Mariwyn Evans writes about commercial real estate for REALTOR® Magazine. You can reach her at email@example.com.
November 2009: Commercial News Round Up
News briefs to keep you in the know about the commercial real estate industry.
November 1, 2009
Loan Forgiveness: The Downside
Provisions of the economic stimulus legislation that permit commercial real estate owners to postpone their tax liability on forgiven mortgage debt until 2014 is a boon for many investors.
But even such a popular measure has some pitfalls among the positives.
For the typical commercial property investor, postponing the liability until 2014 and then paying taxes over five years is probably the best choice, say Jeff Dowd and John Woodbury, principals at Chicago’s Reznick Group. But for an operating partner with a more complicated group of commercial investments, electing to postpone tax payments may not work as well.
"If a property owner elects to postpone the tax on loan forgiveness this year and then two years later has to file for Chapter 7 or 11 bankruptcy, that bankruptcy doesn’t wipe out the tax obligation for the amount forgiven," says Woodbury, who advises the firm’s clients on tax issues. If the owner hadn’t chosen to put off the payment, the taxes owed would be deferred, reduced, or eliminated by the bankruptcy. Insolvency of a company also doesn’t eliminate the deferred tax liability.
Other provisions that defer taxes also mean that the basis of the property is lowered by the amount of the forgiven mortgage debt. So if an owner wants to sell the property in a few years, the lower basis might easily result in a higher capital gains tax liability, even though the tax attributable to the debt forgiveness has been repaid, says Woodbury. In addition, he notes, selling the property triggers the immediate obligation to pay all of the taxes on the deferred debt. Tax liability is also triggered if a partner sells his or her interest. "If you make the decision to postpone these taxes, you have to be prepared to stay with the property and the investment for awhile," he says.
Disagreements can arise over the decision to defer taxes if the partners who own a property have conflicting tax needs, says Dowd. Since the election of the tax postponement has to be made at the partnership level, all partners must use the same strategy. But if one partner has a large current loss that will expire before the taxes come due, he might prefer to recognize the income from the forgiven debt, which won’t be possible if taxes are deferred.
Each individual will have specific situations that will affect the decision to mitigate the taxes due, but planning ahead is critical, says Dowd. "It’s really a two-part analysis: ‘How will I be impacted now by the tax liability, and how will I be impacted in five years?’" Even more important is that "a lot of people may not focus on the fact that the income doesn’t go away and that the taxes will come due in 2014," he says.
Commercial Commentary to Your Desktop
Stay up to date on the ever-evolving commercial market by tuning into the new Commercial Update podcast at REALTOR.org/commercial. On the last Tuesday of every month, NAR 2009 Treasurer and commercial broker Jim Helsel will comment on the most pressing issues facing commercial practitioners today. Helsel, a partner at RSR, REALTORS®, in Harrisburg, Penn., will also keep you current on what NAR is doing to promote the interests of commercial brokers and managers in Washington. To be sure you don’t miss a single podcast, get a link to each month’s podcast sent right to you by signing up for the Commercial RSS feed.
SBA Loans Give Double for Green
A 504 loan from the Small Business Administration is one of the most available and affordable ways to finance commercial property acquisition or renovations these days. Now, the SBA has sweetened the deal by doubling to $4 million the available loan amount for businesses that reduce energy consumption.
The regular SBA program caps loan amounts at $1.5 million, or $2 million if the borrower meets one of the SBA’s policy goals like supporting minority-owned businesses or aiding businesses affected by federal budget cuts. SBA terms are equally attractive, with up to 90 percent financing provided by private lenders and a local community development district. Buyers must use more than 50 percent of a property for business purposes.
To qualify for the $4 million, a borrower must reduce the building’s energy use by 10 percent over the business’s current usage. This can be accomplished by buying a more energy-efficient building or adding energy-saving features during the renovation of an existing property. If the business doesn’t currently own real estate, the energy usage can be compared with the amount used in a leased building. Companies can also qualify for the $4 million limit by generating renewable energy.
Cutting 10 percent in energy use isn’t as tough as it may sound, says Tony Liou, president of Partner Energy in Los Angeles. If you’re purchasing a newer office building, it’s likely that the property already incorporates equipment that will save energy, says Liou. Proving the energy savings in a new building requires hiring a professional energy engineer to project the new building’s energy use based on the equipment and construction specifications.
If a buyer is purchasing an existing building, the first step in establishing energy savings is to have an energy audit. An audit and analysis cost between 5 cents and 10 cents per square foot, Liou estimates. The audit not only establishes an energy-use baseline but also pinpoints areas where energy savings are most viable. Often changes in operation—like matching heating hours more closely to occupancy—and minor retrofits such as replacing lightbulbs and ballasts and installing timers on equipment, are enough to save the required 10 percent in energy, says Liou. The higher SBA loan limit also gives business owners the extra funds to invest in more expensive energy-saving technologies such as variable-speed HVAC drives or double-paned windows.