Real Estate & The City –- Bitten to Death by a Duck

In the midst of one of the most severe economic downturns that the City has experienced since the 1970s, the government on all levels is contending with the same elevated costs and lower revenue as the private sector. Taxable income and sales are down, jobs have been lost and the number of people in need of assistance has increased.

Increasing taxes may very well be necessary in this time of crisis. But if taxes are to be raised, it should be so that only urgently required revenue is attained without hindering the growth of the private sector. After all, more jobs, higher incomes and increased consumer spending all equate to more revenue for the City, making economic stimulus the most profitable and ultimately sustainable solution to municipal budget woes.

Real Estate’s Essential Role

The real estate industry plays a vital role in the economy of any city, but here in New York it is a load-bearing pillar on par with investment banking and mass media. In fact, $10 billion a year, almost one quarter of the City's annual budget, is paid in real estate taxes every year by the real estate industry. It is therefore in every citizen’s best interest that this industry recover as quickly as possible. As it does, many other sectors will follow its upward lead.

And yet, a litany of factors has coalesced into a perfect storm for local real estate. While not catastrophic for the industry individually, these measures, if adopted, will collectively act to profoundly hinder its recovery. We run the very real risk of being bitten to death by a duck.

Of course we have to start from where we presently stand. Financial losses as a result of the stock market collapse, for instance, cannot be magically undone. We do find ourselves facing a credit contraction that is hindering acquisitions, the funding of building improvements, or the ability to refinance existing mortgages as they roll over. The decrease in rental values for commercial space and apartments alike is simply an unpleasant fact.

The question is, how can these problems be quickly and effectively addressed?

Discouraging Economic Activity

To begin with, changes in Federal, State and City income tax rates on the highest earners –- whose wealth, and the will to spend it, fuels the machinery of New York real estate –- amount to increases from 35 percent to 39.6 percent, 6.85 percent to 10.3 percent, and 3.7 percent to 4.65 percent, respectively. Moreover, the real property tax rate was increased 7.5% in January, 2009, while tax assessments for 2009/2010 also increased significantly in spite of an across the board reduction in real estate values.

Finally, an increase in the city sales tax is proposed, from 8.35% to 8.75%, as is the elimination of the clothing purchase exemption. This will hurt local retailers, further hindering real estate’s recovery.

Changes Proposed to Rent Regulations

Many bills have been proposed to tighten the regulation of rent-regulated housing. These proposals include an increase in the threshold for luxury deregulation, or the all-out elimination of it. Another would modify major capital improvement increases so that they become surcharges that expire once landlords have recouped their investment, rather than permanent increases. Other changes have been proposed as well that if adopted will discourage investment, slow rent growth and severely affect real estate values.

Miscellaneous Fodder Feeds a Fire, Too

There are also the costs that are less easily categorized but which add up nonetheless. Among these is a recession-prompted, exponential rise in the number of tickets being issued and fines being levied for minor infractions. Another is bureaucratic delays in processing permits and applications, which adds significantly to the cost of doing business.

All of the above, when taken together, will have an extremely pronounced effect on the real estate industry. While many are still only proposals, it looks likely that many will indeed become law. If that happens, recovery in the real estate industry will be greatly delayed. Jobs will be lost and real estate as an asset will continue to decline in value.

Moreover, rather than helping tenants as rent regulation is intended to, these new policies would make many rent-regulated buildings not just unprofitable for their owners, but a major liability. A substantial number of properties, particularly in transitional and marginal neighborhoods, will be at risk of falling into a bad state and being abandoned as owners become unable to afford their maintenance. As investment in real estate is discouraged, many tenants will be condemned to living in substandard housing

If these things happen, the cost to the City will more than exceed the gains realized from tax increases and regulatory changes, quality of life will decline for some of the neediest residents, homeowners will be unable to sell their properties for their actual worth, and construction workers and other laborers who build developments and rehab existing properties will remain un or under-employed.

The loss of both property value and taxable salaries will have profound implications for the City and State budgets, both of which depend heavily on estate, transfer and related taxes, amounting to several billion dollars of income annually.

It is therefore in the best interest of all New Yorkers that a carefully thought-out strategy be adopted involving a balance between economic stimulus and urgently-needed revenue for the City. As it stands right now, we may just lose our balance and fall further into recession.

How property owners can deal with distressed tenants

I have an article in the New York Real Estate Journal discussing ways in which New York City property owners are going to be confronted with serious challenges over the next several years, and how concerned property owners can best protect themselves against these potentially serious problems?

Click here to read the whole thing.

Articles 04.15.09

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