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Image Attribution:www.exchangeauthority.com |
One
of the perks of our profession is we get insights into future legislation at
the state and federal level that can affect our livelihood. You see, the
commercial real estate lobby is quite influential. Recall, the enormous push
that occurred last year in California to defeat Proposition 15 which would have
altered the way property taxes are calculated for commercial properties.
Presently,
there is talk in Congress to gut tax deferred exchanges that are accomplished
through section 1031 of the Internal Revenue code. Payback for the enormous
infrastructure plan must come from somewhere and wealthy commercial real estate
owners are a likely target.
Yesterday,
I consumed a webinar hosted by David E. Franasiak, a Principal and Attorney at
Williams and Jensen, PLLC and Julie Baird, President of First American Exchange
Company. Discussed was the Biden Administration’s American Families Plan.
Underpinning the direction - “The President would also end the special
real estate tax break which allows real estate investors to defer taxation when
they exchange property - for gains greater than $500,000”. Dissected
were the three main components of the plan - a limit of $1,000,000 for couples
filing jointly, Section 1031 would effectively be killed, and the proposal - if
passed - could take effect for deal closed after December 2021.
As
a quick review, tax deferred exchanges allow title holders of commercial real
estate to defer capital gains taxes upon the sale of an income producing
property. Certain criteria and time frames must be met. Otherwise, if a sale
occurs - approximately 50% of the appreciation is consumed by Uncle Sam and
Cousin Gavin. Therefore, motivation to sell would be stripped except in extreme
cases.
Today,
I’d like to look at exchanges from a different view - do they really matter to
those without commercial real estate ownership? As I’m admittedly biased - I’ll
simply offer three thoughts to consider.
Commercial real estate transactions employee a significant
number of people. My premise? Elimination of transactions lured by tax
deferral would also crater all the jobs associated with those deals. I once
calculated 32 different folks were involved in a purchase. Specifically, escrow
agents, title officers, environmental surveyors, roof inspectors, general contractors,
sub-general contractors - air conditioning, electricians, plumbers, flooring.
Not to mention professionals such as CPAs, attorneys, and wealth advisors. Loop
in a few brokers and the ensemble is complete. Dollars earned - by those
involved - are circulated back through the economy and groceries are purchased,
rent is paid, and college funds established. And, state and federal income
taxes are paid from their earnings.
Small business owners who reside in commercial real estate
through ownership use the tax deferred exchange mechanism to expand their
operations. Keep in mind, business owners use the IRS section 1031 to
purchase larger facilities and grow their businesses. Operational growth means
equipment is purchased, workers are hired, and taxable revenue is created.
Elimination of the tax deferred exchange mechanism would
reportedly generate $19.5 billion over 10 years on a $2.4 trillion stimulus
package. Unfortunately,
the increment is so small - it’s akin to a rounding error. Too often, we lose
sight of the unintended consequences of actions we take. As an example, when
access to home loans was expanded in 2006 - the sub-prime meltdown resulted.
Granted, there was more to that story - but you get the idea.