CrowdStreet’s Darren Powderly is joined by David Kessler, CEO at CohnReznick LLP, to discuss what federal legislation sponsors need to be aware of that could impact commercial real estate, state and local tax deductions, and the future of qualified opportunity zones.
Darren Powderly, Co-Founder & VP Capital Markets
Darren founded CrowdStreet in 2012 after identifying the need to radically improve people's access to commercial real estate investments via technology. Over his 20+ year career, Darren has transacted billions of dollars’ worth of commercial real estate investments and enterprise software contracts. Darren is a driven leader who loves building relationships based on mutual success. In addition to building businesses, leading teams and advising a prestigious list of national clients, Darren has personally owned commercial real estate, syndicated investment groups and developed properties from the ground up.
00:00:05 Hi, everybody, this is Darren Powderly with CrowdStreet. Thank you for, uh, returning to our next edition of StreetBeats. I'm here today with David Kessler, CEO of Cone Resnick, uh, from Bethesda, MaryAllander. And, uh, it's a real honor to have David here today. He is an absolute expert in the field of tax, uh, for real estate investors. So, uh, when preparation for this StreetBeats episode, we were sharing that we have many, uh, common customers and, uh, that is a, a real relief for us at CrowdStreet because Cohen Resnick is, uh, at the top of their field when it comes to, uh, taxes and accounting. So, David, welcome to the show, and thank you for joining us. Why don't you just introduce yourself and tell us a little, little bit about yourself?
00:00:52 Sure, Darren, thanks so much. It's a pleasure to be here with you. Um, I have spent the last 35 years in the real estate industry, uh, with Cone Resnick, uh, representing both investors, sponsors, developers, owner operators, capital providers, uh, to the real estate industry. And it's a, it's a pleasure to be here with you. I'm home based out of Bethesda, MaryAllander. I split my time between New York, the Washington DC area, and across many of our offices on the west coast and, and in the, in the middle of the country. And it's just a pleasure to be here.
00:01:26 Great. And you know, one of the things that, um, when we have, we have a two-sided marketplace. We have investors and we have sponsors. Uh, both groups are, um, investing in real estate because of some of the tax advantages. Real estate is one of the greatest asset classes, uh, because of some of the tax advantages. And, uh, let's start out talking about the real estate professionals, the, as we call them, sponsors, developers, and operators, and some of the tax, you know, considerations that, that, uh, they are weighing or should always be, be thinking about. Many of them are, but
00:02:00 We touched a little bit on some of the, the tax advantages. I think, um, clearly that's one of the first places I would look is to, um, you know, provide, get an estimate of what your benefit might be if you do a cost segregation analysis, because that's really a mechanism. Um, it, it, it, it pays for itself, uh, five times over. Uh, it's a mechanism to convert, uh, long live, um, depreciable assets to shorter lives. Uh, and the sponsors, you know, as I said before, can take advantage of offsetting this depreciation with other income that they have. Fee income, um, other income, um, you know, they're, they're generally in, in, uh, uh, a structure where they do have ordinary income from fees mm-hmm. <affirmative>, in addition to the, the property property assets. It could be construction management fees, acquisition fees, property management fees, um, and, and other services that they're providing, uh, that they, they, you know, deserve fees for mm-hmm. <affirmative>.
00:03:10 And that can be offset with, with this depreciation. The other thing is, uh, the ability to, um, change the economic structure of the deal to reduce fee income and increase the cashflow from distributions, which is a non-taxable event, cash flow from distributions, uh, versus fee income, which is, um, a, a, a taxable event. So you could end up, sponsors can end up with the same economic structure. They otherwise would have, uh, LPs in the same position they otherwise would be, but increasing the cash flow waterfall for the gp, um, in, in lieu of some fees. Um, and that's, that's a mechanism that, uh, that can be used. Um, I will, um, caution, um, that, you know, you, you'll, you'll be reading if you haven't already, uh, you know, Biden has proposed eliminating 10 31 exchanges. Um, you know, we don't think that's, you know, gonna happen, but that's out there.
00:04:22 Uh, and then, um, carried interest, um, has been, again, proposed, uh, capital gains, uh, to be eliminated both, uh, Trump and Biden, um, in the future, you know, so carried interest is something that's always, you know, on the, um, on the bubble as to, um, legislation something might happen there. So, um, not sure if it will, but that's something to, um, to keep in mind. Uh, and then, um, you know, the other thing is, um, you know, managing the, uh, state and local, um, uh, deductions and with what's known as the, the 1 99 a 20% deduction, uh, managing that, uh, I think is important for, for sponsors because, uh, qualified business income will qualify for a 20% deduction, uh, which is kind of on par with the corporate deduct corporate, um, tax. And that is something, it's a complicated calculation and there's a lot of rules around what gets aggregated within that, um, within the sponsors platform.
00:05:39 And so I would just caution to make sure that, um, every sponsor is taking advantage of that to whatever extent that, uh, that they can, uh, within the tax code. And then qualified opportunity zones, Darren, I mean, I think, you know, that's something that, uh, if, um, uh, and, and you mentioned with, uh, community development and a lot of good things have been done. It was a community development oriented program to create jobs and an income base in underserved areas. And in order to qualify the area had to be, um, within underperforming, um, areas within each state. And, uh, I think, you know, if, if you can develop a property or rehab a property that's, you know, not in a qualified opportunity zone and one that's in a qualified opportunity zone, you know, the, the tax advantages of doing that within the qualified opportunity zone are, are just tremendous, you know?
00:06:41 So, um, you know, keep that in mind. And then the structures with how you, uh, create the investment vehicle, um, you know, investors could come through, through, um, your platform that have capital gains that want to defer, um, or multiple other, and you can have mixed investments where you have some investors that are deferring capital gain and some investors that are just along for the, the good economics of the deal and maybe are investing regular dollars and not, not capital gain dollars. Um, so there, there's advantages there. And then of course, you know, always be aware of some of the, the state and local incentives that are available, um, for the creation of jobs that, you know, many different, um, jurisdictions have that are, uh, you know, specific to the local jurisdiction and make sure that you're taking advantage of, of, of all those. There's, there's credits available and other incentives based on different jurisdictions. And then of course, federal incentives, like the historic tax credits, new markets, tax credits, um, provide, um, incentives if you're developing in, in certain areas that qualify. So it's important to know what's available from an incentive standpoint.
00:07:57 Uh, that's why they need a good tax, uh, account, an accountant, because there's so much to think about. And there's, you know, depending on where you're located, you know, the, uh, incentives, uh, change and, uh, you know, and nevermind at the federal level, how things are constantly under debate under the microscope and different administrations with different views of how to spark the economy and where to take some incentives away because in their view it's, you know, not necessary, uh, and, and sort of reallocate those dollars to other areas. So it is a dynamic environment and, uh, you definitely need a, a, a strong advisor, uh, on your team to help out, uh, in some of those areas. Um, you know, it's, it's fascinating to me why everyone doesn't do a, a cost segregation analysis. It, it seems, what is the reason why every sponsor wouldn't do that?
00:08:51 Um, you know, there's several reasons. Um, you know, one is, um, short term hold where you're gonna hold the property for a year or two, and it, it doesn't make sense because you're just gonna dispose of the property. Um, although you do get the accelerated deductions, you know, time value of money, you'll get them up front. Uh, some relates to the overall larger picture of either investors or the sponsor who maybe they have enough shelter and don't need additional depreciation deductions, but, um, nor normally that's not the case. Um, or there could be tax exempt investors, uh, that are involved. And, and, and we see that a lot with, um, uh, different, uh, you know, pension funds or, or foreign investors that just can't take advantage of the, uh, the depreciation. And so if the sponsor, um, has 10% of the equity and the 90% investor says, you know, I really don't need it. So, you know, let's not go forward. But I would say, you know, 90% of the time folks could benefit from it.
00:10:03 Well, David, fascinating. Uh, so many different topics, uh, benefits to both individual investors or LPs as well as the sponsors and owners, operators and developers, uh, the gps, uh, many things to consider. Many wealth enhancing and wealth building tax strategies that, uh, we all need to keep in mind as, uh, we try to, you know, put our dollars to work and, and with the right sponsors and, and, uh, and build wealth in real estate. So thanks so much for joining. Uh, thanks for sharing your knowledge with us. It's an incredibly important topic. And, uh, wishing you and, uh, your team at Cone Resnick, all the best as we continue to navigate these, uh, pan time covid impacted times.
00:10:52 So interesting times. Thanks so much for having me. Um, I think, um, you know, the real estate, uh, industry is so exciting. There's so much opportunity, as you said, for sponsors and investors and, um, and, and our job is to make sure everyone's taking advantage of the, um, uh, benefits that they have and, and add value to every transaction. So thank you so much for, uh, the time. We appreciate it very much.
00:11:18 And of course, it's our pleasure, uh, really enjoy working with you and sharing some clients and look forward to continually, uh, building our relationship going forward. Thanks so much.
00:11:27 Absolutely. Thank you.
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