Republicans now control both the House and Senate and support tax reform, but it remains to be seen whether they can actually move it forward. Senate Finance Committee chairman Orrin Hatch (R-Utah) has said repeatedly that he'd like to see legislation move this year.
To help make that happen, he worked with the committee’s ranking member, Sen. Ron Wyden (D-Ore.), to create five bipartisan tax reform working groups. The groups are charged with analyzing the current tax code and recommending specific reforms by May. Their recommendations will be the foundation for legislation.
Tax reform is also a top priority for new House Ways and Means Committee chairman Paul Ryan (R-Wis.). However, significant hurdles remain. To begin with, President Obama and congressional Republicans remain divided over whether reform should be comprehensive or focus solely on corporate tax laws. A recent effort from Ryan and Hatch, however, suggests they may be looking to bridge this divide by offering tax incentives that stop short of cutting rates to businesses that don't file as corporations. There is also no consensus on how much additional revenue, if any, an overhauled system should raise. And it’s not clear whether either party is prepared to curtail popular tax incentives to lower rates.
Make Pro-Growth Tax Reform Happen
The apartment industry supports tax reform that promotes economic growth and investment in rental housing without unfairly burdening apartment owners and renters relative to other asset classes. To this end, the industry is focused on several “must haves” for tax reform.
- Protecting Flow-Through Entities. Some policymakers want to focus tax reform on reducing corporate tax rates, but that wouldn’t aid most apartment firms because they are largely organized as “flow-through” entities (LLCs, partnerships, S Corporations, etc.) that pay taxes at the individual rates, not corporate rates. Moreover, they would be potentially harmed by whatever tax incentives are reduced or eliminated to pay for corporate tax reform. To avoid harming flow-throughs, we're pushing for comprehensive tax reform.
- Keeping Like-Kind Exchanges. Largely unchanged since 1928, like-kind exchange rules allow property owners to defer capital gains tax by exchanging one property for another instead of selling it. These rules encourage investors to remain invested in real estate while still allowing them to shift resources to more productive properties, change geographic location, or diversify or consolidate holdings. In short, they help efficiently allocate capital in the apartment industry and ensure the industry can meet the demand for housing. Restricting or eliminating like-kind exchanges would greatly damage the value and trading of property.
- Protecting the Business Interest Deduction. Fears that companies are overleveraging has put the deduction for business interest expenses at risk. But such a change would have serious consequences for the apartment industry, which relies heavily on the debt markets. Eliminating or reducing the deduction would greatly increase the cost of debt financing, which would curb apartment development activity when demand for new apartments is at historic levels.
- Ensuring Depreciation Rules Don’t Harm Real Estate. Some lawmakers are looking to raise revenue by significantly extending the 27.5-year depreciation period of multifamily buildings and increasing the 25% depreciation recapture tax rate. These proposals would create a discriminatory cost-recovery system that is detached from the life of apartment buildings. They would reduce development and investment, result in lower real estate values, and curb the industry's ability to create new jobs.
Protecting the Low-Income Housing Tax Credit. The push for a simplified tax code is also threatening this critical financing incentive for developing low-income housing. Any downsizing of the program would exacerbate the shortage of affordable rental units, which the Urban Institute estimates to be roughly 8.2 million units.
Get Tax Extenders Done (Again)
There’s more at stake for the apartment industry than just tax reform. We're also pushing to extend the so-called tax extenders that expired at the end of 2014.
The House took the first step, voting in February to make small business expensing permanent. This allows small apartment operators to write off up to $500,000 in qualified investments, up from $25,000 in current law, versus depreciating them over a period of years.
In addition, the apartment industry is advocating an extension of so-called bonus depreciation that allows large operators to expense 50% of qualifying investments in the year of purchase; the flat 9% low-income housing tax credit; and two incentives designed to promote energy-efficient properties, including multifamily buildings.
Unlock Billions in Foreign Investment
Another tax law ripe for change is the Foreign Investment in Real Property Tax Act (FIRPTA), which discourages foreign investment in U.S. real estate.
FIRPTA requires foreign investors to pay capital gains taxes on the income they earn from, and then the sale of, U.S. real estate and other real property. However, the same investors are not required to pay capital gains taxes when they sell stocks and bonds in non-real estate U.S. companies.
Reforming FIRPTA could unlock billions in foreign capital that could help refinance real estate loans and drive new investment. We're pushing Congress to pass legislation, which the Senate Finance Committee approved in February, that increases the ownership stake that a foreign investor may take in a U.S. publicly traded REIT, without triggering FIRPTA, from 5% to 10%.
No one knows for sure when and if tax reform will happen. House Ways and Means Committee chairman Ryan is aiming for reform this summer. But he adds that any chance for a tax overhaul this year will be placed in jeopardy if it doesn’t happen before August recess. He also sees reform as potentially happening in phases and that it can be done in one to three years.
thing not in doubt is there will be plenty of debate and a lot of horse trading as
reform efforts heat up. The NMHC and the NAA
will be there telling our industry’s story and reminding lawmakers that tax
policy has a direct impact on our ability to house America’s workforce while
supporting 12.3 million jobs.