of the subordination provisions is provided below under the caption “— Ranking and Subordination — Subordination.”
In general, however, if we declare bankruptcy, holders of the senior debt securities will be paid in full before the holders of subordinated
debt securities will receive anything.
The statements set forth below are brief
summaries of certain provisions contained in the indentures, which summaries do not purport to be complete and are qualified in their
entirety by reference to the indentures, which are filed as exhibits to the registration statement of which this prospectus forms a part.
Terms used herein that are otherwise not defined shall have the meanings given to them in the indentures. Such defined terms shall be
incorporated herein by reference.
The indentures will not limit the amount
of debt securities that may be issued under the applicable indenture, and debt securities may be issued under the applicable indenture
up to the aggregate principal amount that may be authorized from time to time by us. Any such limit applicable to a particular series
will be specified in the prospectus supplement relating to that series.
The prospectus supplement relating to
any series of debt securities in respect of which this prospectus is being delivered will contain the following terms, among others, for
each such series of debt securities:
| ● | the title of the debt securities of such series; |
| ● | the person to whom any interest on a debt security of such series
is payable, if other than the registered holder at the close of business on the regular record date for such interest; |
| ● | the date or dates on which the principal amount of the debt
securities of such series is payable; |
| ● | the rate or rates (or manner of calculation thereof) at which
the debt securities of such series will bear interest, if any, the date or dates from which interest will accrue and the interest payment
dates and regular record dates for the debt securities of such series; |
| ● | the place or places where the principal of and any premium and
interest on debt securities of such series is payable; |
| ● | the period or periods within which the redemption price or prices
or the repayment price or prices, as the case may be, at which, and the terms and conditions upon which, the debt securities of such
series may be redeemed or repaid at the company’s option or the option of the holder of such debt securities; |
| ● | the obligation, if any, of the company to purchase the debt
securities of such series pursuant to any sinking fund or analogous provisions or at the option of a holder of such debt securities and
the period or periods within which, the price or prices at which and the terms and conditions upon which such debt securities of such
series will be purchased, in whole or in part, pursuant to such obligation; |
| ● | if other than denominations of $1,000 and any integral multiple
thereof, the denominations in which the debt securities of such series will be issuable; |
| ● | provisions, if any, with regard to the conversion or exchange
of the debt securities of such series, at the option of the holders of such debt securities or the company, as the case may be, for or
into new securities of a different series or other securities; |
| ● | if other than U.S. dollars, the currency or currencies or units
based on or related to currencies in which the debt securities of such series will be denominated and in which payments of principal
of, and any premium and interest on, such debt securities shall or may be payable; |
| ● | if the principal of (and premium, if any) or interest, if any,
on the debt securities of such series are to be payable, at the election of the company or a holder of such debt securities, in a currency
(including a composite currency) other than that in which such debt securities are stated to be payable, the period or periods within
which, and the terms and conditions upon which, such election may be made; |
| ● | if the amount of payments of principal of (and premium, if any)
or interest, if any, on the debt securities of such series may be determined with reference to an index based on a currency (including
a composite currency) other than that in which such debt securities are stated to be payable, the manner in which such amounts shall
be determined; |
| ● | any limit upon the aggregate principal amount of the debt securities
of such series which may be authenticated and delivered under the applicable indenture; |
| ● | provisions, if any, related to the exchange of the debt securities
of such series, at the option of the holders of such debt securities, for other securities of the same series of the same aggregate principal
amount or of a different authorized series or different authorized denomination or denominations, or both; |
| ● | provisions, if any, relating to the appointment by us of an
authenticating agent other than in the location of the office of the Trustee, with power to act on behalf of the Trustee with respect
to the authentication and delivery of a series of debt securities in connection with such transactions as are specified in the indenture
or any prospectus supplement; |
| ● | the portion of the principal amount of the debt securities of
such series, if other than the principal amount thereof, which shall be payable upon declaration of acceleration of the maturity thereof
or provable in bankruptcy, as more fully described under the section “— Events of Default, Notice and Waiver”
below; |
| ● | any event of default with respect to the debt securities of
such series, if not set forth in the applicable indenture, and any additions, deletions or other changes to the events of default set
forth in the applicable indenture that shall be applicable to the debt securities of such series; |
| ● | any covenant solely for the benefit of the debt securities of
such series and any additions, deletions or other changes to the provisions of the applicable indenture more fully described under the
section “— Consolidation, Merger, Conveyance or Transfer on Certain Terms” below, under the section “—
Certain Covenants” below, the section of the applicable indenture containing the defined terms or any definitions relating
to such provisions of the applicable indenture that would otherwise be applicable to the debt securities of such series; |
| ● | if the provisions of the applicable indenture more fully described
under the section “— Defeasance” below will not be applicable to the debt securities of such series, and if
such provisions shall be applicable to any covenant or event of default specified in the prospectus supplement relating to such series
of debt securities that has not already been established in the applicable indenture; |
| ● | whether the debt securities of such series will be issued in
whole or in part in the form of global securities and, if so, the identity of the depositary with respect to such global securities and
the terms and conditions, if any, upon which such global securities may be exchanged for other securities; |
| ● | if the debt securities of such series will be guaranteed, the
terms and conditions of such guarantees and provisions for the accession of the guarantors to certain obligations under the applicable
indenture; |
| ● | with respect to subordinated debt securities only, the amendment
or modification of the subordination provisions in the subordinated indenture with respect to the debt securities of such series; and |
| ● | any other specific terms. |
We may issue debt securities of any series
at various times and we may reopen any series for further issuances from time to time without notice to existing holders of securities
of that series.
In addition, the prospectus supplement
will include a discussion of certain material U.S. federal income tax considerations applicable to the debt securities.
Unless we specify otherwise in the applicable
prospectus supplement relating to such series of debt securities, the covenants contained in the indentures will not provide special protection
to holders of debt securities if we enter into a highly leveraged transaction, recapitalization or restructuring.
Unless otherwise set forth in the prospectus
supplement relating to such series of debt securities, interest on outstanding debt securities will be paid to holders of record on the
regular record date as specified in the applicable debt security. Unless otherwise specified in the prospectus supplement, debt securities
will be issued in fully registered form only. Unless otherwise specified in the prospectus supplement, the principal amount of the debt
securities will be payable at the corporate trust office of the Trustee in New York, New York. The debt securities may be presented for
transfer or exchange at such office unless otherwise specified in the prospectus supplement, subject to the limitations provided in the
applicable indenture, without any service charge, but we may require payment of a sum sufficient to cover any tax or other governmental
charges payable in connection therewith.
Ranking and Subordination
General
The debt securities and the related guarantees
will effectively rank junior in right of payment to any of our or the guarantors’ current and future secured obligations to the
extent of the value of the assets securing such obligations. The debt securities and the guarantees will be effectively subordinated to
all existing and future liabilities, including indebtedness and trade payables, of our non-guarantor subsidiaries. Unless otherwise set
forth in the prospectus supplement relating to such series of debt securities, the indentures will not limit the amount of unsecured indebtedness
or other liabilities that can be incurred by our non-guarantor subsidiaries.
Ranking of Debt Securities
The senior debt securities described in
this prospectus will be unsecured, senior obligations of the company and will rank equally with the company’s other unsecured and
unsubordinated obligations. Any guarantees of the senior debt securities will be unsecured and senior obligations of each of the guarantors,
and will rank equally with all other unsecured and unsubordinated obligations of such guarantors. The subordinated debt securities will
be unsecured, subordinated obligations of the company and any guarantees of the subordinated debt securities will be unsecured and subordinated
obligations of each of the guarantors.
Subordination
If issued, the indebtedness
evidenced by the subordinated debt securities will be subordinate to the prior payment in full of all our Senior Indebtedness (as
defined below). During the continuance beyond any applicable grace period of any default in the payment of principal, premium,
interest or any other payment due on any of our Senior Indebtedness, we may not make any payment of principal of, or premium, if
any, or interest on the subordinated debt securities, except for certain sinking fund payments made in connection with the
redemption of debt securities prior to such default and except for payments made in connection with a defeasance with monies
deposited with the Trustee prior to such default. In addition, upon any payment or distribution of our assets to creditors upon any
dissolution, winding up, liquidation or reorganization, the payment of the principal of, or premium, if any, and interest on the
subordinated debt securities will be subordinated to the extent provided in the subordinated indenture in right of payment to the
prior payment in full of all our Senior Indebtedness. Because of this subordination, if we dissolve or otherwise liquidate, holders
of our subordinated debt securities may receive less, ratably, than holders of our Senior Indebtedness. The subordination provisions
do not prevent the occurrence of an event of default under the subordinated indenture.
The subordination provisions also apply
in the same way to any guarantor with respect to the Senior Indebtedness of such guarantor.
The term “Senior Indebtedness”
of a person means with respect to such person the principal of, premium, if any, interest on, and any other payment due pursuant to any
of the following, whether outstanding on the date of the subordinated indenture or incurred by that person in the future:
| ● | all of the indebtedness of that person for borrowed money, including
any indebtedness secured by a mortgage or other lien which is (1) given to secure all or part of the purchase price of property
subject to the mortgage or lien, whether given to the vendor of that property or to another lender, or (2) existing on property
at the time that person acquires it; |
| ● | all of the indebtedness of that person evidenced by notes, debentures,
bonds or other similar instruments sold by that person for money; |
| ● | all of the lease obligations which are capitalized on the books
of that person in accordance with generally accepted accounting principles; |
| ● | all indebtedness of others of the kinds described in the first
two bullet points above and all lease obligations of others of the kind described in the third bullet point above, in each case, that
the person, in any manner, assumes or guarantees or that the person in effect guarantees through an agreement to purchase, whether that
agreement is contingent or otherwise; and |
| ● | all renewals, extensions or refundings of indebtedness of the
kinds described in the first, second or fourth bullet points above and all renewals or extensions of leases of the kinds described in
the third or fourth bullet points above; unless, in the case of any particular indebtedness, lease, renewal, extension or refunding,
the instrument or lease creating or evidencing it or the assumption or guarantee relating to it expressly provides that such indebtedness,
lease, renewal, extension or refunding is not superior in right of payment to the subordinated debt securities. |
Our senior debt securities, and any unsubordinated
guarantee obligations of ours or any guarantor to which we and the guarantors are a party, including the guarantors’ guarantees
of our debt securities and other indebtedness for borrowed money, constitute Senior Indebtedness for purposes of the subordinated indenture.
Pursuant to the subordinated indenture,
the subordinated indenture may not be amended, at any time, to alter the subordination provisions of any outstanding subordinated debt
securities without the consent of the requisite holders of each outstanding series or class of Senior Indebtedness (as determined in accordance
with the instrument governing such Senior Indebtedness) that would be adversely affected thereby.
Consolidation, Merger, Conveyance or Transfer on Certain Terms
Except as described in the applicable
prospectus supplement relating to such debt securities, we will not consolidate with or merge into any other entity or convey or transfer
our properties and assets substantially as an entirety to any entity, unless:
| ● | the entity formed by such consolidation or into which we are
merged or the entity that acquires by conveyance or transfer our properties and assets substantially as an entirety shall be organized
and existing under the laws of the U.S. or any State or the District of Columbia, and will expressly assume, by supplemental indenture,
executed and delivered to the Trustee, in form reasonably satisfactory to the Trustee, the due and punctual payment of the principal
of (and premium, if any) and interest on all the debt securities and the performance of every covenant of the applicable indenture (as
supplemented from time to time) on our part to be performed or observed; |
| ● | immediately after giving effect to such transaction, no Event
of Default (as defined below), and no event which, after notice or lapse of time, or both, would become an Event of Default, shall have
happened and be continuing; and |
| ● | we have delivered to the Trustee an officers’ certificate
and an opinion of counsel each stating that such consolidation, merger, conveyance or transfer and such supplemental indenture comply
with the requirements set forth in the first two bullet points above and that all conditions precedent relating to such transaction have
been complied with. |
Upon any consolidation or merger, or any
conveyance or transfer of our properties and assets substantially as an entirety as set forth above, the successor person formed by such
consolidation or into which we are merged or to which such conveyance or transfer is made shall succeed to, and be substituted for, and
may exercise every right and power of ours under the applicable indenture with the same effect as if such successor had been named in
the applicable indenture. In the event of any such conveyance or transfer, we, as the predecessor, shall be discharged from all obligations
and covenants under the applicable indenture and the debt securities issued under such indenture and may be dissolved, wound up or liquidated
at any time thereafter.
Certain Covenants
Any covenants pertaining to a series of
debt securities will be set forth in a prospectus supplement relating to such series of debt securities.
Except as described in the prospectus
and any applicable prospectus supplement relating to such series of debt securities, the indentures and the debt securities do not contain
any covenants or other provisions designed to afford holders of debt securities protection in the event of a recapitalization or highly
leveraged transaction involving us.
Certain Definitions
The following are certain of the terms defined in the indentures:
“Significant Subsidiary”
means any Subsidiary which would be a “significant subsidiary” as defined in Article 1, Rule 1-02 of Regulation S-X,
promulgated pursuant to the Securities Act, as in effect on the date of the applicable indenture.
“Subsidiary” means,
with respect to any person, any corporation more than 50% of the voting stock of which is owned directly or indirectly by such person,
and any partnership, association, joint venture or other entity in which such person owns more than 50% of the equity interests or has
the power to elect a majority of the board of directors or other governing body.
Redemption
Unless we specify otherwise in the applicable
prospectus supplement, we may redeem any of the debt securities as a whole at any time or in part from time to time, at our option, on
at least 15 days, but not more than 45 days, prior notice mailed to the registered address of each holder of the debt securities
to be redeemed, at the price specified in the debt security at which it is to be redeemed. If specified in the applicable prospectus supplement
for a series of debt securities, we may rescind the redemption of such debt securities upon the occurrence of any of the following: (a) a
general suspension of trading or limitation on prices for securities on the securities exchange on which the shares of our stock are traded
for more than 6.5 consecutive trading hours; (b) the decline of the Dow Jones Industrial Average or the S&P 500 (or any successor
index) by more than certain percentages; (c) a banking moratorium or suspension of payments in respect of banks declared by
federal or state authorities; or (d) an act of terrorism or commencement of war or armed hostilities or other national or international
calamity involving the United States which in our reasonable judgment could have a material adverse effect on the market for our common
stock.
On and after the redemption date,
interest will cease to accrue on the debt securities or any portion thereof called for redemption, unless we default in the payment
of the Redemption Price, and any right to convert such debt securities shall terminate. On or before the redemption date, we shall
deposit with a paying agent or the applicable Trustee, or segregate and hold in trust, money sufficient to pay the Redemption Price
of the debt securities to be redeemed on such date. If we elect to redeem less than all of the debt securities of a series, then the
Trustee will select the particular debt securities of such series to be redeemed in a manner it deems appropriate and fair.
Defeasance
Except as otherwise set forth in the prospectus
supplement relating to such series of debt securities, each indenture will provide that, at our option:
| (a) | we and any applicable guarantors will be discharged from any
and all obligations in respect of any series of debt securities (except in each case for certain obligations to register the transfer
or exchange of debt securities, replace stolen, lost or mutilated debt securities, maintain paying agencies and hold monies for payment
in trust); or |
| (b) | (i) we need not comply with certain covenants contained
in the indenture and any prospectus supplement relating to such debt securities, including covenants relating to maintaining our legal
existence and complying with certain restrictions on our ability to consolidate or merger with, or transfer our properties and assets
substantially as an entirety to, another person, (ii) the guarantors will be released from the guarantees and (iii) certain
Events of Default (other than those arising out of the failure to pay interest or principal on the debt securities of that series and
certain events of bankruptcy, insolvency and reorganization) will no longer constitute Events of Default with respect to such series
of debt securities, |
in each case, if:
| ● | we deposit with the Trustee, in trust, money or the equivalent
in securities of the government which issued the currency in which the debt securities are denominated or government agencies backed
by the full faith and credit of such government, or a combination thereof, which through the payment of interest thereon and principal
thereof in accordance with their terms will provide money in an amount sufficient to pay all the principal (including any mandatory sinking
fund payments) of, and interest on, such series on the dates such payments are due in accordance with the terms of such series; |
| ● | no event of default or event (including such deposit) which
with notice or lapse of time would become an event of default with respect to the debt securities of such series shall have occurred
and be continuing on the date of such deposit (other than an event of default resulting from the borrowing of funds to be applied to
such deposit); |
| ● | we deliver to the Trustee an opinion of counsel to the effect
that the deposit and related defeasance would not cause the holders of such series to recognize income, gain or loss for federal income
tax purposes and, in the case of a discharge pursuant to clause (a) above, accompanied by a ruling to such effect received from
or published by the U.S. Internal Revenue Service, or IRS; |
| ● | we deliver to the Trustee an officers’ certificate stating
that such deposit was not made by us with the intent of preferring the holders over other creditors of ours or with the intent of defeating,
hindering, delaying or defrauding creditors of ours or others; |
| ● | we deliver to the Trustee an officers’ certificate stating
that all conditions precedent set forth in the indenture relating to the satisfaction and discharge of the indenture with respect to
the debt securities of such series have been satisfied; and |
| ● | we deliver to the Trustee an opinion of counsel to the effect
that the satisfaction and discharge of the indenture with respect to the debt securities of such series is authorized and permitted under
the indenture and all conditions precedent set forth in the indenture relating to such satisfaction and discharge have been satisfied. |
Events of Default, Notice and Waiver
Except as otherwise set forth in the
prospectus supplement relating to such series of debt securities, each indenture will provide that, if an Event of Default specified
therein with respect to any series of debt securities issued thereunder shall have happened and be continuing, either the Trustee
thereunder or the holders of 33 1/3% in aggregate principal amount of the outstanding debt securities of such series (or
33 1/3% in aggregate principal amount of all outstanding debt securities under such indenture, in the case of certain Events of
Default affecting all series of debt securities issued under such indenture) may declare the principal of all the debt securities of
such series to be due and payable; provided, that upon the occurrence of an event of default due to bankruptcy or insolvency
proceedings, such amounts shall be immediately due and payable without action by the Trustee or the holders of such series of debt
securities.
Except as otherwise set forth in the prospectus
supplement relating to such series of debt securities, an “Event of Default” in respect of any series will be defined in the
indentures as being any one of the following events:
| ● | default for 30 days in payment of any interest with respect
to such series; |
| ● | default in payment of principal of, or premium, if any, on,
or any sinking or purchase fund or analogous obligation with respect to, debt securities of such series when due at their stated maturity,
by declaration or acceleration, when called for redemption or otherwise; |
| ● | default for 90 days after written notice to us by the Trustee
thereunder or to us and the Trustee by holders of 33 1/3% in aggregate principal amount of the outstanding debt securities of such
series in the performance, or breach, of any covenant or warranty pertaining to debt securities of such series; |
| ● | certain events of bankruptcy, insolvency and reorganization
with respect to us or any Significant Subsidiary of ours which is organized under the laws of the U.S. or any political sub-division
thereof or the entry of an order ordering the winding up or liquidation of our affairs; and |
| ● | any other event of default specified in the prospectus supplement
for a series of debt securities. |
Each indenture will provide that the Trustee
thereunder will, within 90 days after the occurrence of a default with respect to the debt securities of any series issued under
such indenture, give to the holders of the debt securities of such series notice of all uncured and unwaived defaults known to it; provided,
however, that, except in the case of default in the payment of principal of, premium, if any, or interest, if any, on any of the debt
securities of such series, the Trustee will be protected in withholding such notice if it in good faith determines that the withholding
of such notice is in the interests of the holders of the debt securities of such series. The term “default” for the purpose
of this provision means any event which is, or after notice or lapse of time or both would become, an Event of Default with respect to
debt securities of such series.
Each indenture will contain provisions
entitling the Trustee under such indenture, subject to the duty of the Trustee during an Event of Default to act with the required standard
of care, to be indemnified to its reasonable satisfaction by the holders of the debt securities before proceeding to exercise any right
or power under the applicable indenture at the request of holders of such debt securities.
Each indenture will provide that the holders
of a majority in aggregate principal amount of the outstanding debt securities of any series issued under such indenture may direct the
time, method and place of conducting proceedings for remedies available to the Trustee or exercising any trust or power conferred on the
Trustee in respect of such series, subject to certain conditions.
Except as otherwise set forth in the prospectus
supplement relating to the debt securities, in certain cases, the holders of a majority in principal amount of the outstanding debt securities
of any series may rescind, on behalf of the holders of all debt securities of such series, a declaration of acceleration resulting from
an Event of Default with respect to the debt securities of such series except, among other things, a declaration of acceleration resulting
from an Event of Default not theretofore cured in payment of the principal of, or premium, if any, or interest, if any, on any of the
senior debt securities of such series or payment of any sinking or purchase fund or analogous obligations with respect to such senior
debt securities.
Each indenture will include a covenant
that we will file annually with the Trustee a certificate of no default or specifying any default that exists.
Modification of the Indentures
Except as set forth in the
prospectus supplement relating to the debt securities, we and the Trustee may, without the consent of the holders of the debt
securities issued under the indenture governing such debt securities, enter into indentures supplemental to the applicable indenture
for, among others, one or more of the following purposes:
| ● | to evidence the succession of another person to us or to a guarantor,
if any, and the assumption by such successor of our or the guarantor’s obligations under the applicable indenture and the debt
securities of any series; |
| ● | to add to our covenants or those of any guarantor, if any, or
to surrender any of our rights or powers or those of any guarantor for the benefit of the holders of debt securities of any or all series
issued under such indenture; |
| ● | to cure any ambiguity, to correct or supplement any provision
in the applicable indenture which may be inconsistent with any other provision therein, or to make any other provisions with respect
to matters or questions arising under such indenture; |
| ● | to add to the applicable indenture any provisions that may be
expressly permitted by the Trust Indenture Act of 1939, as amended, or the TIA, excluding the provisions referred to in Section 316(a)(2) of
the TIA as in effect at the date as of which the applicable indenture was executed or any corresponding provision in any similar federal
statute hereafter enacted; |
| ● | to establish the form or terms of any series of debt securities
to be issued under the applicable indenture, to provide for the issuance of any series of debt securities and/or to add to the rights
of the holders of debt securities; |
| ● | to evidence and provide for the acceptance of any successor
Trustee with respect to one or more series of debt securities or to add or change any of the provisions of the applicable indenture as
shall be necessary to facilitate the administration of the trusts thereunder by one or more trustees in accordance with the applicable
indenture; |
| ● | to provide any additional Events of Default; |
| ● | to provide for uncertificated securities in addition to or in
place of certificated securities; provided that the uncertificated securities are issued in registered form for certain federal tax purposes; |
| ● | to provide for the terms and conditions of converting those
debt securities that are convertible into common stock or another such similar security; |
| ● | to secure any series of debt securities; |
| ● | to add guarantees in respect of any series or all of the debt
securities; |
| ● | to make any change necessary to comply with any requirement
of the SEC in connection with the qualification of the applicable indenture or any supplemental indenture under the TIA; and |
| ● | to make any other change that does not adversely affect the
rights of the holders of the debt securities. |
No supplemental indenture for the purpose
identified in clauses second, third or fifth bullet points above may be entered into if to do so would adversely affect the rights of
the holders of debt securities of any series issued under the same indenture in any material respect.
Except as set forth in the prospectus
supplement relating to such series of debt securities, each indenture will contain provisions permitting us and the Trustee under such
indenture, with the consent of the holders of a majority in principal amount of the outstanding debt securities of all series issued under
such indenture to be affected voting as a single class, to execute supplemental indentures for the purpose of adding any provisions to
or changing or eliminating any of the provisions of the applicable indenture or modifying the rights of the holders of the debt securities
of such series to be affected, except that no such supplemental indenture may, without the consent of each of the holders of affected
debt securities, among other things:
| ● | change the maturity of the principal of, or the maturity of
any premium on, or any installment of interest on, any such debt security, or reduce the principal amount or the interest or any premium
of any such debt securities, or change the method of computing the amount of principal or interest on any such debt securities on any
date or change any place of payment where, or the currency in which, any debt securities or any premium or interest thereon is payable,
or impair the right to institute suit for the enforcement of any such payment on or after
the maturity of principal or premium, as the case may be, or alter the provisions of the indenture so as to adversely affect the terms,
if any, of conversion of any series of debt securities into our common stock or other marketable securities; |
| ● | reduce the percentage in principal amount of any such debt
securities the consent of whose holders is required for any supplemental indenture, waiver of compliance with certain provisions of the
applicable indenture or certain defaults under the applicable indenture; |
| ● | modify any of the provisions of the applicable indenture related
to (i) the requirement that the holders of debt securities issued under such indenture consent to certain amendments of the applicable
indenture, (ii) the waiver of past defaults and (iii) the waiver of certain covenants, except to increase the percentage
of holders required to make such amendments or grant such waivers; |
| ● | amend or modify certain provisions of the indenture relating
to guarantees, if any, and the obligations of guarantors thereunder; or |
| ● | impair or adversely affect the right of any holder to institute
suit for the enforcement of any payment on, or with respect to, such senior debt securities on or after the maturity of such debt securities. |
In addition, the subordinated indenture
will provide that we may not make any change in the terms of the subordination of the subordinated debt securities of any series in a
manner adverse in any material respect to the holders of any series of subordinated debt securities without the consent of each holder
of subordinated debt securities that would be adversely affected.
The Trustee
The Trustee shall be named in the applicable prospectus
supplement.
Governing Law
The indentures will be governed by, and
construed in accordance with, the laws of the State of New York.
Global Securities
We may issue debt securities through global
securities. A global security is a security, typically held by a depositary, that represents the beneficial interests of a number of purchasers
of the security. If we do issue global securities, the following procedures will apply.
We will deposit global securities with
the depositary identified in the prospectus supplement. After we issue a global security, the depositary will credit on its book-entry
registration and transfer system the respective principal amounts of the debt securities represented by the global security to the accounts
of persons who have accounts with the depositary. These account holders are known as “participants.” The underwriters or agents
participating in the distribution of the debt securities will designate the accounts to be credited. Only a participant or a person who
holds an interest through a participant may be the beneficial owner of a global security. Ownership of beneficial interests in the global
security will be shown on, and the transfer of that ownership will be effected only through, records maintained by the depositary and
its participants.
We and the Trustee will treat the depositary
or its nominee as the sole owner or holder of the debt securities represented by a global security. Except as set forth below, owners
of beneficial interests in a global security will not be entitled to have the debt securities represented by the global security registered
in their names. They also will not receive or be entitled to receive physical delivery of the debt securities in definitive form and will
not be considered the owners or holders of the debt securities.
Principal, any premium and any
interest payments on debt securities represented by a global security registered in the name of a depositary or its nominee will be
made to the depositary or its nominee as the registered owner of the global security. None of us, the Trustee or any paying agent
will have any responsibility or liability for any aspect of the records relating to or payments made on account of beneficial
ownership interests in the global security or maintaining, supervising or reviewing any records relating to the beneficial ownership
interests.
We expect that the depositary, upon receipt
of any payments, will immediately credit participants’ accounts with payments in amounts proportionate to their respective beneficial
interests in the principal amount of the global security as shown on the depositary’s records. We also expect that payments by participants
to owners of beneficial interests in the global security will be governed by standing instructions and customary practices, as is the
case with the securities held for the accounts of customers registered in “street names,” and will be the responsibility of
the participants.
If the depositary is at any time unwilling
or unable to continue as depositary and a successor depositary is not appointed by us within 90 days, we will issue registered securities
in exchange for the global security. In addition, we may at any time in our sole discretion determine not to have any of the debt securities
of a series represented by global securities. In that event, we will issue debt securities of that series in definitive form in exchange
for the global securities.
RESTRICTIONS ON OWNERSHIP AND TRANSFER
In order for us to qualify as a REIT under
the Code, shares of our stock must be beneficially owned by 100 or more persons during at least 335 days of a taxable year of 12 months
(other than the first year for which an election to be a REIT has been made) or during a proportionate part of a shorter taxable year.
Also, not more than 50% of the value of the outstanding shares of stock may be owned, directly or indirectly, by five or fewer individuals
(as defined in the Code to include certain entities) during the last half of a taxable year (other than the first year for which an election
to be a REIT has been made).
Our charter contains restrictions limiting
the ownership and transfer of shares of our common stock and other outstanding shares of stock. The relevant sections of our charter provide
that, subject to the exceptions described below, no person or entity may own, or be deemed to own by virtue of the applicable constructive
ownership provisions of the Code, more than 9.8% by value or number of shares, whichever is more restrictive, of our outstanding shares
of common stock (the common share ownership limit), or 9.8% by value or number of shares, whichever is more restrictive, of the aggregate
of the outstanding shares of our capital stock (the aggregate share ownership limit). The common share ownership limit and the aggregate
share ownership limit are collectively referred to herein as the “ownership limits.” A person or entity that becomes subject
to the ownership limits by virtue of a violative transfer that results in a transfer to a trust, as set forth below, is referred to as
a “purported beneficial transferee” if, had the violative transfer been effective, the person or entity would have been a
record owner and beneficial owner or solely a beneficial owner of shares of our stock, or is referred to as a “purported record
transferee” if, had the violative transfer been effective, the person or entity would have been solely a record owner of shares
of our stock.
The constructive ownership rules under
the Code are complex and may cause shares of stock owned actually or constructively by a group of related individuals and/or entities
to be owned constructively by one individual or entity. As a result, the acquisition of less than 9.8% by value or number of shares, whichever
is more restrictive, of our outstanding shares of common stock, or 9.8% by value or number of shares, whichever is more restrictive, of
our outstanding capital stock (or the acquisition of an interest in an entity that owns, actually or constructively, shares of our stock)
by an individual or entity, could, nevertheless, cause that individual or entity, or another individual or entity, to own constructively
in excess of 9.8% by value or number of shares, whichever is more restrictive, of our outstanding shares of common stock, or 9.8% by value
or number of shares, whichever is more restrictive, of our outstanding capital stock and thereby subject the shares of common stock or
total shares of stock to the applicable ownership limit.
Our board of directors may, in its sole
discretion, exempt a person from the above-referenced ownership limits. However, the board of directors may not exempt any person whose
ownership of our outstanding stock would result in our being “closely held” within the meaning of Section 856(h) of
the Code or otherwise would result in our failing to qualify as a REIT. In order to be considered by the board of directors for exemption,
a person also must not own, directly or indirectly, an interest in any tenant (or a tenant of any entity which we own or control) that
would cause us to own, directly or indirectly, more than a 9.9% interest in the tenant. The person seeking an exemption must represent
to the satisfaction of our board of directors that such person will not violate these two restrictions. The person also must agree that
any violation or attempted violation of these restrictions will result in the automatic transfer of the shares of stock causing the violation
to a trust for the benefit of a charitable beneficiary. As a condition of its waiver, our board of directors may require an opinion of
counsel or IRS ruling satisfactory to the board of directors with respect to our qualification as a REIT.
In connection with an exemption from
the ownership limits or at any other time, our board of directors may from time to time increase the ownership limits for one or
more persons or entities and decrease the ownership limits for all others; provided, however, that any decrease will not be
effective as to existing holders who own common stock or total shares of stock, as applicable, in excess of such decreased ownership
limit as described below; and provided further that the ownership limit may not be increased if, after giving effect to such
increase, five or fewer individuals could own or constructively own in the aggregate, more than 49.9% in value of the shares then
outstanding. Prior to the modification of the ownership limit, our board of directors may require such opinions of counsel,
affidavits, undertakings or agreements as the board may deem necessary or advisable in order to determine or ensure our
qualification as a REIT. A reduced ownership limit will not apply to any person or entity whose percentage ownership in shares
of our common stock or total shares of stock, as applicable, is in excess of such decreased ownership limit until such time as such
person’s or entity’s percentage of shares of our common stock or total shares of stock, as applicable, equals or
falls below the decreased ownership limit, but any further acquisition of shares of our common stock or total shares of stock, as
applicable, in excess of such percentage ownership of shares of our common stock or total shares of stock will be in violation
of such ownership limit.
Our
charter provisions further prohibit:
| · | any person from beneficially or constructively owning, applying
certain attribution rules of the Code, shares of our stock that would result in our being “closely held” under Section 856(h) of
the Code or otherwise cause us to fail to qualify as a REIT; and |
| · | any person from transferring shares of our stock if such
transfer would result in shares of our stock being beneficially owned by fewer than 100 persons (determined without reference to any
rules of attribution). |
Any person who acquires or attempts or
intends to acquire beneficial or constructive ownership of shares of our stock that will or may violate any of the foregoing restrictions
on transferability and ownership will be required to give written notice of such event to us immediately or, in the case of a proposed
or attempted transaction, at least 15 days prior to such proposed or attempted transaction, and provide us with such other information
as we may request in order to determine the effect of such transfer on our qualification as a REIT. The foregoing provisions on transferability
and ownership will not apply if our board of directors determines that it is no longer in our best interests to attempt to qualify, or
to continue to qualify, as a REIT.
Pursuant to our charter, if any transfer
of shares of our stock would result in shares of our stock being beneficially owned by fewer than 100 persons, such transfer will be null
and void and the intended transferee will acquire no rights in such shares. In addition, if any purported transfer of shares of our stock
or any other event would otherwise result in any person violating the ownership limits or such other limit established by our board of
directors or in our being “closely held” under Section 856(h) of the Code or otherwise failing to qualify as a REIT,
then that number of shares (rounded up to the nearest whole share) that would cause such person to violate such restrictions will be automatically
transferred to, and held by, a trust for the exclusive benefit of one or more charitable organizations selected by us and the intended
transferee will acquire no rights in such shares. The automatic transfer will be effective as of the close of business on the business
day prior to the date of the purported transfer or other event that results in a transfer to the trust. Any dividend or other distribution
paid to the purported record transferee, prior to our discovery that the shares had been automatically transferred to a trust as described
above, must be repaid to the trustee upon demand for distribution to the charitable beneficiary by the trust. If the transfer to the trust
as described above is not automatically effective, for any reason, to prevent violation of the applicable ownership limit or our being
“closely held” under Section 856(h) of the Code or otherwise failing to qualify as a REIT, then our charter provides
that the transfer of the shares will be null and void and the intended transferee will acquire no rights in such shares.
Shares of stock transferred to the trustee
are deemed offered for sale to us, or our designee, at a price per share equal to the lesser of (1) the price paid by the purported
record transferee for the shares (or, if the event that resulted in the transfer to the trust did not involve a purchase of such shares
of stock at market price, the last reported sales price reported on the NYSE (or other applicable exchange) on the day of the event which
resulted in the transfer of such shares of stock to the trust) and (2) the market price on the date we or our designee accepts such
offer. We have the right to accept such offer until the trustee has sold the shares of stock held in the trust pursuant to the clauses
discussed below. Upon a sale to us, the interest of the charitable beneficiary in the shares sold terminates, the trustee must distribute
the net proceeds of the sale to the purported record transferee and any dividends or other distributions held by the trustee with respect
to such shares of stock will be paid to the charitable beneficiary.
If we do not buy the shares, the
trustee must, within 20 days of receiving notice from us of the transfer of shares to the trust, sell the shares to a person or
entity designated by the trustee who could own the shares without violating the ownership limits or such other limit as established
by our board of directors. After that, the trustee must distribute to the purported record transferee an amount equal to the lesser
of (1) the price paid by the purported record transferee for the shares (or, if the event which resulted in the transfer to the
trust did not involve a purchase of such shares at market price, the last reported sales price reported on the NYSE (or other
applicable exchange) on the day of the event which resulted in the transfer of such shares of stock to the trust) and (2) the
sales proceeds (net of commissions and other expenses of sale) received by the trust for the shares. Any net sales proceeds in
excess of the amount payable to the purported record transferee will be immediately paid to the charitable beneficiary, together
with any dividends or other distributions thereon. In addition, if prior to discovery by us that shares of stock have been
transferred to a trust, such shares of stock are sold by a purported record transferee, then such shares will be deemed to have been
sold on behalf of the trust and to the extent that the purported record transferee received an amount for or in respect of such
shares that exceeds the amount that such purported record transferee was entitled to receive, such excess amount must be paid to the
trustee upon demand. The purported beneficial transferee or purported record transferee has no rights in the shares held by the
trustee.
The trustee will be designated by us and
will be unaffiliated with us and with any purported record transferee or purported beneficial transferee. Prior to the sale of any shares
by the trust, the trustee will receive, in trust for the beneficiary, all dividends and other distributions paid by us with respect to
the shares held in trust and may also exercise all voting rights with respect to the shares held in trust. These rights will be exercised
for the exclusive benefit of the charitable beneficiary. Any dividend or other distribution paid prior to our discovery that shares of
stock have been transferred to the trust will be paid by the recipient to the trustee upon demand. Any dividend or other distribution
authorized but unpaid will be paid when due to the trustee.
Subject to Maryland law, effective as
of the date that the shares have been transferred to the trust, the trustee will have the authority, at the trustee’s sole discretion:
| · | to rescind as void any vote cast by a purported record transferee
prior to our discovery that the shares have been transferred to the trust; and |
| · | to recast the vote in accordance with the desires of the
trustee acting for the benefit of the charitable beneficiary of the trust. |
However, if we have already taken irreversible
action, then the trustee may not rescind and recast the vote.
If our board of directors determines in
good faith that a proposed transfer would violate the restrictions on ownership and transfer of shares of our stock set forth in the charter,
the board of directors will take such action as it deems advisable to refuse to give effect to or to prevent such transfer, including,
but not limited to, causing us to redeem the shares of stock, refusing to give effect to the transfer on our books or instituting proceedings
to enjoin the transfer.
Every owner of more than 5% (or such lower percentage
as required by the Code or the regulations promulgated thereunder) of our stock, within 30 days after the end of each taxable year,
is required to give us written notice, stating the name and address of such owner, the number of shares of our capital stock which he,
she or it beneficially owns and a description of the manner in which the shares are held. Each such owner shall provide us with such additional
information as we may request in order to determine the effect, if any, of such beneficial ownership on our status as a REIT and to ensure
compliance with the aggregate share ownership limit. In addition, each stockholder shall upon demand be required to provide us with such
information as we may request in good faith in order to determine our status as a REIT and to comply with the requirements of any taxing
authority or governmental authority or to determine such compliance.
These ownership limits could delay, defer
or prevent a transaction or a change in control that might involve a premium price for the common stock or otherwise be in the best interests
of the stockholders.
CERTAIN PROVISIONS OF THE MARYLAND GENERAL CORPORATION
LAW AND TWO
HARBORS’ CHARTER AND BYLAWS
The following summary description of certain
provisions of the MGCL and our charter and bylaws does not purport to be complete and is subject to and qualified in its entirety by reference
to the MGCL and the actual provisions of our charter and our bylaws, copies of which are incorporated by reference as exhibits to the
registration statement of which this prospectus is a part. See “Where You Can Find More Information.”
Our Board of Directors
Our charter and bylaws provide that the
number of directors we have may be established by our board of directors but may not be less than the minimum number required by the MGCL,
nor more than 15. Our bylaws currently provide that any vacancy may be filled only by a majority of the remaining directors. Any individual
elected to fill such vacancy will serve until the next annual meeting of stockholders and until a successor is duly elected and qualifies.
Pursuant to our bylaws, each of our directors
is elected by our common stockholders entitled to vote to serve until the next annual meeting of stockholders and until his or her successor
is duly elected and qualified. Holders of shares of common stock will have no right to cumulative voting in the election of directors.
Consequently, at each annual meeting of stockholders, the holders of a majority of the shares of common stock entitled to vote will be
able to elect all of our directors. However, our Bylaws provide that, in the event that the company’s Secretary determines that,
as of the record date for the stockholders’ meeting, the number of nominees exceeds the number of directors to be elected, then
directors will be elected by a plurality of the votes cast at a meeting of stockholders duly called and at which a quorum is present.
In such case, each share may be voted for as many individuals as there are directors to be elected and for whose election the share is
entitled to be cast.
Removal of Directors
Our charter provides that a director may
be removed, with or without cause, only by the affirmative vote of the holders of shares entitled to cast at least two-thirds of all the
votes of common stockholders entitled to be cast generally in the election of directors. This provision, when coupled with the power of
our board of directors to fill vacancies on the board of directors, precludes stockholders from (1) removing incumbent directors
except upon a substantial affirmative vote and (2) filling the vacancies created by such removal with their own nominees.
Business Combinations
Under the MGCL, certain “business
combinations” (including a merger, consolidation, share exchange or, in certain circumstances, an asset transfer or issuance
or reclassification of equity securities) between a Maryland corporation and an interested stockholder (defined generally as any person
who beneficially owns, directly or indirectly, 10% or more of the voting power of the corporation’s outstanding voting stock or
an affiliate or associate of the corporation who, at any time within the two-year period immediately prior to the date in question, was
the beneficial owner of 10% or more of the voting power of the then-outstanding stock of the corporation) or an affiliate of such an interested
stockholder are prohibited for five years after the most recent date on which the interested stockholder becomes an interested stockholder.
Thereafter, any such business combination must be recommended by the board of directors of such corporation and approved by the affirmative
vote of at least (a) 80% of the votes entitled to be cast by holders of outstanding voting shares of stock of the corporation and
(b) two-thirds of the votes entitled to be cast by holders of voting stock of the corporation other than shares held by the interested
stockholder with whom (or with whose affiliate) the business combination is to be effected or held by an affiliate or associate of the
interested stockholder, unless, among other conditions, the corporation’s common stockholders receive a minimum price (as described
in the MGCL) for their shares and the consideration is received in cash or in the same form as previously paid by the interested stockholder
for its shares.
These provisions of the MGCL do not
apply, however, to business combinations that are approved or exempted by a board of directors prior to the most recent date on
which the interested stockholder became an interested stockholder. Our board of directors may provide that the board’s
approval is subject to compliance with any terms and conditions determined by the board. Consequently, the five-year prohibition and
the supermajority vote requirements will not apply to business combinations between us and such persons. As a result, any person
described above may be able to enter into business combinations with us that may not be in the best interest of our stockholders
without compliance by us with the supermajority vote requirements and other provisions of the statute.
The business combination statute may discourage
others from trying to acquire control of us and increase the difficulty of consummating any offer.
Control Share Acquisitions
The MGCL provides that holders of “control
shares” of a Maryland corporation acquired in a “control share acquisition” have no voting rights except to the extent
approved at a special meeting of stockholders by the affirmative vote of two-thirds of the votes entitled to be cast on the matter, excluding
shares of stock in a corporation in respect of which any of the following persons is entitled to exercise or direct the exercise of the
voting power of such shares in the election of directors: (1) a person who makes or proposes to make a control share acquisition,
(2) an officer of the corporation or (3) an employee of the corporation who is also a director of the corporation. “Control
shares” are voting shares of stock which, if aggregated with all other such shares of stock previously acquired by the acquirer,
or in respect of which the acquirer is able to exercise or direct the exercise of voting power (except solely by virtue of a revocable
proxy), would entitle the acquirer to exercise or direct the exercise of voting power in electing directors within one of the following
ranges of voting power: (A) one-tenth or more but less than one-third; (B) one-third or more but less than a majority; or (C) a
majority or more of all voting power. Control shares do not include shares that the acquiring person is then entitled to vote as a result
of having previously obtained stockholder approval. A “control share acquisition” means the acquisition of control shares
or of the power to direct the exercise of voting power of control shares, subject to certain exceptions.
A person who has made or proposes to make
a control share acquisition, upon satisfaction of certain conditions (including an undertaking to pay expenses and making an “acquiring
person statement” as described in the MGCL), may compel our board of directors to call a special meeting of stockholders to be held
within 50 days of demand to consider the voting rights of the shares. If no request for a meeting is made, the corporation may itself
present the question at any stockholders meeting.
If voting rights are not approved at the
meeting or if the acquiring person does not deliver an “acquiring person statement” as required by the statute, then, subject
to certain conditions and limitations, the corporation may redeem any or all of the control shares (except those for which voting rights
have previously been approved) for fair value determined, without regard to the absence of voting rights for the control shares, as of
the date of the last control share acquisition by the acquirer or of any meeting of stockholders at which the voting rights of such shares
are considered and not approved. If voting rights for control shares are approved at a stockholders meeting and the acquirer becomes entitled
to vote a majority of the shares entitled to vote, all other stockholders may exercise appraisal rights. The fair value of the shares
as determined for purposes of such appraisal rights may not be less than the highest price per share paid by the acquirer in the control
share acquisition.
The control share acquisition statute
does not apply to (a) shares acquired in a merger, consolidation or share exchange if the corporation is a party to the transaction
or (b) acquisitions approved or exempted by the charter or bylaws of the corporation.
Our bylaws contain a provision exempting
from the control share acquisition statute any and all acquisitions by any person of shares of our stock. There is no assurance that such
provision will not be amended or eliminated at any time in the future.
Subtitle 8
Subtitle 8 of Title 3 of the MGCL permits
a Maryland corporation with a class of equity securities registered under the Exchange Act and at least three independent directors to
elect to be subject, by provision in its charter or bylaws or a resolution of its board of directors and notwithstanding any contrary
provision in the charter or bylaws, to any or all of five provisions:
| · | a two-thirds vote requirement for removing a director; |
| · | a requirement that the number of directors be fixed only
by vote of the directors; |
| · | a requirement that a vacancy on the board be filled only
by the remaining directors in office and for the remainder of the full term of the class of directors in which the vacancy occurred;
and |
| · | a majority requirement for the calling of a special meeting
of stockholders. |
Our charter provides that, pursuant to
Subtitle 8, vacancies on the board may be filled only by the affirmative vote of a majority of the remaining directors in office, even
if the remaining directors do not constitute a quorum, and any director elected to fill a vacancy shall serve for the remainder of the
full term of the directorship in which the vacancy occurred. Through provisions in our charter and bylaws unrelated to Subtitle 8, we
already (1) require the affirmative vote of the holders of not less than two-thirds of all of the votes entitled to be cast on the
matter for the removal of any director from the board, which removal will be allowed with or without cause, (2) vest in the board
the exclusive power to fix the number of directorships and (3) require, unless called by the chairman of the board, chief executive
officer, president or the board of directors, the written request of stockholders of not less than a majority of all the votes entitled
to be cast at such a meeting to call a special meeting.
Meetings of Stockholders
Pursuant to our bylaws, a meeting of our
stockholders for the election of directors and the transaction of any business will be held annually on a date and at the time set by
our board of directors. In addition, the chairman of the board, chief executive officer, president or board of directors may call a special
meeting of our stockholders. Subject to the provisions of our bylaws, a special meeting of our stockholders will also be called by the
secretary upon the written request of the stockholders entitled to cast not less than a majority of all the votes entitled to be cast
at the meeting.
Amendment to Our Charter and Bylaws
Except for amendments related to removal
of directors, the restrictions on ownership and transfer of shares of our stock and the requirement of a two-thirds vote for amendments
to these provisions (each of which require the affirmative vote of the holders of not less than two-thirds of all the votes entitled to
be cast on the matter and the approval of our board of directors), our charter may be amended only with the approval of the board of directors
and the affirmative vote of the holders of a majority of all of the votes entitled to be cast on the matter.
Our board of directors has the exclusive
power to adopt, alter or repeal any provision of our bylaws and to make new bylaws. In addition, our stockholders may alter or repeal
any provision of our bylaws and adopt new bylaws if any such alteration, repeal or adoption is approved by the affirmative vote of a majority
of the votes entitled to be cast on the matter.
Dissolution of Two Harbors
Our dissolution must be approved by a
majority of the entire board of directors and the affirmative vote of holders of not less than a majority of all of the votes entitled
to be cast on the matter.
Advance Notice of Director Nominations and New Business
Our bylaws provide that, with respect
to an annual meeting of stockholders, nominations of individuals for election to the board of directors and the proposal of other business
to be considered by stockholders may be made only:
| · | pursuant to our notice of the meeting; |
| · | by or at the direction of our board of directors; or |
| · | by a stockholder who was a stockholder of record both at
the time of giving his notice and at the time of the meeting and who is entitled to vote at the meeting on the election of directors
or on the proposal of other business, as the case may be, and has complied with the advance notice provisions set forth in our bylaws. |
With respect to special meetings of stockholders,
only the business specified in our notice of meeting may be brought before the meeting. Nominations of individuals for election to our
board of directors may be made only:
| · | by or at the direction of our board of directors; or |
| · | provided that the board of directors has determined that
directors will be elected at such meeting, by a stockholder who was a stockholder of record both at the time of giving his notice and
at the time of the meeting and who is entitled to vote at the meeting and has complied with the advance notice provisions set forth in
our bylaws. |
Anti-takeover Effect of Certain Provisions of Maryland Law and of
Our Charter and Bylaws
Our charter and bylaws and Maryland law
contain provisions that may delay, defer or prevent a change in control or other transaction that might involve a premium price for shares
of our common stock or otherwise be in the best interests of our stockholders, including business combination provisions, supermajority
vote requirements and advance notice requirements for director nominations and stockholder proposals. Likewise, if the provision in the
bylaws opting out of the control share acquisition provisions of the MGCL were rescinded or if we were to opt into the classified board
or other provisions of Subtitle 8, these provisions of the MGCL could have similar anti-takeover effects.
Exclusive Forum
Our bylaws provide that, unless we consent
in writing to the selection of an alternative forum, the Circuit Court for Baltimore City, Maryland, or, if that court does not have jurisdiction,
the United States District Court for the District of Maryland, Baltimore Division, shall be the sole and exclusive forum for the following:
any derivative action or proceeding brought on behalf of Two Harbors; any action asserting a claim of breach of any duty owed by any of
our directors or officers or our other employees to us or to our stockholders; any action asserting a claim against us or any of our directors
or officers or our other employees arising pursuant to any provision of the MGCL or our charter or bylaws; or any action asserting a claim
against us or any of our directors or officers or our employees that is governed by the internal affairs doctrine. This choice of forum
provision may limit a stockholder’s ability to bring a claim in a judicial forum that the stockholder believes is favorable for
disputes with us or our directors, officers or other employees, which may discourage lawsuits against us and our directors, officers and
employees. Alternatively, if a court were to find these provisions of our bylaws inapplicable to, or unenforceable in respect of, one
or more of the specified types of actions or proceedings, we may incur additional costs associated with resolving such matters in other
jurisdictions, which could adversely affect our business, financial condition or results of operations.
Indemnification and Limitation of Directors’ and Officers’
Liability
Maryland law permits a Maryland corporation
to include in its charter a provision eliminating the liability of its directors and officers to the corporation and its stockholders
for money damages except for liability resulting from actual receipt of an improper benefit or profit in money, property or services or
active and deliberate dishonesty that is established by a final judgment and is material to the cause of action. Our charter contains
such a provision that eliminates such liability to the maximum extent permitted by Maryland law.
The MGCL requires us (unless our
charter provides otherwise, which our charter does not) to indemnify a director or officer who has been successful, on the merits or
otherwise, in the defense of any proceeding to which he or she is made or threatened to be made a party by reason of his or her
service in that capacity. The MGCL permits a corporation to indemnify its present and former directors and officers, among others,
against judgments, penalties, fines, settlements and reasonable expenses actually incurred by them in connection with any proceeding
to which they may be made or threatened to be made a party by reason of their service in those or other capacities unless it is
established that:
| · | the act or omission of the director or officer was material
to the matter giving rise to the proceeding and (1) was committed in bad faith or (2) was the result of active and deliberate
dishonesty; |
| · | the director or officer actually received an improper personal
benefit in money, property or services; or |
| · | in the case of any criminal proceeding, the director or officer
had reasonable cause to believe that the act or omission was unlawful. |
However, under the MGCL, a Maryland corporation
may not indemnify a director or officer in a suit by or in the right of the corporation in which the director or officer was adjudged
liable to the corporation or in a proceeding in which the director or officer was adjudged liable on the basis that personal benefit was
improperly received. A court may order indemnification if it determines that the director or officer is fairly and reasonably entitled
to indemnification, even though the director or officer did not meet the prescribed standard of conduct or was adjudged liable on the
basis that personal benefit was improperly received. However, indemnification for an adverse judgment in a suit by us or in our right,
or for a judgment of liability on the basis that personal benefit was improperly received, is limited to expenses.
In addition, the MGCL permits a corporation
to advance reasonable expenses to a director or officer upon the corporation’s receipt of:
| · | a written affirmation by the director or officer of his or
her good faith belief that he or she has met the standard of conduct necessary for indemnification by the corporation; and |
| · | a written undertaking by the director or officer or on the
director’s or officer’s behalf to repay the amount paid or reimbursed by the corporation if it is ultimately determined that
the director or officer did not meet the standard of conduct. |
Our charter authorizes us to obligate
ourselves and our bylaws obligate us, to the maximum extent permitted by Maryland law in effect from time to time, to indemnify and, without
requiring a preliminary determination of the ultimate entitlement to indemnification, pay or reimburse reasonable expenses in advance
of final disposition of a proceeding to:
| · | any present or former director or officer of ours who is
made or threatened to be made a party to the proceeding by reason of his or her service in that capacity; or |
| · | any individual who, while a director or officer of ours and
at our request, serves or has served another corporation, REIT, partnership, joint venture, trust, employee benefit plan or other enterprise
as a director, officer, partner or trustee of such corporation, REIT, partnership, joint venture, trust, employee benefit plan or other
enterprise and who is made or threatened to be made a party to the proceeding by reason of his or her service in that capacity. |
Our charter and bylaws also permit us
to indemnify and advance expenses to any person who served a predecessor of ours in any of the capacities described above and to any employee
or agent of ours or a predecessor of ours.
We have entered into indemnification agreements
with each of our directors and executive officers that provide for indemnification to the maximum extent permitted by Maryland law. In
addition, the operating agreements of our subsidiaries provide that we, as managing member, and our officers and directors are indemnified
to the fullest extent permitted by law.
Insofar as the foregoing provisions permit
indemnification of directors, officers or persons controlling us for liability arising under the Securities Act, we have been informed
that, in the opinion of the SEC, this indemnification is against public policy as expressed in the Securities Act and is therefore unenforceable.
REIT Qualification
Our charter provides that our board of
directors may revoke or otherwise terminate our REIT election, without approval of our stockholders, if it determines that it is no longer
in our best interests to continue to qualify as a REIT.
U.S. FEDERAL INCOME TAX CONSIDERATIONS
The following is a summary of the material
U.S. federal income tax considerations relating to the qualification and taxation of Two Harbors as a REIT and the acquisition, holding
and disposition of our common stock. For purposes of this section, references to “Two Harbors,” “our,” “us”
or “we” mean only Two Harbors Investment Corp. and not any of its subsidiaries or other lower-tier entities except as otherwise
indicated. This summary is based upon the Code, the regulations promulgated by the U.S. Treasury Department, or the Treasury Regulations,
current administrative interpretations and practices of the IRS (including administrative interpretations and practices expressed in private
letter rulings which are binding on the IRS only with respect to the particular taxpayers who requested and received those rulings) and
judicial decisions, all as currently in effect and all of which are subject to differing interpretations or to change, possibly with retroactive
effect. No assurance can be given that the IRS would not assert, or that a court would not sustain, a position contrary to any of the
tax considerations described below. No advance ruling has been or will be sought from the IRS regarding any matter discussed in this summary.
The summary is also based upon the assumption that our operation, and the operation of our subsidiaries and other lower-tier and affiliated
entities will, in each case, be in accordance with such entity’s applicable organizational documents. This summary does not discuss
the impact that U.S. state and local taxes and taxes imposed by non-U.S. jurisdictions could have on the matters discussed in this summary.
This summary is for general information only, and does not purport to discuss all aspects of U.S. federal income taxation that may be
important to a particular stockholder in light of its investment or tax circumstances or to stockholders subject to special tax rules,
such as:
| · | persons who mark-to-market our common stock; |
| · | subchapter S corporations; |
| · | U.S. stockholders (as defined below) whose functional currency
is not the U.S. dollar; |
| · | regulated investment companies (or RICs); |
| · | holders who receive our common stock through the exercise
of employee stock options or otherwise as compensation; |
| · | persons holding our common stock as part of a “straddle,”
“hedge,” “conversion transaction,” “synthetic security” or other integrated investment; |
| · | persons subject to the alternative minimum tax provisions
of the Code; |
| · | persons holding their interest in us through a partnership
or similar pass-through entity; |
| · | persons holding a 10% or more (by vote or value) beneficial
interest in us; |
| · | tax-exempt organizations; and |
| · | non-U.S. stockholders (as defined below, and except as otherwise
discussed below). |
This summary assumes that holders hold
our common stock and warrants as capital assets, which generally means as property held for investment.
THE U.S. FEDERAL INCOME TAX
TREATMENT OF HOLDERS OF OUR COMMON STOCK DEPENDS IN SOME INSTANCES ON DETERMINATIONS OF FACT AND INTERPRETATIONS OF COMPLEX
PROVISIONS OF U.S. FEDERAL INCOME TAX LAW FOR WHICH NO CLEAR PRECEDENT OR AUTHORITY MAY BE AVAILABLE. IN ADDITION, THE U.S.
FEDERAL INCOME TAX TREATMENT OF HOLDING OUR COMMON STOCK TO ANY PARTICULAR STOCKHOLDER WILL DEPEND ON THE STOCKHOLDER’S
PARTICULAR TAX CIRCUMSTANCES. YOU ARE URGED TO CONSULT YOUR TAX ADVISOR REGARDING THE U.S. FEDERAL, STATE, LOCAL, AND FOREIGN INCOME
AND OTHER TAX CONSEQUENCES TO YOU, IN LIGHT OF YOUR PARTICULAR INVESTMENT OR TAX CIRCUMSTANCES, OF ACQUIRING, HOLDING, AND
DISPOSING OF TWO HARBORS COMMON STOCK.
U.S. Federal Income Tax Considerations of Two Harbors as a REIT
Taxation of Two Harbors — General
We have elected to be taxed as a REIT
under Sections 856 through 860 of the Code, commencing with our taxable year ending December 31, 2009. We believe that we have
been organized and we intend to operate in a manner that allows us to continue to qualify for taxation as a REIT under the Code.
The law firm of Sidley Austin LLP has
acted as our counsel for tax matters in connection with this registration. We have received an opinion of Sidley Austin LLP to the effect
that we have been organized and operated in conformity with the requirements for qualification and taxation as a REIT under the Code,
and our actual method of operation has enabled, and our proposed method of operation will continue to enable us, to meet the requirements
for qualification and taxation as a REIT under the Code. It must be emphasized that the opinion of Sidley Austin LLP is based on various
assumptions relating to our organization and operation, including that all factual representations and statements set forth in all relevant
documents, records and instruments are true and correct and that we will at all times operate in accordance with the method of operation
described in our organizational documents and this document. Additionally, the opinion of Sidley Austin LLP is conditioned upon factual
representations and covenants made by our management regarding our organization, assets, present and future conduct of our business operations
and other items regarding our ability to continue to meet the various requirements for qualification as a REIT, and assumes that such
representations and covenants are accurate and complete and that we will take no action that could adversely affect our qualification
as a REIT. While we believe we are organized and intend to continue to operate so that we will qualify 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 our
circumstances or applicable law, no assurance can be given by Sidley Austin LLP or us that we will so qualify for any particular year.
Sidley Austin LLP will have no obligation to advise us or the holders of our shares of common stock of any subsequent change in the matters
stated, represented or assumed or of any subsequent change in the applicable law. You should be aware that opinions of counsel are not
binding on the IRS, or any court, and no assurance can be given that the IRS will not challenge the conclusions set forth in such opinions.
Qualification and taxation as a REIT depend
on our ability to meet, on a continuing basis, through actual results of operations, distribution levels, diversity of share ownership
and various qualification requirements imposed upon REITs by the Code, the compliance with which will not be reviewed by Sidley Austin
LLP. In addition, our ability to qualify as a REIT may depend in part upon the operating results, organizational structure and entity
classification for U.S. federal income tax purposes of certain entities in which we invest. Our ability to qualify as a REIT also requires
that we satisfy certain asset and income tests, some of which depend upon the fair market values of assets directly or indirectly owned
by us or which serve as security for loans made by us. Such values may not be susceptible to a precise determination. Accordingly, no
assurance can be given that the actual results of our operations for any taxable year will satisfy the requirements for qualification
and taxation as a REIT.
Taxation of REITs in General
As indicated above, qualification
and taxation as a REIT depend on our ability to meet, on a continuing basis, through actual results of operations, distribution
levels, diversity of share ownership and various qualification requirements imposed upon REITs by the Code. The material
qualification requirements are summarized below, under “— Requirements for Qualification as a REIT.” While
we believe that we will continue to operate so that we qualify as a REIT, no assurance can be given that the IRS will not challenge
our qualification as a REIT or that we will be able to continue to operate in accordance with the REIT requirements in the future.
See “— Failure to Qualify.”
Provided that we qualify as a REIT, we
will generally be entitled to a deduction for dividends that we pay and, therefore, will not be subject to U.S. federal corporate income
tax on our net taxable income that is currently distributed to our stockholders. This treatment substantially eliminates the “double
taxation” at the corporate and stockholder levels that results generally from investment in a corporation. Rather, income generated
by a REIT generally is taxed only at the stockholder level, upon a distribution of dividends by the REIT. See “— Taxation
of Taxable U.S. Stockholders.”
Individuals who are stockholders of corporations
that are not REITs are generally taxed on qualifying corporate dividends at a maximum rate of 20%, thereby substantially reducing, though
not completely eliminating, the double taxation that has historically applied to corporate dividends. With limited exceptions, however,
dividends received by individual U.S. stockholders from us or from other entities that are taxed as REITs are taxed at rates applicable
to ordinary income, which will be as high as 37%. However, under the Tax Cuts and Jobs Act, or TCJA, dividends received by individual
U.S. stockholders from us that are neither attributable to “qualified dividend income” nor designated as “capital gain
dividends” will be eligible for a deduction equal to 20% of the amount of such dividends in taxable years beginning before
January 1, 2026, provided that the U.S. stockholder satisfies certain holding period requirements. Net operating losses, foreign
tax credits and other tax attributes of a REIT generally do not pass through to the stockholders of the REIT, subject to special rules for
certain items, such as capital gains, recognized by REITs. See “— Taxation of Taxable U.S. Stockholders.”
Even if we qualify for taxation as a REIT,
however, we will be subject to U.S. federal income taxation as follows:
| · | We will be taxed at regular U.S. federal corporate income
tax rates on any undistributed income, including undistributed net capital gains. |
| · | If we have net income from prohibited transactions, which
are, in general, sales or other dispositions of property held primarily for sale to customers in the ordinary course of business, other
than foreclosure property, such income will be subject to a 100% tax. See “— Prohibited Transactions” and “—
Foreclosure Property” below. |
| · | If we elect to treat property that we acquire in connection
with a foreclosure of a mortgage loan or from certain leasehold terminations as “foreclosure property,” we may thereby avoid
(a) the 100% tax on gain from a resale of that property (if the sale would otherwise constitute a prohibited transaction) and (b) the
inclusion of any income from such property not qualifying for purposes of the REIT gross income tests discussed below, but the income
from the sale or operation of the property may be subject to income tax at the corporate tax rate (currently 21%). |
| · | If we fail to satisfy the 75% gross income test or the 95%
gross income test, as discussed below, but nonetheless maintain our qualification as a REIT because other requirements are met, we will
be subject to a 100% tax on an amount equal to (a) the greater of (1) the amount by which we fail the 75% gross income test
or (2) the amount by which we fail the 95% gross income test, as the case may be, multiplied by (b) a fraction intended to
reflect our profitability. |
| · | If we fail to satisfy any of the REIT asset tests, as described
below, other than a failure of the 5% or 10% REIT asset tests that does not exceed a statutory de minimis amount as described more fully
below, but our failure is due to reasonable cause and not due to willful neglect and we nonetheless maintain our REIT qualification because
of specified cure provisions, we will be required to pay a tax equal to the greater of $50,000 or the corporate tax rate (currently 21%)
of the net income generated by the non-qualifying assets during the period in which we failed to satisfy the asset tests. |
| · | If we fail to satisfy any provision of the Code that would
result in our failure to qualify as a REIT (other than a gross income or asset test requirement) and the violation is due to reasonable
cause and not willful neglect, we may retain our REIT qualification but we will be required to pay a penalty of $50,000 for each such
failure. |
| · | If we fail to distribute during each calendar year at least
the sum of (a) 85% of our REIT ordinary income for such year, (b) 95% of our REIT capital gain net income for such year and
(c) any undistributed taxable income from prior periods (or the required distribution), we will be subject to a 4% excise tax on
the excess of the required distribution over the sum of (1) the amounts actually distributed (taking into account excess distributions
from prior years), plus (2) retained amounts on which income tax is paid at the corporate level. |
| · | We may be required to pay monetary penalties to the IRS in
certain circumstances, including if we fail to meet record-keeping requirements intended to monitor our compliance with rules relating
to the composition of our stockholders, as described below in “— Requirements for Qualification as a REIT. |
| · | A 100% excise tax may be imposed on some items of income
and expense that are directly or constructively paid between us and any TRSs we may own if and to the extent that the IRS successfully
adjusts the reported amounts of these items. |
| · | If we acquire appreciated assets from a corporation that
is not a REIT in a transaction in which the adjusted tax basis of the assets in our hands is determined by reference to the adjusted
tax basis of the assets in the hands of the non-REIT corporation, we will be subject to tax on such appreciation at the corporate income
tax rate then applicable if we subsequently recognize gain on a disposition of any such assets during the 5-year period following their
acquisition from the non-REIT corporation. The results described in this paragraph assume that the non-REIT corporation will not elect,
in lieu of this treatment, to be subject to an immediate tax when the asset is acquired by us. |
| · | We will generally be subject to tax on the portion of any
excess inclusion income derived from an investment in residual interests in real estate mortgage investment conduits, or REMICs, to the
extent our stock is held by specified tax-exempt organizations not subject to tax on unrelated business taxable income. Similar rules will
apply if we own an equity interest in a taxable mortgage pool. To the extent that we own a REMIC residual interest or a taxable mortgage
pool through a TRS, we will not be subject to this tax. |
| · | We may elect to retain and pay income tax on our net long-term
capital gain. In that case, a stockholder would include its proportionate share of our undistributed long-term capital gain (to the extent
we make a timely designation of such gain to the stockholder) in its income, would be deemed to have paid the tax that we paid on such
gain, and would be allowed a credit for its proportionate share of the tax deemed to have been paid, and an adjustment would be made
to increase the stockholder’s basis in our common stock. Stockholders that are U.S. corporations will also appropriately adjust
their earnings and profits for the retained capital gains in accordance with Treasury Regulations to be promulgated. |
| · | We may have subsidiaries or own interests in other lower-tier
entities that are subchapter C corporations, the earnings of which would be subject to U.S. federal corporate income tax. |
In addition, we may be subject to a variety
of taxes other than U.S. federal income tax, including payroll taxes and state and local income, franchise property and other taxes. We
could also be subject to tax in situations and on transactions not presently contemplated.
Requirements for Qualification as a REIT
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 transferable certificates of beneficial interest; |
| (3) | that would be taxable as a domestic corporation but for the
special Code provisions applicable to REITs; |
| (4) | that is neither a financial institution nor an insurance
company subject to specific provisions of the Code; |
| (5) | the beneficial ownership of which is held by 100 or more
persons 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; |
| (6) | in which, during the last half of each taxable year, not
more than 50% in value of the outstanding stock is owned, directly or indirectly, by five or fewer “individuals” (as
defined in the Code to include specified entities); |
| (7) | which meets other tests described below, including with respect
to the nature of its income and assets and the amount of its distributions; and |
| (8) | that makes an election to be a REIT for the current taxable
year or has made such an election for a previous taxable year that has not been terminated or revoked. |
The Code provides that conditions (1) through
(4) 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 shorter taxable year. Conditions (5) and (6) do not need to be satisfied
for the first taxable year for which an election to become a REIT has been made. Our charter provides restrictions regarding the ownership
and transfer of our shares, which are intended, among other purposes, to assist in satisfying the share ownership requirements described
in conditions (5) and (6) above. For purposes of condition (6), an “individual” generally includes a supplemental
unemployment compensation benefit plan, a private foundation or a portion of a trust permanently set aside or used exclusively for charitable
purposes, but does not include a qualified pension plan or profit sharing trust.
To monitor compliance with the share ownership
requirements, we are generally required to maintain records regarding the actual ownership of our shares. To do so, we must demand written
statements each year from the record holders of significant percentages of our shares of stock, in which the record holders are to
disclose the actual owners of the shares (i.e., the persons required to include in gross income the dividends paid by us). A list of those
persons failing or refusing to comply with this demand must be maintained as part of our records. Failure by us to comply with these record-keeping
requirements could subject us to monetary penalties. If we satisfy these requirements and after exercising reasonable diligence would
not have known that condition (6) is not satisfied, we will be deemed to have satisfied such condition. A stockholder that fails
or refuses to comply with the demand is required by Treasury Regulations to submit a statement with its tax return disclosing the actual
ownership of the shares and other information.
In addition, a corporation generally may
not elect to become a REIT unless its taxable year is the calendar year. We satisfy this requirement.
Effect of Subsidiary Entities
Ownership of Partnership Interests
In the case of a REIT that is a partner
in a partnership, Treasury Regulations provide that the REIT is deemed to own its proportionate share of the partnership’s assets
and to earn its proportionate share of the partnership’s gross income based on its pro rata share of capital interests in the
partnership for purposes of the asset and gross income tests applicable to REITs, as described below. However, solely for purposes of
the 10% value test, described below, the determination of a REIT’s interest in partnership assets will be based on the REIT’s
proportionate interest in any securities issued by the partnership, excluding for these purposes, certain excluded securities as described
in the Code. In addition, the assets and gross income of the partnership generally are deemed to retain the same character in the hands
of the REIT. Thus, our proportionate share of the assets and items of income of partnerships in which we own an equity interest is treated
as an asset and as an item of income for us for purposes of applying the REIT requirements described below. Consequently, to the extent
that we directly or indirectly hold a preferred or other equity interest in a partnership, the partnership’s assets and operations
may affect our ability to qualify as a REIT, even though we may have no control or only limited influence over the partnership.
Disregarded Subsidiaries
If a REIT owns a corporate
subsidiary that is a “qualified REIT subsidiary,” that subsidiary is disregarded for U.S. federal income tax purposes,
and all assets, liabilities and items of income, deduction and credit of the subsidiary are treated as assets, liabilities and items
of income, deduction and credit of the REIT itself, including for purposes of the gross income and asset tests applicable to REITs,
as summarized below. A qualified REIT subsidiary is any corporation, other than a TRS, that is wholly-owned by a REIT, by other
disregarded subsidiaries or by a combination of the two. Single member limited liability companies that are wholly-owned by a REIT
are also generally disregarded as separate entities for U.S. federal income tax purposes, including for purposes of the REIT gross
income and asset tests. Disregarded subsidiaries, along with partnerships in which we hold an equity interest, are sometimes
referred to herein as “pass-through subsidiaries.”
In the event that a disregarded subsidiary
ceases to be wholly-owned by us (for example, if any equity interest in the subsidiary is acquired by a person other than us or another
disregarded subsidiary of ours), the subsidiary’s separate existence would no longer be disregarded for U.S. federal income tax
purposes. Instead, it would have multiple owners and would be treated as either a partnership or a taxable corporation. Such an event
could, depending on the circumstances, adversely affect our ability to satisfy the various asset and gross income tests applicable to
REITs, including the requirement that REITs generally may not own, directly or indirectly, more than 10% of the value or voting power
of the outstanding securities of another corporation. See “— Asset Tests” and “— Gross Income
Tests.”
Taxable REIT Subsidiaries
A REIT, in general, may jointly elect
with a subsidiary corporation, whether or not wholly-owned, to treat the subsidiary corporation as a TRS. The separate existence of a
TRS or other taxable corporation, unlike a disregarded subsidiary as discussed above, is not ignored for U.S. federal income tax purposes.
Accordingly, such an entity would generally be subject to corporate income tax on its earnings, which may reduce the cash flow generated
by us and our subsidiaries in the aggregate and our ability to make distributions to our stockholders.
We and one of our subsidiaries have jointly
elected for such subsidiary to be treated as a TRS. This election allows such subsidiary to invest in assets and engage in activities
that could not be held or conducted directly by us without jeopardizing our qualification as a REIT. While we currently only have one
TRS, we may make joint elections for additional subsidiaries to be treated as TRSs in the future.
A REIT is not treated as holding the assets
of a TRS or other taxable subsidiary corporation or as receiving any income that the subsidiary earns. Rather, the stock issued by the
subsidiary is an asset in the hands of the REIT, and the REIT generally recognizes as income the dividends, if any, that it receives from
the subsidiary. This treatment can affect the gross income and asset test calculations that apply to the REIT, as described below. Because
a parent REIT does not include the assets and income of such subsidiary corporations in determining the parent’s compliance with
the REIT requirements, such entities may be used by the parent REIT to undertake indirectly activities that the REIT rules might
otherwise preclude it from doing directly or through pass-through subsidiaries or render commercially unfeasible (for example, activities
that give rise to certain categories of income such as non-qualifying hedging income or inventory sales). If dividends are paid to us
by one or more TRSs we may own, then a portion of the dividends that we distribute to stockholders who are taxed at individual rates generally
will be eligible for taxation at preferential qualified dividend income tax rates rather than at ordinary income rates. See “—
Taxation of Taxable U.S. Stockholders” and “— Annual Distribution Requirements.”
Certain restrictions imposed on TRSs are
intended to ensure that such entities will be subject to appropriate levels of U.S. federal income taxation. If amounts are paid to a
REIT or deducted by a TRS due to transactions between a REIT, its tenants and/or the TRS, that exceed the amount that would be paid to
or deducted by a party in an arm’s-length transaction, the REIT generally will be subject to an excise tax equal to 100% of such
excess. In addition, under Section 163(j) of the Code, a TRS generally may not deduct “business interest” expense
(i.e., business interest expense in excess of the TRS’s business interest income for the tax year) to the extent such interest exceeds
30% of the TRS’s “adjusted taxable income” (as defined under Section 163(j) of the Code). Any amount
disallowed is carried forward and treated as business interest expense paid or accrued in the succeeding tax year.
Gross Income Tests
In order to maintain our
qualification as a REIT, we must annually satisfy two gross income tests. First, at least 75% of our gross income for each taxable
year, excluding gross income from sales of inventory or dealer property in “prohibited transactions” and certain hedging
and foreign currency transactions, must be derived from investments relating to real property or mortgages on real property,
including “rents from real property,” dividends received from and gains from the disposition of shares of other REITs,
interest income derived from mortgage loans secured by real property (including certain types of mortgage-backed securities), and
gains from the sale of real estate assets, as well as income from certain kinds of temporary investments. Second, at least 95% of
our gross income in each taxable year, excluding gross income from prohibited transactions and certain hedging and foreign currency
transactions, must be derived from some combination of income that qualifies under the 75% income test described above, as well as
other dividends, interest, and gain from the sale or disposition of stock or securities, which need not have any relation to real
property.
For purposes of the 75% and 95% gross
income tests, a REIT is deemed to have earned a proportionate share of the income earned by any partnership, or any limited liability
company treated as a partnership for U.S. federal income tax purposes, in which it owns an interest, which share is determined by reference
to its capital interest in such entity, and is deemed to have earned the income earned by any qualified REIT subsidiary or other disregarded
subsidiary for U.S. federal income tax purposes.
Interest Income
Interest income constitutes qualifying
mortgage interest for purposes of the 75% gross income test to the extent that the obligation is secured by a mortgage on real property.
If we receive interest income with respect to a mortgage loan that is secured by both real property and other property and the highest
principal amount of the loan outstanding during a taxable year exceeds the fair market value of the real property on the date that we
acquired the mortgage loan, the interest income will be apportioned between the real property and the other property, and our income from
the arrangement will qualify for purposes of the 75% gross income test only to the extent that the interest is allocable to the real property.
Even if a loan is not secured by real property or is under secured, the income that it generates may nonetheless qualify for purposes
of the 95% gross income test.
To the extent that the terms of a loan
entitle us to receive a portion of the gain realized upon the sale of the property securing the loan (or a shared appreciation provision),
income attributable to the participation feature will be treated as gain from sale of the underlying property, which generally will be
qualifying income for purposes of both the 75% and 95% gross income tests, provided that the property is not inventory or dealer property
in the hands of the borrower or us.
To the extent that we derive interest
income from a loan where all or a portion of the amount of interest payable is contingent, such income generally will qualify for purposes
of the gross income tests only if it is based upon the gross receipts or sales and not the net income or profits of any person. This limitation
does not apply, however, to a mortgage loan where the borrower derives substantially all of its income from the property from the leasing
of substantially all of its interest in the property to tenants, to the extent that the rental income derived by the borrower would qualify
as rents from real property had it been earned directly by us.
Any amount includible in our gross income
with respect to a regular or residual interest in a REMIC generally is treated as interest on an obligation secured by a mortgage on real
property. If, however, less than 95% of the assets of a REMIC consists of real estate assets (determined as if we held such assets), we
will be treated as receiving directly our proportionate share of the income of the REMIC for purposes of determining the amount which
is treated as interest on an obligation secured by a mortgage on real property. In addition, some REMIC securitizations include embedded
interest rate swap or cap contracts or other derivative instruments that potentially could produce non-qualifying income to us.
We believe that the interest,
original issue discount, or OID, and market discount income that we receive from our mortgage-related securities generally will be
qualifying income for purposes of both the 75% and 95% gross income tests. However, to the extent that we own non-REMIC
collateralized mortgage obligations or other debt instruments secured by mortgage loans (rather than by real property) or secured by
non-real estate assets, or debt securities that are not secured by mortgages on real property or interests in real property, the
interest income received with respect to such securities generally will be qualifying income for purposes of the 95% gross income
test, but not the 75% gross income test. In addition, the loan amount of a mortgage loan that we own may exceed the value of the
real property securing the loan. In that case, income from the loan will be qualifying income for purposes of the 95% gross income
test, but the interest attributable to the amount of the loan that exceeds the value of the real property securing the loan will not
be qualifying income for purposes of the 75% gross income test.
Dividend Income
We may receive distributions from TRSs
or other corporations that are not REITs or qualified REIT subsidiaries. These distributions are generally classified as dividend income
to the extent of the earnings and profits of the distributing corporation. Such distributions generally constitute qualifying income for
purposes of the 95% gross income test, but not the 75% gross income test. Any dividends received by us from a REIT will be qualifying
income in our hands for purposes of both the 95% and 75% gross income tests.
TBAs
We may utilize “to-be-announced”,
or TBA, forward contracts as a means of investing and financing Agency RMBS. There is no direct authority with respect to the qualifications
of income or gains from dispositions of TBAs as gains from the sale of real property (including interests in real property and interests
in mortgages on real property) or other qualifying income for purposes of the 75% gross income test. We intend to treat income and gains
from our TBAs as qualifying income for purposes of the 75% gross income test, to the extent set forth in an opinion from Sidley Austin
LLP substantially to the effect that, for purposes of the 75% gross income test, any gain recognized by us in connection with the settlement
of TBAs should be treated as gain from the sale or disposition of the underlying Agency RMBS. Such opinions of counsel are not binding
on the IRS, and there can be no assurance that the IRS will not successfully challenge the conclusions set forth therein. In addition,
the opinion of Sidley Austin LLP is based on various assumptions relating to our TBAs and is conditioned upon fact-based representations
and covenants made by our management regarding our TBAs. If the IRS were to successfully challenge the opinion of Sidley Austin LLP, we
could be subject to a penalty tax or we could fail to remain qualified as a REIT if a sufficient portion of our assets consists of TBAs
or a sufficient portion of our income consists of income or gains from the disposition of TBAs.
Hedging Transactions
We may enter into hedging transactions
with respect to one or more of our assets or liabilities. Hedging transactions could take a variety of forms, including interest rate
swap agreements, interest rate cap agreements, options, futures contracts, forward rate agreements or similar financial instruments. Except
to the extent provided by Treasury Regulations, any income from a hedging transaction we enter into (1) in the normal course of our
business primarily to manage risk of interest rate or price changes or currency fluctuations with respect to borrowings made or to be
made, or ordinary obligations incurred or to be incurred, to acquire or carry real estate assets, which is clearly identified as specified
in Treasury Regulations before the close of the day on which it was acquired, originated, or entered into, including gain from the sale
or disposition of such a transaction, or (2) primarily to manage risk of currency fluctuations with respect to any item of income
or gain that would be qualifying income under the 75% or 95% income tests which is clearly identified as such before the close of the
day on which it was acquired, originated, or entered into, will not constitute gross income for purposes of the 75% or 95% gross income
test. In addition, income from certain new hedging transactions that counteract prior qualifying hedging transactions described in (1) and
(2) above may not constitute gross income for purposes of the 75% and 95% gross income tests. To the extent that we enter into other
types of hedging transactions, the income from those transactions is likely to be treated as non-qualifying income for purposes of both
of the 75% and 95% gross income tests. We intend to structure any hedging transactions in a manner that does not jeopardize our qualification
as a REIT.
Failure to Satisfy the Gross Income Tests
We intend to monitor our sources of
income, including any non-qualifying income received by us, so as to ensure our compliance with the gross income tests. If we fail
to satisfy one or both of the 75% or 95% gross income tests for any taxable year, we may still qualify as a REIT for the year if we
are entitled to relief under applicable provisions of the Code. These relief provisions will generally be available if our failure
to meet these tests was due to reasonable cause and not due to willful neglect and, following the identification of such failure, we
set forth a description of each item of our gross income that satisfies the gross income tests in a schedule for the taxable year
filed in accordance with the Treasury Regulations. It is not possible to state whether we would be entitled to the benefit of these
relief provisions in all circumstances. If these relief provisions are inapplicable to a particular set of circumstances involving
us, we will not qualify as a REIT. As discussed above under “— Taxation of REITs in General,” even where
these relief provisions apply, a tax would be imposed upon the profit attributable to the amount by which we fail to satisfy the
particular gross income test.
Phantom Income
Due to the nature of the assets in which
we will invest, we may be required to recognize taxable income from certain of our assets in advance of our receipt of cash flow on or
proceeds from disposition of such assets, and we may be required to report taxable income in early periods that exceeds the economic income
ultimately realized on such assets.
We may acquire mortgage-backed securities
in the secondary market for less than their face amount. For example, it is likely that we will invest in assets, including mortgage-backed
securities, requiring us to accrue original issue discount, or OID, or recognize market discount income, that generate taxable income
in excess of economic income or in advance of the corresponding cash flow from the assets referred to as “phantom income.”
We may also be required under the terms of the indebtedness that we incur to use cash received from interest payments to make principal
payment on that indebtedness, with the effect that we will recognize income but will not have a corresponding amount of cash available
for distribution to our stockholders.
Due to each of these potential differences
between income recognition or expense deduction and related cash receipts or disbursements, there is a significant risk that we may have
substantial taxable income in excess of cash available for distribution. In that event, we may need to borrow funds or take other actions
to satisfy the REIT distribution requirements for the taxable year in which this “phantom income” is recognized. See “—
Annual Distribution Requirements.”
Asset Tests
We, at the close of each calendar quarter,
must also satisfy four tests relating to the nature of our assets. First, at least 75% of the value of our total assets must be represented
by some combination of “real estate assets,” cash, cash items, U.S. government securities and, under some circumstances, stock
or debt instruments purchased with new capital. For this purpose, real estate assets include interests in real property, such as land,
buildings, leasehold interests in real property, stock of other corporations that qualify as REITs, debt instruments issued by publicly
offered REITs and certain kinds of mortgage-backed securities and mortgage loans. A regular or residual interest in a REMIC is generally
treated as a real estate asset. If, however, less than 95% of the assets of a REMIC consists of real estate assets (determined as if we
held such assets), we will be treated as owning our proportionate share of the assets of the REMIC. Assets that do not qualify for purposes
of the 75% test are subject to the additional asset tests described below. Second, the value of any one issuer’s securities owned
by us may not exceed 5% of the value of our assets. Third, we may not own more than 10% of any one issuer’s outstanding securities,
as measured by either voting power or value. Fourth, the aggregate value of all securities of TRSs held by us may not exceed 20% of the
value of our gross assets. Five, debt instruments issued by publicly offered REITs, if they would not otherwise qualify as “real
estate assets”, cannot exceed 25% of the value of our total assets.
The 5% and 10% asset tests do not
apply to securities of TRSs and qualified REIT subsidiaries and securities that satisfy the 75% asset test. The 10% value test does
not apply to certain “straight debt” and other excluded securities, as described in the Code, including but not limited
to any loan to an individual or an estate, any obligation to pay rents from real property and any security issued by a REIT. In
addition, (a) a REIT’s interest as a partner in a partnership is not considered a security for purposes of applying the
10% value test; (b) any debt instrument issued by a partnership (other than straight debt or other excluded security) will not
be considered a security issued by the partnership if at least 75% of the partnership’s gross income is derived from sources
that would qualify for the 75% REIT gross income test; and (c) any debt instrument issued by a partnership (other than straight
debt or other excluded security) will not be considered a security issued by the partnership to the extent of the REIT’s
interest as a partner in the partnership.
For purposes of the 10% value test, “straight
debt” means a written unconditional promise to pay on demand on a specified date a sum certain in money if (i) the debt is
not convertible, directly or indirectly, into stock, (ii) the interest rate and interest payment dates are not contingent on profits,
the borrower’s discretion, or similar factors other than certain contingencies relating to the timing and amount of principal and
interest payments, as described in the Code and (iii) in the case of an issuer which is a corporation or a partnership, securities
that otherwise would be considered straight debt will not be so considered if we, and any of our “controlled taxable REIT subsidiaries”
as defined in the Code, hold any securities of the corporate or partnership issuer which (a) are not straight debt or other excluded
securities (prior to the application of this rule), and (b) have an aggregate value greater than 1% of the issuer’s outstanding
securities (including, for the purposes of a partnership issuer, its interest as a partner in the partnership).
After initially meeting the asset tests
at the close of any quarter, we will not lose our qualification as a REIT for failure to satisfy the asset tests at the end of a later
quarter solely by reason of changes in asset values. If we fail to satisfy the asset tests because we acquire or increase our ownership
interest in securities during a quarter, we can cure this failure by disposing of sufficient non-qualifying assets within 30 days
after the close of that quarter. If we fail the 5% asset test, or the 10% vote or value asset tests at the end of any quarter and such
failure is not cured within 30 days thereafter, we may dispose of sufficient assets (generally within six months after the last
day of the quarter in which our identification of the failure to satisfy these asset tests occurred) to cure such a violation that does
not exceed the lesser of 1% of our assets at the end of the relevant quarter or $10,000,000. If we fail any of the other asset tests or
our failure of the 5% and 10% asset tests is in excess of the de minimis amount described above, as long as such failure was due to reasonable
cause and not willful neglect, we may be permitted to avoid disqualification as a REIT, after the 30 day cure period, by taking steps
including the disposition of sufficient assets to meet the asset test (generally within six months after the last day of the quarter
in which our identification of the failure to satisfy the REIT asset test occurred) and paying a tax equal to the greater of $50,000 or
the corporate income tax rate (currently 21%) of the net income generated by the non-qualifying assets during the period in which we failed
to satisfy the asset test.
We expect that the assets and mortgage-related
securities that we own generally will be qualifying assets for purposes of the 75% asset test. However, to the extent that we own non-REMIC
collateralized mortgage obligations or other debt instruments secured by mortgage loans (rather than by real property) or secured by non-real
estate assets, or debt securities that are not secured by mortgages on real property, those securities may not be qualifying assets for
purposes of the 75% asset test. In addition, we may utilize TBAs as a means of investing and financing Agency RMBS. There is no direct
authority with respect to the qualification of TBAs as real estate assets or U.S. government securities for purposes of the 75% asset
test. We intend to treat our TBAs as qualifying assets for purposes of the 75% asset test, to the extent set forth in an opinion from
Sidley Austin LLP substantially to the effect that, for purposes of the 75% asset test, our ownership of a TBA should be treated as ownership
of the underlying Agency RMBS. Such opinion of counsel are not binding on the IRS, and there can be no assurance that the IRS will not
successfully challenge the conclusions set forth therein. In addition, the opinion of Sidley Austin LLP is based on various assumptions
relating to our TBAs and is conditioned upon fact-based representations and covenants made by our management regarding our TBAs. If the
IRS were to successfully challenge the opinion of Sidley Austin LLP, we could be subject to a penalty tax or we could fail to remain qualified
as a REIT if a sufficient portion of our assets consists of TBAs or a sufficient portion of our income consists of income or gains from
the disposition of TBAs.
In addition, we may enter into repurchase
agreements under which we will nominally sell certain of our assets to a counterparty and simultaneously enter into an agreement to repurchase
the sold assets. We believe that we will be treated for U.S. federal income tax purposes as the owner of the assets that are the subject
of any such agreement notwithstanding that we may transfer record ownership of the assets to the counterparty during the term of the agreement.
It is possible, however, that the IRS could assert that we did not own the assets during the term of the repurchase agreement, in which
case we could fail to qualify as a REIT.
Annual Distribution Requirements
In order to qualify as a REIT, we are
required to distribute dividends, other than capital gain dividends, to our stockholders in an amount at least equal to:
| · | 90% of our “REIT taxable income” (computed
without regard to the deduction for dividends paid and our net capital gains); and |
| · | 90% of the net income (after tax), if any, from foreclosure
property (as described below); minus |
| (b) | the sum of specified items of non-cash income that exceeds
a percentage of our income. |
These distributions must be paid in the
taxable year to which they relate or in the following taxable year if such distributions are declared in October, November or December of
the taxable year, are payable to stockholders of record on a specified date in any such month and are actually paid before the end of
January of the following year. Such distributions are treated as both paid by us and received by each stockholder on December 31
of the year in which they are declared. In addition, at our election, a distribution for a taxable year may be declared before we timely
file our tax return for the year and be paid with or before the first regular dividend payment after such declaration, provided that such
payment is made during the 12-month period following the close of such taxable year. These distributions are taxable to our stockholders
in the year in which paid, even though the distributions relate to our prior taxable year for purposes of the 90% distribution requirement.
Except for distributions by “publicly
offered REITs”, distributions must not be “preferred dividends” in order for such distributions to be counted towards
the distribution requirement. A dividend is not a preferential dividend if it is pro rata among all outstanding shares of stock within
a particular class and is in accordance with the preferences among different classes of stock as set forth in the organizational documents.
We believe that we are and will continue to be a publicly offered REIT and, therefore, will not be subject to this limitation.
To the extent that we distribute at least
90%, but less than 100%, of our “REIT taxable income,” as adjusted, we will be subject to tax at ordinary corporate tax rates
on the retained portion. In addition, we may elect to retain, rather than distribute, our net long-term capital gains and pay tax on such
gains. In this case, we could elect to have our stockholders include their proportionate share of such undistributed long-term capital
gains in income and receive a corresponding credit for their proportionate share of the tax paid by us. Our stockholders would then increase
the adjusted basis of their stock in us by the difference between the designated amounts included in their long-term capital gains and
the tax deemed paid with respect to their proportionate shares.
If we fail to distribute during each calendar
year at least the sum of (a) 85% of our REIT ordinary income for such year, (b) 95% of our REIT capital gain net income for
such year and (c) any undistributed taxable income from prior periods, we will be subject to a 4% excise tax on the excess of such
required distribution over the sum of (x) the amounts actually distributed (taking into account excess distributions from prior periods)
and (y) the amounts of income retained on which we have paid corporate income tax. We intend to make timely distributions so that
we are not subject to the 4% excise tax.
It is possible that we, from time to
time, may not have sufficient cash to meet the distribution requirements due to timing differences between (a) the actual
receipt of cash, including receipt of distributions from our subsidiaries and (b) the inclusion of items in income by us for
U.S. federal income tax purposes. For example, we may acquire debt instruments or notes whose face value may exceed its issue price
as determined for U.S. federal income tax purposes (such excess, “original issue discount,” or OID), such that we will
be required to include in our income a portion of the OID each year that the instrument is held before we receive any corresponding
cash. In the event that such timing differences occur, in order to meet the distribution requirements, it might be necessary to
arrange for short-term, or possibly long-term, borrowings or to pay dividends in the form of taxable in-kind distributions of
property, including taxable stock dividends. In the case of a taxable stock dividend, stockholders would be required to include the
dividend as income and would be required to satisfy the tax liability associated with the distribution with cash from other sources
including sales of our common stock. Both a taxable stock distribution and sale of common stock resulting from such distribution
could adversely affect the price of our common stock.
We may be able to rectify a failure to
meet the distribution requirements for a year by paying “deficiency dividends” to stockholders in a later year, which may
be included in our deduction for dividends paid for the earlier year. In this case, we may be able to avoid losing our qualification as
a REIT or being taxed on amounts distributed as deficiency dividends. However, we will be required to pay interest and a penalty based
on the amount of any deduction taken for deficiency dividends.
Recordkeeping Requirements
We are required to maintain records and
request on an annual basis information from specified stockholders. These requirements are designed to assist us in determining the actual
ownership of our outstanding stock and maintaining our qualifications as a REIT.
Prohibited Transactions
Net income we derive from a prohibited
transaction is subject to a 100% tax. The term “prohibited transaction” generally includes a sale or other disposition of
property (other than foreclosure property) that is held as inventory or primarily for sale to customers, in the ordinary course of a trade
or business by a REIT, by a lower-tier partnership in which the REIT holds an equity interest or by a borrower that has issued a shared
appreciation mortgage or similar debt instrument to the REIT. We intend to conduct our operations so that no asset owned by us or our
pass-through subsidiaries will be held as inventory or primarily for sale to customers, and that a sale of any assets owned by us directly
or through a pass-through subsidiary will not be in the ordinary course of business. However, whether property is held as inventory or
“primarily for sale to customers in the ordinary course of a trade or business” depends on the particular facts and circumstances.
No assurance can be given that any particular asset in which we hold a direct or indirect interest will not be treated as property held
as inventory or primarily for sale to customers or that certain safe harbor provisions of the Code that prevent such treatment will apply.
The 100% tax will not apply to gains from the sale of property that is held through a TRS or other taxable corporation, although such
income will be subject to tax in the hands of the corporation at regular corporate income tax rates.
Foreclosure Property
Foreclosure property is real property
and any personal property incident to such real property (1) that is acquired by a REIT as a result of the REIT having bid on the
property at foreclosure or having otherwise reduced the property to ownership or possession by agreement or process of law after there
was a default (or default was imminent) on a lease of the property or a mortgage loan held by the REIT and secured by the property, (2) for
which the related loan or lease was acquired by the REIT at a time when default was not imminent or anticipated and (3) for which
such REIT makes a proper election to treat the property as foreclosure property. REITs generally are subject to tax at the corporate tax
rate (currently 21%) on any net income from foreclosure property, including any gain from the disposition of the foreclosure property,
other than income that would otherwise be qualifying income for purposes of the 75% gross income test. Any gain from the sale of property
for which a foreclosure property election has been made will not be subject to the 100% tax on gains from prohibited transactions described
above, even if the property would otherwise constitute inventory or dealer property in the hands of the selling REIT. We do not anticipate
that we will receive any income from foreclosure property that is not qualifying income for purposes of the 75% gross income test, but,
if we do receive any such income, we intend to elect to treat the related property as foreclosure property.
Failure to Qualify
In the event that we violate a
provision of the Code that would result in our failure to qualify as a REIT, we may nevertheless continue to qualify as a REIT.
Specified relief provisions will be available to us to avoid such disqualification if (1) the violation is due to reasonable
cause and not due to willful neglect, (2) we pay a penalty of $50,000 for each failure to satisfy a requirement for
qualification as a REIT and (3) the violation does not include a violation under the gross income or asset tests described
above (for which other specified relief provisions are available). This cure provision reduces the instances that could lead to our
disqualification as a REIT for violations due to reasonable cause. If we fail to qualify for taxation as a REIT in any taxable year
and none of the relief provisions of the Code apply, we will be subject to tax on our taxable income at regular corporate rates.
Distributions to our stockholders in any year in which we are not a REIT will not be deductible by us, nor will they be required to
be made. In this situation, to the extent of current and accumulated earnings and profits, and, subject to limitations of the Code,
distributions to our stockholders will generally be taxable in the case of our stockholders who are individual U.S. stockholders (as
defined below), at a maximum rate of 20% and dividends in the hands of our corporate U.S. stockholders may be eligible for the
dividends received deduction. In addition, distributions to individual U.S. stockholders during any year in which we are not a REIT
will not be eligible for the deduction equal to 20% of the amount of such dividends. Unless we are entitled to relief under specific
statutory provisions, we will also be disqualified from re-electing to be taxed 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, we will be entitled to
statutory relief.
Taxation of Taxable U.S. Stockholders
This section summarizes the taxation of
U.S. stockholders who hold our stock that are not tax-exempt organizations. For these purposes, a U.S. stockholder is a beneficial owner
of our stock or warrants who for U.S. federal income tax purposes is:
| · | a citizen or resident of the U.S.; |
| · | a corporation (including an entity treated as a corporation
for U.S. federal income tax purposes) created or organized in or under the laws of the U.S. or of a political subdivision thereof (including
the District of Columbia); |
| · | an estate whose income is subject to U.S. federal income
taxation regardless of its source; or |
| · | any trust if (1) a U.S. court is able to exercise primary
supervision over the administration of such trust and one or more U.S. persons have the authority to control all substantial decisions
of the trust or (2) it has a valid election in place to be treated as a U.S. person. |
If an entity or arrangement treated as
a partnership for U.S. federal income tax purposes holds our stock, the U.S. federal income tax treatment of a partner generally will
depend upon the status of the partner and the activities of the partnership. A partner of a partnership holding our common stock should
consult its own tax advisor regarding the U.S. federal income tax consequences to the partner of the acquisition, ownership and disposition
of our stock by the partnership.
Distributions
Provided that we qualify as a REIT, distributions
made to our taxable U.S. stockholders out of our current or accumulated earnings and profits, and not designated as capital gain dividends,
will generally be taken into account by them as ordinary dividend income and will not be eligible for the dividends received deduction
for corporations. In determining the extent to which a distribution with respect to our common stock constitutes a dividend for U.S. federal
income tax purposes, our earnings and profits will be allocated first to distributions with respect to our preferred stock, if any, and
then to our common stock. Dividends received from REITs are generally not eligible to be taxed at the preferential qualified dividend
income rates applicable to individual U.S. stockholders who receive dividends from taxable subchapter C corporations.
In addition, distributions from us
that are designated as capital gain dividends will be taxed to U.S. stockholders as long-term capital gains, to the extent that they
do not exceed our actual net capital gain for the taxable year, without regard to the period for which the U.S. stockholder has held
our stock. To the extent that we elect under the applicable provisions of the Code to retain our net capital gains, U.S.
stockholders will be treated as having received, for U.S. federal income tax purposes, our undistributed capital gains as well as a
corresponding credit for taxes paid by us on such retained capital gains. U.S. stockholders will increase their adjusted tax basis
in our common stock by the difference between their allocable share of such retained capital gain and their share of the tax paid by
us. Long-term capital gains are generally taxable at maximum federal rates of 20% in the case of U.S. stockholders who are
individuals, and 21% for corporations. A U.S. stockholder that is an individual is subject to a 3.8% tax on the lesser of
(i) his or her “net investment income” for the relevant taxable year or (ii) the excess of his or her modified
gross income for the taxable year over a certain threshold amount depending on the individual’s U.S. federal income tax filing
status. A similar regime applies to certain estates and trusts. Net investment income generally would include dividends on our
common stock and gain from the sale of our common stock.
Distributions in excess of our current
and accumulated earnings and profits will not be taxable to a U.S. stockholder to the extent that they do not exceed the adjusted tax
basis of the U.S. stockholder’s shares in respect of which the distributions were made, but rather will reduce the adjusted tax
basis of those shares. To the extent that such distributions exceed the adjusted tax basis of an individual U.S. stockholder’s shares,
they will be included in income as long-term capital gain, or short-term capital gain if the shares have been held for one year or less.
In addition, any dividend declared by us in October, November or December of any year and payable to a U.S. stockholder of record
on a specified date in any such month will be treated as both paid by us and received by the U.S. stockholder on December 31 of such
year, provided that the dividend is actually paid by us before the end of January of the following calendar year.
With respect to U.S. stockholders who
are taxed at the rates applicable to individuals, we may elect to designate a portion of our distributions paid to such U.S. stockholders
as “qualified dividend income.” A portion of a distribution that is properly designated as qualified dividend income is taxable
to non-corporate U.S. stockholders at the same rates as capital gain, provided that the U.S. stockholder has held the common stock with
respect to which the distribution is made for more than 60 days during the 121-day period beginning on the date that is 60 days
before the date on which such common stock became ex-dividend with respect to the relevant distribution. The maximum amount of our distributions
eligible to be designated as qualified dividend income for a taxable year is equal to the sum of:
| (a) | the qualified dividend income received by us during such
taxable year from non-REIT C corporations (including any TRS in which we may own an interest); |
| (b) | the excess of any “undistributed” REIT taxable
income recognized during the immediately preceding year over the U.S. federal income tax paid by us with respect to such undistributed
REIT taxable income; and |
| (c) | the excess of any income recognized during the immediately
preceding year attributable to the sale of a built-in-gain asset that was acquired in a carry-over basis transaction from a non-REIT
C corporation over the U.S. federal income tax paid by us with respect to such built-in gain. |
In addition, the total amount of dividends
that we may designate as “qualified dividend income” or “capital gain dividends” may not exceed our dividends
paid for the taxable year. Generally, dividends that we receive will be treated as qualified dividend income for purposes of (a) above
if the dividends are received from a domestic C corporation (other than a REIT or a RIC), any TRS we may form, or a “qualifying
foreign corporation” and specified holding period requirements and other requirements are met.
Under the TCJA, dividends received by
individual U.S. stockholders from us that are neither attributable to “qualified dividend income” nor designated as “capital
gain dividends” will be eligible for a deduction equal to 20% of the amount of such dividends in taxable years beginning before
January 1, 2026, provided that the U.S. stockholders satisfies certain holding period requirements.
To the extent that we have available net
operating losses and capital losses carried forward from prior tax years, such losses may reduce the amount of distributions that
must be made in order to comply with the REIT distribution requirements. See “— Taxation of Two Harbors — General”
and “— Annual Distribution Requirements.” Such losses, however, are not passed through to U.S. stockholders and
do not offset income of U.S. stockholders from other sources, nor do they affect the character of any distributions that are actually
made by us, which are generally subject to tax in the hands of U.S. stockholders to the extent that we have current or accumulated earnings
and profits.
Dispositions of Our Common Stock
In general, a U.S. stockholder will
realize gain or loss upon the sale, redemption or other taxable disposition of our common stock in an amount equal to the difference
between the sum of the fair market value of any property and the amount of cash received in such disposition and the U.S.
stockholder’s adjusted tax basis in the common stock at the time of the disposition. In general, a U.S. stockholder’s
adjusted tax basis will equal the U.S. stockholder’s acquisition cost, increased by the excess of net capital gains deemed
distributed to the U.S. stockholder (discussed above) less tax deemed paid on such gain and reduced by returns of capital. In
general, capital gains recognized by individuals and other non-corporate U.S. stockholders upon the sale or disposition of shares of
our common stock will be subject to a maximum U.S. federal income tax rate of 20%, if our common stock is held for more than one
year, and will be taxed at ordinary income rates (of up to 37%) if our common stock is held for one year or less. Gains recognized
by U.S. stockholders that are corporations are subject to U.S. federal income tax at a rate of 21%, whether or not classified as
long-term capital gains.
Holders are advised to consult with their
tax advisors with respect to their capital gain tax liability. Capital losses recognized by a U.S. stockholder upon the disposition of
our common stock held for more than one year at the time of disposition will be considered long-term capital losses, and are generally
available only to offset capital gain income of the U.S. stockholder but not ordinary income (except in the case of individuals, who may
offset up to $3,000 of ordinary income each year). In addition, any loss upon a sale or exchange of shares of our common stock by a U.S.
stockholder who has held the shares for six months or less, after applying holding period rules, will be treated as a long-term capital
loss to the extent of distributions received from us that were required to be treated by the U.S. stockholder as long-term capital gain.
Passive Activity Losses and Investment Interest Limitations
Distributions made by us and gain arising
from the sale or exchange by a U.S. stockholder of our common stock will not be treated as passive activity income. As a result, U.S.
stockholders will not be able to apply any “passive losses” against income or gain relating to our common stock. Distributions
made by us, to the extent they do not constitute a return of capital, generally will be treated as investment income for purposes of computing
the investment interest limitation. A U.S. stockholder that elects to treat capital gain dividends, capital gains from the disposition
of stock or qualified dividend income as investment income for purposes of the investment interest limitation will be taxed at ordinary
income rates on such amounts.
Taxation of Tax-Exempt U.S. Stockholders
U.S. tax-exempt entities, including qualified
employee pension and profit sharing trusts and individual retirement accounts, generally are exempt from U.S. federal income taxation.
However, they are subject to taxation on their unrelated business taxable income, which is referred to in this prospectus as UBTI. While
many investments in real estate may generate UBTI, the IRS has ruled that dividend distributions from a REIT to a tax-exempt entity do
not constitute UBTI. Based on that ruling, and provided that (1) a tax-exempt U.S. stockholder has not held our common stock as “debt
financed property” within the meaning of the Code (i.e., where the acquisition or holding of the property is financed through a
borrowing by the tax-exempt stockholder), (2) our common stock is not otherwise used in an unrelated trade or business, and (3) we
do not hold an asset that gives rise to excess inclusion income, distributions from us and income from the sale of our common stock generally
should not give rise to UBTI to a tax-exempt U.S. stockholder.
Tax-exempt U.S. stockholders that are
social clubs, voluntary employee benefit associations, supplemental unemployment benefit trusts, and qualified group legal services plans
exempt from U.S. federal income taxation under Sections 501(c)(7), (c)(9), (c)(17) and (c)(20) of the Code, respectively, are subject
to different UBTI rules, which generally will require them to characterize distributions from us as UBTI unless they are able to properly
claim a deduction for amounts set aside or placed in reserve for specific purposes so as to offset the income generated by its investment
in our common stock. These prospective investors should consult their tax advisors concerning these “set aside” and reserve
requirements.
In certain circumstances, a pension
trust (1) that is described in Section 401(a) of the Code, (2) is tax exempt under Section 501(a) of
the Code, and (3) that owns more than 10% of our stock could be required to treat a percentage of the dividends from us as
UBTI if we are a “pension-held REIT.” We will not be a pension-held REIT unless (1) either (A) one pension
trust owns more than 25% of the value of our stock, or (B) a group of pension trusts, each individually holding more than 10%
of the value of our stock, collectively owns more than 50% of such stock; and (2) we would not have qualified as a REIT but for
the fact that Section 856(h)(3) of the Code provides that stock owned by such trusts shall be treated, for purposes of the
requirement that not more than 50% of the value of the outstanding stock of a REIT is owned, directly or indirectly, by five or
fewer “individuals” (as defined in the Code to include certain entities), as owned by the beneficiaries of such
trusts. Certain restrictions limiting ownership and transfer of our stock should generally prevent a tax-exempt entity from owning
more than 10% of the value of our stock, or us from becoming a pension-held REIT.
Tax-exempt U.S. stockholders are urged
to consult their tax advisors regarding the U.S. federal, state and local tax consequences of owning our stock.
Taxation of Non-U.S. Stockholders
The following is a summary of certain
U.S. federal income tax consequences of the acquisition, ownership and disposition of our common stock applicable to non-U.S. stockholders
of our common stock. For these purposes, a non-U.S. stockholder is a beneficial owner of our stock or warrants who is neither a U.S. stockholder
nor an entity that is treated as a partnership for U.S. federal income tax purposes. The discussion is based on current law and is for
general information only. It addresses only selective and not all aspects of U.S. federal income taxation of non-U.S. stockholders. In
addition, this discussion assumes that:
| · | you will not have held more than 10% of our common stock
(taking into account applicable constructive ownership rules) at any time during the five-year period ending on the date on which you
dispose of our common stock or receive distributions from us; |
| · | our common stock is and will continue to be “regularly
traded” on an established securities market located in the United States within the meaning of the Foreign Investment in Real Property
Tax Act of 1980, or FIRPTA, although there can be no assurance that this will continue to be the case; and |
| · | you are not a “qualified shareholder”, as defined
in Section 897(k)(3)(A) of the Code, which describes certain partnerships and other collective investment vehicles that satisfy
various recordkeeping, administrative and other requirements. |
If you are a non-U.S. stockholder as to
which any of these assumptions is not accurate, and in particular if you are a “qualified shareholder” within the meaning
of FIRPTA, you should consult your own tax advisor concerning the tax consequence to you of sales of our stock and the receipt of dividends
and other distributions from us.
General
For most foreign investors, investment
in a REIT that invests principally in mortgage loans and mortgage-backed securities is not the most tax-efficient way to invest in such
assets. That is because receiving distributions of income derived from such assets in the form of REIT dividends subjects most foreign
investors to withholding taxes that direct investment in those asset classes, and the direct receipt of interest and principal payments
with respect to them, would not. The principal exceptions are foreign sovereigns and their agencies and instrumentalities, which may be
exempt from withholding taxes on certain REIT dividends under the Code, and certain foreign pension funds or similar entities able to
claim an exemption from withholding taxes on REIT dividends under the terms of a bilateral tax treaty between their country of residence
and the United States.
Ordinary Dividends
The portion of dividends received by non-U.S.
stockholders payable out of our earnings and profits that are not effectively connected with a U.S. trade or business of the non-U.S.
stockholder will generally be subject to U.S. federal withholding tax at the rate of 30%, unless reduced or eliminated by an applicable
income tax treaty. Under some treaties, however, lower rates generally applicable to dividends do not apply to dividends from REITs. In
addition, any portion of the dividends paid to non-U.S. stockholders that are treated as excess inclusion income will not be eligible
for exemption from the 30% withholding tax or a reduced treaty rate. In the case of a taxable stock dividend with respect to which any
withholding tax is imposed, we may have to withhold or dispose of part of the shares otherwise distributable in such dividend and use
such shares or the proceeds of such disposition to satisfy the withholding tax imposed.
In general, non-U.S. stockholders will
not be considered to be engaged in a U.S. trade or business solely as a result of their ownership of our stock. In cases where the dividend
income from a non-U.S. stockholder’s investment in our common stock is, or is treated as, effectively connected with the non-U.S.
stockholder’s conduct of a U.S. trade or business, the non-U.S. stockholder generally will be subject to U.S. federal income tax
at graduated rates, in the same manner as U.S. stockholders are taxed with respect to such dividends, and may also be subject to the 30%
branch profits tax on the income after the application of the income tax in the case of a non-U.S. stockholder that is a corporation.
Other U.S. Federal Income Tax Withholding and Reporting Requirements
The FATCA provisions of the Code currently
impose a 30% withholding tax on U.S.-source dividends, interest and other income items paid to (i) foreign financial institutions
that do not agree to comply with certain diligence, reporting and withholding obligations with respect to their U.S. accounts and (ii) non-financial
foreign entities that do not identify (or confirm the absence of) substantial U.S. owners. The withholding tax of 30% would apply to dividends
paid to certain foreign entities unless various information reporting requirements are satisfied. For these purposes, a foreign financial
institution generally is defined as any non-U.S. entity that (i) accepts deposits in the ordinary course of a banking or similar
business, (ii) is engaged in the business of holding financial assets for the account of others, or (iii) is engaged or holds
itself out as being engaged primarily in the business of investing, reinvesting, or trading in securities, partnership interests, commodities,
or any interest in such assets.
Non-Dividend Distributions
Unless either (i) the non-U.S. stockholder’s
investment in our common stock is effectively connected with a U.S. trade or business conducted by such non-U.S. stockholder (in which
case the non-U.S. stockholder will be subject to the same treatment as U.S. stockholders with respect to such gain) or (ii) the non-U.S.
stockholder is a nonresident alien individual who was present in the U.S. for 183 days or more during the taxable year and has a
“tax home” in the U.S. (in which case the non-U.S. stockholder will be subject to a 30% tax on the individual’s net
capital gain for the year), distributions by us which are not dividends out of our earnings and profits will not be subject to U.S. federal
income tax. If we cannot determine at the time at which a distribution is made whether or not the distribution will exceed current and
accumulated earnings and profits, the distribution will be subject to withholding at the rate applicable to dividends. However, the non-U.S.
stockholder may seek a refund from the IRS of any amounts withheld if it is subsequently determined that the distribution was, in fact,
in excess of our current and accumulated earnings and profits
Capital Gain Dividends
Capital gain dividends received by a non-U.S.
stockholder from a REIT are generally not subject to U.S. federal income or withholding tax, unless either (i) the non-U.S. stockholder’s
investment in our common stock is effectively connected with a U.S. trade or business conducted by such non-U.S. stockholder (in which
case the non-U.S. stockholder will be subject to the same treatment as U.S. stockholders with respect to such gain) or (ii) the non-U.S.
stockholder is a nonresident alien individual who was present in the U.S. for 183 days or more during the taxable year and has a
“tax home” in the U.S. (in which case the non-U.S. stockholder will be subject to a 30% tax on the individual’s net
capital gain for the year).
Dispositions of Our Common Stock
Gain from the sale of our common stock
will be taxable in the U.S. to a non-U.S. stockholder in two cases: (i) if the non-U.S. stockholder’s investment in our common
stock is effectively connected with a U.S. trade or business conducted by such non-U.S. stockholder, the non-U.S. stockholder will be
subject to the same treatment as a U.S. stockholder with respect to such gain, or (ii) if the non-U.S. stockholder is a nonresident
alien individual who was present in the U.S. for 183 days or more during the taxable year and has a “tax home” in the
U.S., the nonresident alien individual will be subject to a 30% tax on the individual’s capital gain.
Backup Withholding and Information Reporting
We will report to our U.S.
stockholders and the IRS the amount of dividends paid during each calendar year and the amount of any tax withheld. Under the backup
withholding rules, a U.S. stockholder may be subject to backup withholding with respect to dividends paid unless the holder is a
corporation or comes within other exempt categories and, when required, demonstrates this fact or provides a taxpayer identification
number or social security number, certifies as to no loss of exemption from backup withholding and otherwise complies with
applicable requirements of the backup withholding rules. A U.S. stockholder that does not provide his or her correct taxpayer
identification number or social security number may also be subject to penalties imposed by the IRS. In addition, we may be required
to withhold a portion of capital gain distributions to any U.S. stockholder who fails to certify its non-foreign status.
We must report annually to the IRS and
to each non-U.S. stockholder the amount of dividends paid to such holder and the tax withheld with respect to such dividends, regardless
of whether withholding was required. Copies of the information returns reporting such dividends and withholding may also be made available
to the tax authorities in the country in which the non-U.S. stockholder resides under the provisions of an applicable income tax treaty.
A non-U.S. stockholder may be subject to backup withholding unless applicable certification requirements are met.
Payment of the proceeds of a sale of our
common stock within the U.S. is subject to both backup withholding and information reporting unless the beneficial owner certifies under
penalties of perjury that it is a non-U.S. stockholder (and the payor does not have actual knowledge or reason to know that the beneficial
owner is a U.S. person) or the holder otherwise establishes an exemption. Payment of the proceeds of a sale of our common stock conducted
through certain U.S. related financial intermediaries is subject to information reporting (but not backup withholding) unless the financial
intermediary has documentary evidence in its records that the beneficial owner is a non-U.S. stockholder and specified conditions are
met or an exemption is otherwise established.
Backup withholding is not an additional
tax. Any amounts withheld under the backup withholding rules may be allowed as a refund or a credit against such holder’s U.S.
federal income tax liability provided the required information is furnished to the IRS.
State and Local Taxes
We and our stockholders may be subject
to state or local taxation in various jurisdictions, including those in which we or they transact business, own property or reside. The
state or local tax treatment of us and our stockholders may not conform to the U.S. federal income tax treatment discussed above. Prospective
stockholders should consult their tax advisors regarding the application and effect of state and local income and other tax laws on an
investment in our common stock.
Future legislative or regulatory changes to the U.S. federal
income tax laws could adversely affect REITs and their stockholders and therefore could adversely affect us and our stockholders.
Future legislative or regulatory tax changes
to the U.S. federal income tax laws could adversely affect REITs and their stockholders and therefore could adversely affect us and our
stockholders. In addition, the 20% deduction for ordinary REIT dividends that a REIT distributes on its common stock to individual U.S.
stockholders will expire at the end of 2025 unless the deduction is extended by future legislation. See “— Taxation
of Taxable U.S. Stockholders — Distributions” above. Additionally, the REIT rules are constantly
under review by persons involved in the legislative process and by the IRS and the U.S. Department of the Treasury, which may result in
revisions to regulations and interpretations in addition to legislative changes.