WITH MANY STATE governments facing a budget crisis, a real possibility exists that commercial real estate operators could be targeted for new taxes. Despite an improving national economy, state budgets continue to deteriorate.
Combine that with the fact that most states are mandated by law to balance their budgets and that many state politicians have pledged not to raise individual taxes, and you have a recipe that puts apartment owners in the mix of sources that states may turn to for more revenue.
The multifamily industry already is heavily taxed. According to the National Apartment Association, taxes are the second biggest expense for market-rent apartment properties, accounting for 23% of the average unit's annual operating costs. Salaries and other personnel costs are the biggest expense.
How serious is the threat of new taxes? Many states are in denial about their fiscal fortunes and are taking every step possible to avoid raising taxes before this fall's elections, including accounting gimmicks such as dipping into disaster relief reserves. However, these one-time moves may leave states worse off in 2003.
In January, the National Multi Housing Council (NMHC) launched an initiative to monitor the tax situation in 28 key states on a monthly basis. Our analysis points to several ways states might target apartment firms.
Business Privilege Tax
Real estate operators should be aware of any proposals to implement a business privilege tax. This tax simply is a new name for a franchise or property tax. Generally, it involves taxing either the value of a property or the amount of revenue it generates. Advocates of this tax argue that the bigger you are in value, the more taxes you should pay for the “privilege” of being in existence. Alabama is one state that has explored such a tax.
If your state is debating this type of tax, pay attention to two elements that will determine how harmful the tax would be. First, would the tax be imposed on the gross value of the property or the net value of the property after excluding debt? Clearly, the latter is preferred. Second, what is the “threshold” level of the tax? Would it apply to all businesses valued at a certain amount or more?
The Nexus Problem
Generally, taxpayers pay tax on their investment income to the state in which they reside. If you have investments in multiple states, you generally only pay taxes on your investment income in the state in which you live. This has led some investors to live in low-taxed states even though their investments are in higher-taxed states. Officials in both Texas and Alabama have discussed closing this so-called “loophole.”
Sales Tax “Reform”
Many states are overly dependent on one form of income (e.g., sales tax revenue from tourists in Florida). When these traditional revenue sources deteriorate, these states are likely to talk about “reforming” their tax structure to make it fairer. This sneaky tactic sounds good until the details are analyzed. In many cases, this “reform” is just a code for state efforts to broaden the items subject to sales tax. So, while some tax rates are lowered, such reform movements could mean that rents are suddenly subject to sales tax.
Franchise Taxes and User Fees
Look for states to come up with ingenious ways to increase these two items either by raising the rates on activities already subject to these taxes or by broadening the list of items subject to tax. New Jersey Gov. James McGreevey has proposed a large percentage increase in annual licensing fees for a variety of items, including operating an apartment property.
Some states may decide to charge a user fee for some of the services apartment firms offer their residents. This would mean apartment owners would pay the tax, and they might not be able to pass it through to residents.
NMHC is alerting apartment firms when a particularly adverse tax idea seems to be gaining traction. Apartment operators need to be especially vigilant over the next 18 to 24 months, and they should not let their guard down just because their state legislature already has adjourned for the year, as many states are expected to call special sessions later in the year to address budget crises.
Apartment firms need to remind policy makers that renters are the ones ultimately harmed by these taxes, which will only further aggravate the nation's growing affordable housing crisis.
Jim Arbury is vice president of tax for the Washington, D.C.-based National Multi Housing Council and its joint legislative partner, the National Apartment Association.
NEW TAX POSSIBILITIES
Business Privilege Tax — This is generally a tax on either the value of a property or the amount of revenue it generates. Alabama Gov. Don Siegelman has proposed a business privilege tax, but it has yet to be enacted.
Nexus Crackdown — Generally speaking, if a taxpayer has investments in multiple states, he only pays taxes on his investment income in the state in which he lives. Several states, including Texas and Alabama, have talked about closing this “loophole.”
Franchise Tax — New Jersey Gov. James McGreevey has proposed an increase in annual licensing fees for a variety of items, including operating an apartment property.