Hot TopicsCommercial Real Estate

Reduce Taxes. Maximize Cash Flow. Minimize Risk.

OCTOBER 2015 | ISSUE NO. 01

BY LAWRENCE A. ROSENBLUM AND PAUL ROSENKRANZ

In 2013, the IRS released the final tangible property regulations, one of the largest changes to tax law in more than 20 years. The regulations apply to all entities that acquire, produce and/or improve tangible or real property. These regulations

became effective for the 2014 tax year.

Taxpayers can obtain significant tax savings under the tangible property regulations. To take advantage of these opportunities, careful consideration should be given to determining the options available to deduct normally capitalized costs, the definitions of materials and supplies and the elections available for disposed assets and which expenses can be considered deductible repair costs.

More Room for Repairs

Costs that are classified as repairs or maintenance are deductible. Costs associated with improvements must be capitalized. The new tangible property regulations changed the rules for how to determine whether to capitalize an item or classify it as a repair. As a result, many expenses now qualify as repairs that did not under the previous guidance.

Entities must apply a facts and circumstances analysis to their expenditures to determine whether they qualify as routine repairs or improvement costs. Under the new guidance, costs must be capitalized when they relate to the betterment, restoration or conversion of a unit of property to a new use. Typically, these expenditures are for major projects, such as fixing a material defect in the unit of property, replacing a major component of the unit of property or repairing or replacing a combination of parts that make up a substantial part of a unit of property.

The option also exists to bypass the facts and circumstances analysis and elect to capitalize all repair and maintenance costs if:

n The amounts are paid as part of conducting your main business, n The amounts are reported as capital expenditures and n The election is made in the year the expenses were incurred.

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CBIZ’s Real Estate practice is uniquely positioned to help you minimize risk and capitalize on market opportunities.

We work with owners, managers, operators and investors, as well as commercial real estate developers and partnerships in all of the major CRE sectors: retail, office, hotel, multi-family, shopping centers and real estate investment trusts.

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IN THIS ISSUE:

CBIZ BizTipsVideos@cbiz

Four Ways Business Owners Can Generate Savings with the Tangible Property Regulations

Four Ways Business Owners Can Generate Savings with the Tangible Property Regulations PAGE 1

Property Insurance Rate Trends – The Buyer’s Market Continues

PAGE 3

Three Ways Real Estate Developers Can Benefit from CrowdfundingPAGE 4

Construction Vital StatisticsPAGE 5

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DISCLAIMER: This publication is distributed with the understanding that CBIZ is not rendering legal, accounting or other professional advice. This information is general in nature and may be affected by changes in law or in the interpretation of such laws. The reader is advised to contact a professional prior to taking any action based upon this information. CBIZ assumes no liability whatsoever in connection with the use of this information and assumes no obligation to inform the reader of any changes in laws or other factors that could affect the information contained herein.

Minimizing Your Capitalized Costs

The regulations create several safe harbor elections that allow taxpayers to deduct costs, such as improvement and materials expenses, that would otherwise be capitalized.

Small taxpayers can take advantage of a small taxpayer safe harbor provision that exempts them from capitalizing improvement costs if they meet all of the following requirements:

n Average annual gross receipts or total assets are less than $10 million;

n Owns or leases building property with an unadjusted basis of less than $1 million;

n The total amount paid during the taxable year for repairs, maintenance, improvements, or similar activities performed on such building property doesn’t exceed the lesser of:

Two percent of the unadjusted basis of the eligible building property; or $10,000; and

n The election to use the safe harbor is made for each taxable year in which qualifying amounts are incurred.

Amounts related to recurring activities, use of property, keeping the unit of property in working condition and expenses expected to occur at least twice during a 10-year period (shorter if the unit of property has a shorter useful life) can qualify for the routine maintenance safe harbor. The safe harbor allows entities to deduct these expenses rather than classifying them as improvements and capitalizing them.

Under the de minimis safe harbor, entities can deduct individual items under a specified dollar threshold. Entities with applicable financial statements can deduct items up to $5,000. Those without applicable financial statements can deduct individual items that cost less than $500. The accounting policy to use the de minimis election must be in place at the start of the tax year in order for entities to elect the de minimis safe harbor.

Deductions Opportunities for Materials and Supplies

Most of the old rules for materials and supplies transferred over to the new tangible property regulations. Acquired components used to maintain or improve the

unit of property, consumable such as fuel, lubricants and water reasonably expected to be used during a 12-month period and tangible property costing less than $200 are generally classified as materials and supplies.

Entities can deduct the costs of incidental materials—pens, papers, trash cans, etc.—in the year they were incurred. They can also deduct materials and supplies in the taxable year in which the items were put into use, so long as the records of consumption and inventories are kept. Materials and supplies can also be deducted as part of the de minimis safe harbor.

Maximize Partial Disposition Election

The tangible property regulations allow entities to expense the undepreciated costs of assets that were removed from the property. This rule change marks a significant change from earlier guidance.

The partial disposition rule comes into play when an entity disposes of depreciable assets and replaces it with a new asset. The undepreciated basis of the removed asset may qualify for ordinary loss treatment depending on all the facts of each situation. Furthermore, any removal costs can also be expensed.

Entities preparing for a sale of their property should be sure to evaluate where undepreciated assets not in use can be expensed. Removing assets from the books, which are no longer in service, will yield an immediate tax savings and will lower the depreciation recapture a taxpayer would otherwise be subject to post-sale

The tangible property regulations are still relatively new and are complex to implement, however, they can provide significant tax benefits to taxpayers.

For questions or comments about the issues addressed in this article, please contact, Larry Rosenblum at 561.922.3006, Paul Rosenkranz at 310.268.2029 or your local CBIZ advisor.

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PAUL ROSENKRANZLos Angeles, CA

LARRY ROSENBLUMBoca Raton, FL

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BY ROBERT KAELIN

Autumn policy renewals continue to reflect stable industry conditions with commercial rates decreasing for the ninth consecutive quarter in

most lines. Property insurance showed the largest rate declines; casualty rates decreased more moderately. Although recent weather events (e.g., severe flooding in the Carolinas) have not been factored into the latest reporting, lower than usual catastrophe losses over the past three years have contributed to this trend of steady or declining rates. This favorable loss experience, combined with abundant capacity, leads us to believe that insurers will compete very aggressively in 2016 with continued double digit reductions available to most insurance buyers.

In addition to lower rates, buyers are seeing improved terms and conditions in their policies. There is a resurgence of multiyear policies, some of which may or may not be tied to loss ratio requirements. Lower windstorm deductibles have been noted in CAT zones, both in the Gulf Coast and in California. This market is just another cycle but it will be prolonged compared to other market swings because of the presence of plentiful outside and alternate capital.

New to the overall picture is the potential impact of technology – specifically, the use of data analytics to better predict potential loss. Data insights will contribute to better informed decisions on risk selection which can be expected to contribute to lower losses, and in turn, would continue the trend of stable or decreased pricing. In addition to the impact on rates, companies will be better able to stay informed on the changing risk environment and latest risk management techniques that can help to mitigate their financial exposures.

A Few Notable Exceptions

Cyber. While decreases were seen across regions and in most major lines of business, notable exceptions were seen in specialized coverage, led by a growing cyber insurance market. Considering the rising frequency and severity of data breaches at corporate and government entities, this trend is expected to continue as the cyber insurance market matures, new insurers, products and capacity come to market and the true extent of companies’ cyber exposure is realized.

Habitational. Poor loss experience in the multifamily dwellings sector continued to return higher property insurance rates and declining limits last year, even while other segments experienced lower or stable rates. Early in 2015, few insurers were willing to write portfolios with significant habitational components, but as the year has progressed, the multifamily market has begun to experience rate relief and more carriers are targeting this business. Clients with good loss performance are seeing rate reductions; those with a few clean years since adverse events may see larger rate decreases and better terms. Clients who continue to have unfortunate loss experience can expect flat renewals to slight increases, depending on the severity and frequency of their claims activity. This newly competitive environment is contributing to a variety of options for buyers who are particularly rewarded when they are willing to be creative with deductibles.

Real estate investment trusts (REITS). Non-traded real estate investment trusts and mortgage REITs felt financial and professional liability insurance pricing headwinds to start 2015. What’s more, real estate companies that experienced dramatic changes to their risk profiles generally saw pricing that differs from the average. Litigation trends could also affect financial and professional liability insurance rates and terms.

Summing Up

Overall, the buyer’s market continues, with rates continuing to slide over the first three quarters of the year . Capacity continues to be high, capital has been plentiful and additional capital will be entering the market through the end of the year. Buyers may also benefit from improved terms and deductibles, even in selected CAT zones. This is an excellent opportunity for insurance buyers to strengthen longstanding relationships with carrier partners and brokers, and put into place coverage and structure that will lower fixed costs insurance.

ROB KAELINKansas City, MO

For additional information about trends or mitigating risk in the commercial real estate market, please contact CBIZ Insurance Services, Inc.:

Rob Kaelin, President, Midwest/West Region – 816.945.5158

Greg Cryan, President, Southeast Region – 678.297.7776

Property Insurance Rate Trends – The Buyer’s Market Continues

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By JAKE MCDONALD

A new era in funding is here, and it’s making headlines. The recent opening of the AKA United Nations, an extended stay condominium located

near the United Nations building in New York City, marks one of the first completed real estate projects that used a substantial amount of crowdfunding to cover its costs.

Crowdfunding represents an opportunity for real estate developers, particularly smaller –to-mid-size firms with smaller pools of investors that are looking for capital. The origins of crowdfunding date back to the Jumpstart Our Business Start-ups Act of 2012 (JOBS Act). The act permits companies to use funding portals to access non-accredited investors.

The access, liquidity and fractional ownership permitted under JOBS Act can broaden a funding pool, but your organization should consider the funding source with some degree of skepticism. Both investors and the investment portals are largely untested, which makes crowdfunding a riskier source of investment. Before making a decision about whether to pursue crowdfunding, it is recommended you conduct a careful analysis of the three core benefits and their risks.

Benefit #1 - Access

To grow your company to the next level, you need to expand the scope and breadth of projects you undertake. Finding the means to pay for those projects can be difficult, especially if you want to expand outside of the geographic or strategic areas that appeal to your traditional backers. Your company also might have reached its lending limit with the financial institutions and private equity investors with which it typically works.

Crowdfunding represents an opportunity for additional funding pools. Real estate developers can use crowdfunding portals such as Fundrise, Reality Mogul and Patch Land to reach accredited investors. The Securities and Exchange Commission (SEC) requires accredited investors to have at least $1 million in net worth excluding their primary residence and an annual income of at least $200,000 for single person or $300,000 for a married couple for at least two years before making an investment.

Once the Title III of the JOBS Act is finalized, which is

expected to be in late 2015, real estate developers can use the crowdfunding portals to access unaccredited investors. It is expected that the unaccredited investors will have fewer requirements to meet in order to invest in crowdfunding than the accredited investors.

Developers should take note, however: Unaccredited investors using crowdfunding are likely not to be as sophisticated as accredited investors. These investors may be accessing real estate projects for the first time, and they could not be as prepared for the long-term nature of their investment. However, while we cannot be completely certain before the final rules are released, it is broadly anticipated that website format would create short-term liquidity for these investors to re-sell their investment.

Three Ways Real Estate Developers Can Benefit from Crowdfunding

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Benefit #2 - Liquidity

Real estate development projects are not quick-turn deals. Vulnerable as they are to natural and economic factors, projects often extend beyond their original estimated completion date. Additionally, the return on the investment often comes only when the project has been completed.

Many investors may shy away from long-term, illiquid investments. Crowdfunding allows for a little bit more wiggle room.

In a traditional market, unloading investments in real estate can be difficult because the full value of the investment cannot be identified until the project is complete. The rules are less stringent in a crowdfunding portal. Investors can more easily trade around investments in projects. Investors’ ability to trade investments for non-deal-related reasons can mean funding is more sustainable overall than what real estate developers may find in a more traditional marketplace.

The benefit to liquidity also signals one of its key risks. Individuals who participate in crowdfunding often do not have the same depth of resources as those who take a more traditional route. They tend to have less liquidity in their personal finances, and so they may have to trade off investments with more frequency than accredited investors would.

Benefit #3 - Fractional Ownership

Traditional real estate development projects are organized where the developers are the general partners and the investors are passive, limited partners. The model sets a high entry price for the limited partners, and that tends to limit the pool for private investors. Crowdfunding opens up the investor pool to almost anyone and allows for more partial owners than other investment models.

One of the most important elements of the JOBS Act in relation to crowdfunding is its sanction of crowdfunding portals. The platforms allow for a grassroots approach to investing.

The newness of the crowdfunding portals brings with high risk. The SEC is taking a wait-and-see approach to its regulations of crowdfunding platforms. If the SEC finds that the platforms are charging investors too many fees or taking advantage of the investors, it could issue additional requirements for crowdfunding platforms that significantly affect the current crowdfunding marketplace.

The fallout may be several years out still, but it’s very likely that additional changes will be required for

For questions or comments about the issues addressed in this article, please contact Jake McDonald, Senior Manager, CBIZ Credit Risk Advisory Practice 610.862.2202.

The Construction Owner Confidence Index for the first half of 2015 shows notable increases in both sales expectations and profit margins, with just a slight dip in staffing level intentions. Simultaneously, the unemployment rate for construction companies has returned to its 2015 low. Click to learn more.

Construction Vital Statistics

crowdfunders. Real estate developers, which need long-term investments, should carefully consider what the fallout could be. The crowdfunding market today may not be the same as the marketplace developers need in the late stages of their project. Crowdfunding portals are largely untested, and we have yet to see what happens to investments if their crowdfunding portal collapses or is purchased by another entity.

Buyer Beware

The completion of the condominium in New York City illustrates to both investors and the real estate community that crowdfunding can work to fill gaps in funding, that it can be successful. As more of these projects come to fruition, the rules and opportunities for crowdfunding could become more apparent, making this option less of a risky, new approach and more of a staple in the real estate industry, much like Real Estate Investment Trusts (REITs) have become.

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Construction Vital Statistics September 2015at a Glance

Unemployment Rate(Bureau of Labor Statistics)

7.0%5.1%

Overall

Current Month Year-over-Year

Construction

5.9% 5.5%

Housing Permits & Starts (U.S. Census Bureau & Dept. of Housing and Urban Dev.)

TOTAL PERMITS Current Month:

-5.0% vs.1 yr. Earlier: 4.7%

TOTAL STARTSCurrent Month:

6.5% vs.1 yr. Earlier: 17.5%

Nonresidential Construction Material Prices (Producer Price Index)By theNumbers: Current Month: -1.6%

Nonresidential Construction Spending (U.S. Census Bureau)

Construction Backlog Indicator

(Associated Builders & Contractors/2nd Quarter 2015)

8.5 vs. 1 yr. Earlier: 8.5

Construction Owner Confidence Index

(Associated Builders & Contractors/1st Half of 2015)Readings above 50 indicate growth

SALES EXPECTATIONS rose from 67.3 to 69.4

PROFIT MARGINEXPECTATIONSexpanded from 61.0 to 62.9

STAFFING LEVELINTENTIONSdipped slightly from 66.3 to 66.2

Year-over-year change: -6.0%

August 2015: 0.3% Year-over-year change: 12.3%

vs.

vs.