Major Tax Increase Could Be on the Commercial Real Estate Horizon

Aug. 1, 2008

BOMA Intl. discusses the uncertainty faced by the real estate industry in the realm of tax policy in 2009

In November, the country will elect a new Congress and, for the first time in 8 years, a new president. All will come to Washington, D.C., with their own ideas on how to best generate revenue to run the country. This new political landscape, along with the looming expiration of many of President Bush's tax cuts (set to expire at the end of 2010), means that the commercial real estate industry will face a tremendous amount of uncertainty in the realm of tax policy in 2009. If President Bush's tax cuts do expire, the country will face a $2.8 trillion tax increase over the next 10 years.

The best way to start deciphering what the future may hold is to review each of the presumptive presidential candidates' proposals on tax policy; however, a newly elected president will not automatically get his way, even if his own party is in control of the legislative branch. While he may help set the agenda, he will still have to negotiate with Congress and, specifically, the tax-writing Ways & Means Committee, and its chairman, Charlie Rangel (D-NY), who will be in his 20th term.

The likely Republican nominee, Senator John McCain (R-AZ), has outlined a tax plan that mimics the current tax structure implemented under the Bush Administration. McCain embraces Bush's tax cuts and wants to make them permanent. This would include the 15-percent tax rate on capital gains and dividends, and the tax-extenders package that Congress continues to implement on a yearly basis since 2003, which incorporates the 15-year timeline for depreciating leasehold improvements, as well as the expensing of brownfield clean-up costs. (At press time, the tax extenders were still being considered for 2008; they were allowed to expire at the end of 2007.) McCain also proposes to cut the corporate tax rate from 35 percent to 25 percent and to permit businesses to deduct the full cost of capital business equipment at once rather than over several years. He also wants to completely eliminate the alternative minimum tax (AMT).

Meanwhile, Senator Barack Obama (D-IL), the presumptive Democratic candidate for president, has a different view of tax policy - a view that might cause concern for many in the commercial real estate industry. While he is in favor of extending many of Bush's tax cuts passed in 2001 and 2003, Obama would roll back some of those cuts that apply to individuals making more than $250,000. This would seem to indicate that the real-estate-supported leasehold depreciation and brownfields extensions would be safe; however, he still wishes to increase capital gains and dividends tax rates to almost 28 percent in the name of "fairness."

Whoever the new president is, he will likely have to navigate a much different congressional landscape compared to the one seen today. With many Republicans in the House retiring, and low approval ratings for President Bush, Democrats are growing confident that they can increase their majorities in both the House and Senate. Growing this majority will likely mean an increase in the size of the coalition known as the Democratic Blue Dog Coalition, a relatively pro-business, fiscally conservative group of the Democratic Representatives. The Blue Dogs were instrumental in implementing pay-as-you-go budget rules at the beginning of the 110th Congress. These rules require finding offsets for revenue considered to be lost to the government through tax cuts, either through increased taxes elsewhere or spending cuts.

These "pay-go" rules have now led to the introduction of AMT bills in both 2007 and 2008 that are partially offset by a tax increase on carried interest. In a partnership arrangement, the carried interest is the compensation given to the general partner for the intangible assets, assumption of significant risk, and their intellectual capital as part of arranging and operating the venture. This is important since nearly half of all investment partnerships are commercial real estate in nature. The political rhetoric and media focus for this tax increase, however, was on the wealthy hedge-fund managers and private-equity firms, not necessarily on commercial real estate. The legislation would treat carried interest as ordinary income and, thus, raise the tax rate on it from the 15-percent capital gains tax rate to 35 percent for most. Fortunately, the tax increase on carried interest failed to pass both chambers last year, and, at press time, the second attempt up for consideration is all but assured to receive the same fate in 2008.

With all the political uncertainty that lies ahead, the commercial real estate industry must continue to stay vigilant and involved in the political process. Much is at stake for the industry and the country in the form of a potential $3 trillion tax increase.

For more information on this and other issues, call BOMA Intl. at (202) 408-2662 or visit

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