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A Wink and a Nod

December 2020 Insight

I am tired of Covid-19. I am tired of the Coronavirus (why doesn’t anyone call it that anymore?). I am tired of lockdowns and everything that goes along with them. But most of all, I am burned out of talking about it all. Tired of talking about new cases (why do the number of cases matter? The government doesn’t track everyone that gets the flu), tired of talking about new death records (now that is something that does matter), tired of talking about incompetent and hypocritical elected officials, tired of talking about the impacts of their policies, tired of…well, all of it. But unfortunately, the virus is nearly completely intertwined into all aspects of our lives. Especially economic and investment. For someone that doesn’t want to talk about the virus or any of its axillary impacts, there simply isn’t much else to write about. The benefit to you as the reader, is this will be a much shorter Insight than normal.

A non-COVID question I have been asked often over the past couple months is: “What should we expect in terms of changes to the tax code due to a Biden presidency?” I won’t ever be accused of being an expert in politics or forecasting, so any thoughts I have on the subject can’t be considered more than mere opinion; but as these possible changes would certainly have an impact on me personally, our investors, and our business, I have done enough research, reading and thought to form some preliminary opinions. The summary of which is, I do not think we have much to worry about.

I absolutely feel like there will be some changes to the tax code, or at the very least, the appearance of efforts to change the tax code. Mr. Biden will need to do something to satisfy the progressive part of his party. But I am also confident, at least during the next two years, any such efforts will be much ado about nothing.

  1. Regardless of the outcome of the Georgia senator election run offs, the Democrats won’t have more than a one vote majority in the Senate. It was a huge struggle for Obama to get ACA passed despite have commanding majorities in both the House and the Senate. A one vote majority isn’t enough to get any drastic changes through.
  1. While the stated platforms of the political parties may have stayed consistent over the years, the parties and their constituents have changed dramatically. The largest criticism of Trump’s key piece of legislation, the Tax Cut and Jobs Act of 2017, was not the tax cuts included in the bill. Rather, it was the removal of tax write offs (which amount to tax increases for some) included in that same bill. The bill limited SALT (state and local tax) deductions to $10,000. Additionally, it lowered the allowable interest deduction on primary residential mortgages from $1 Million to $750,000. The howling was ear splitting. The removal of these deductions was so “unfair”, and it mainly impacted those in the higher tax brackets. One has to be doing pretty well financially to be able to obtain a $750,000 mortgage, even with today’s record low interest rates. The vast majority of complaining came from the wealthy states (or better said, high income states) along the coasts. These are the same states that went heavy blue in ushering Biden into the presidency. If a relatively minor reduction in tax benefits created that much of an uproar by the same people that were responsible for Biden ascending to power, I find it highly unlikely Biden would turn around and inflict further tax pain upon them.
  1. Along those same lines, a look at a map showing the election results is enlightening. With some notable exceptions, the higher the per capital income of a zip code (or census tract, county, etc.) the higher the percentage of votes for a Biden/Harris presidency. It is easy for people to say that we should raise taxes on the “rich”, but it is a lot harder for those that will feel the burden of the new tax to be so enthusiastic about said new tax. Tying this paragraph into #3 above, when the very people that voted you into power are the ones that you might raise taxes on, good luck raising taxes.
  1. Janet Yellen is the presumed incoming Treasury Secretary. As most will remember, she was last on the front page of the news as the President of the Federal Reserve. As head of the Fed she continued Ben Bernanke’s stated policy of trying to create a “Wealth Effect”. Bernanke explained this as a trickledown benefit to the economy (though definitely a bastardization of trickledown economics of the 1980s – the 1980s was based on companies making, and hopefully reinvesting, income. This was based on people growing their balance sheets and spending more money because they felt richer). Now as the head of Treasury, Yellen will be responsible for developing and implementing Biden’s tax policy (at least whatever ends up getting approved). It would be a complete about face for her to go from espousing the benefits to the economy of people feeling rich, to putting together policy to take those riches, therefore reversing the economic benefits of said Wealth Effect.
  1. Lastly, we have already been given a glimpse of Biden’s thought process on taxes. Earlier in the year he released proposed tax changes as part of his candidacy platform. One specific item was getting tough on 1031 exchanges. You may remember there was initial alarm from the real estate special interest groups, but that outcry quickly dissipated. Once they read through the proposal, they realized it was big on rhetoric and short on impact. Basically, if a taxpayer made over $400,000 in a tax-year they were disqualified from 1031’ing proceeds from the sale of a property the following tax year. On the surface it seems like a benefit taken away from those high-income earners. But 1031s of any meaningful size, and certainly for the vast majority of investors that make over $400,000 per year (and 100% of our investors), happen at the entity level, not the individual taxpayer level. Depreciation also happens at the entity level; as does an amazing ability to line up expenses and income over the course of an ownership period. Said another way, very few real estate investments would create the level of income necessary to disallow the use of a tax deferred exchange upon sale. And for the rare cases that it would, ownership could easily be modified slightly to include a tenant-in-common structure thereby allocating profits across multiple entities and reducing each tax-payers income below the $400,000 threshold. There is no way that Biden or his advisors didn’t understand this in writing the proposal, so it must have been intentionally written in this manner.
  1. All the above doesn’t mean there won’t be special interest tax incentives added into other legislation. I don’t know what it will be yet; but based on the time period Biden was Vice President, we shouldn’t be surprised to see increased incentives for solar or wind investment. I also expect we will see incentives for electricity storage and transmission projects. Whether those incentives will be structured in such a way as to create opportunities for noninstitutional investors remains to be seen.

While we, in my opinion, are unlikely to see any meaningful increases to tax rates at the Federal level, I am not so sanguine about possible changes at the state level in several different states. Acknowledging the juxtaposition, the States likely to see increases to state income tax, property tax, or business tax rates are almost all the same states that voted for Biden/Harris and who I expect to push back on tax changes at the Federal level.

I hope you have a great New Years. As investors many of us are dealing with incredible returns in our portfolios. Many of us are also dealing with capital calls and difficult decisions in other parts of our portfolios. Can the stock market keep going? Will inflation kick in and lead bond prices to crater? Will tenants ever start paying rent again? 2021 is going to be an interesting year.

Happy Investing!

About the Author: Forrest Jinks is CEO of Altus Equity Group Inc and a licensed real estate broker. Forrest has decades of experience as principal in a variety of alternative investment segments including real estate (residential rehab, in-fill development, multi-family, office and retail), debt, and small business start-up (online marketing and site retail). He can be reached at fjinks@altusequity.com.


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