9 out of 10 Commercial Property Investors are Overpaying on Income Taxes
Year after year, the Federal Government has continued to incentivize those who invest in Commercial Property. The IRS has established guidelines that, if ignored, cause commercial real estate investors to pay more in taxes than they should.
What guidelines are being ignored by Commercial Property Investors?
Those revolving around Accelerated Depreciation; known in the taxation world as Property Cost Segregation.
Ramifications of Improper Depreciation Allocation
Most commercial property investors do not truly understand the substantial benefits of accelerated depreciation. This is evidenced by our analysis of thousands of depreciation schedules over the years. We have found less than 10% of investors are properly depreciating their properties. The most common misconception is, “I am going to get this money anyway”. Is this a true or false statement?
Capital Gains vs Ordinary Income Rates
Although the mechanics of these calculations are not always as simplistic as we will be making it for this example, the short response is – increased depreciation leads to paying taxes at the capital gains rate as opposed to the ordinary income rate. Since capital gains rates are likely much lower than the Investor’s income tax rate, they would benefit from accelerated depreciation.
Time Value of Money
Simply put, your dollar is worth more today than it will be in the future. A tax dollar saved today therefore is worth more than a tax dollar saved in the future. Why lock up a tax savings in your property for 27-39 years when you can receive it today?
If you have not completed a Cost Segregation study on your property that you have held for a period of time, did you know that you can capture your entire missed benefit immediately? The IRS allows you to complete a 481 adjustment thus enabling you to catch up all the missed accelerated depreciation into the current tax year. This provision alone could save you hundreds of thousands immediately!
The Power of Cash in hand
You are a real estate “investor”. This means you understand the investing power of having funds in your hand today. Cash today [in the form of tax savings] enables you to invest in additional properties. The benefits of this are exponential and allow continued growth of your investment portfolio.
Correct allocation of real estate depreciation is essential for Commercial Property Investors to effectively manage their tax situation. Are you one of the 90% who are missing out on opportunities that 10% of your competitors are capturing?
Specialized Tax Incentives for Restaurants
You are a small business owner who owns and operates a restaurant. Your time is consumed with ensuring tables are turned and your business is moving forward. You do not have time to research specialized tax incentives let alone determine if you qualify. You are not uncommon.
Below is a brief summary of tax incentives you may be missing out on:
Commercial Building Tax Deduction
Tax deduction for expenses incurred for energy efficient building expenditures
Engineering-based Property Cost Allocation
Recover costs through deprecation of tangible property used in the operation of a restaurant business.Qualified Items Include: Beverage Equipment, Storage Area, Furnishings, Bar Area, Flooring, Lighting, Wiring, Sound System, and Kitchen Area
Employee Tax Credits
Local, State, and Federal Incentives to hire and retain employees. Available credits up to $9,000 per qualified new hire.Credits are available for employees in the following categories: Those living in Empowerment Zones, Young Adults, Wounded or Disabled Veterans, Food Stamp Recipients, and those receiving Supplemental Security Income
Commercial Property Tax Reduction
Reduction available on both Personal and Real Property Taxes paid.
Can take an increase in deduction up to $35,000 of the cost of eligible equipment purchases
The above is merely a brief list of some of incentives you could benefit from if you are a restaurant owner. The easiest way to determine your qualification is to contact us.
A Slowdown Is in Store for the Self-Storage Business
The party is coming to an end in the self-storage business.
For most of the current economic expansion, the sector has been beating all other major commercial property types in earnings growth and stock performance. Real-estate investment trusts like Life Storage Inc., Extra Space StorageInc. EXR -1.78% and Public Storage have been able to push through stratospheric rent increases thanks partly to the scant supply of new development.
But growth is slowing as markets get flooded with new supply. Earnings are still increasing, but no longer at the double-digit rates many companies enjoyed between 2010 and 2015.
Stock valuations, meanwhile, are falling back to earth. Self-storage companies are trading at a 2% discount to the estimated market value of the properties they own, compared with an average 16% premium over the past five years, according to Green Street Advisors.
Self-storage company executives point out that the business remains prosperous and continues to hold its own against other property types. The only major REIT sector trading more favorably is industrial, which is trading at a 4% premium to asset value. Malls and office REITS are trading at discounts of 13% and 9%, respectively, Green Street says.
“When you have five or six blowout years and you get back to normal, it just looks slow,” said David Rogers, chief executive of Buffalo-based Life Storage, which has 700 facilities in 28 states.
But the supply pipeline is expected to stay fat for some time. “We are seeing few signs of a slowdown in new projects,” said Baird Equity Research in a report published in late November.
Demographic trends, meanwhile, raise concerns about the strength of future demand. Aging baby boomers can be expected to absorb a lot of new supply as they leave large houses for smaller apartments. But household formation has generally been slow in the U.S. economy. Also, urban-living millennials have tended to accumulate less stuff than their parents up until now.
“When you live in urban settings, you live small,” Mr. Rogers said.
Mr. Rogers and others said they see signs millennials are beginning to form families, move to the suburbs and accumulate patio furniture, pool toys and the other items that ultimately seem destined for self-storage. “We missed a five-to-six-year period, but we’re catching up,” Mr. Rogers said.
The self-storage business generally has enjoyed strong growth over the years thanks to the emotional and occasionally nonsensical love affair between Americans and their stuff. Once people rent out a unit they become a captive audience for rent increases.
“This is why it’s such a great property type,” said R.J. Milligan, a Baird analyst. “Say you’re paying $100 a month and they increase your rent $5—which in commercial real estate is a significant increase. You’re not going to move your stuff on a Saturday to a place that’s charging $95.”
The biggest self-storage companies have adopted a wide range of new technologies such as data analytics and search-engine optimization to find and keep customers. “Our ability to outperform the mom-and-pop [self-storage facilities] has gotten bigger and bigger,” said Joseph Margolis, chief executive of Extra Space, a Salt Lake City-based REIT that operates more than 1,500 properties.
Profits also have been plentiful for self-storage operators for most of the recovery from the 2008 crash because new supply has been limited. Roughly 2,000 self-storage facilities were developed annually between 2000 and 2009, Mr. Margolis estimated. That declined to a few hundred per year in the years after the downturn, he said.
But development has spiked. The Census Bureau reported that in November the annualized rate of new construction in the sector was about $4.6 billion on a seasonally adjusted basis. That’s more than double the level of November 2016 and more than triple the level of November 2015.
Public Storage, the largest REIT in the sector, has 5 million square feet under construction, compared with an average 3.5 million square feet over the past four years, according to Jon Cheigh, a global portfolio manager with Cohen & Steers, which has about $38 billion in real-estate assets under management. “New development has overwhelmed certain key markets” like Phoenix, New York City and Orange County, Calif., he said in an email.
Private-equity firms in the business include Brookfield Asset Management and Carlyle Group LP. TPG, another private-equity firm that had been active in self-storage, sold its business in 2016 for $1.3 billion to the REIT that later changed its name to Life Storage.
The new capital that has flowed into the sector has kept private market values of individual properties high, especially those that are well leased. High-quality self-storage operations are more than 90% occupied in most markets at near-record rent levels.
But there’s doubt that the market will be able to sustain such high levels with the new supply being added. Green Street is projecting that net operating income growth for the self-storage sector will be below the broader REIT industry.
“That typically hasn’t happened historically,” said Ryan Burke, a Green Street analyst. “It speaks to the fact that self-storage as a business is in uncharted territory over the near term.”