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December 1, 2017

TAX REFORM
Senate Poised to Pass Milestone Tax Reform Bill; Bicameral Conference Next Week Aims to Resolve Legislative Differences With Goal of Enactment Before Christmas

MONETARY POLICY
Federal Reserve Chair Yellen Testifies About the National Debt's Dangerous Trajectory as Fed Chairman Nominee Powell Offers Assurance of Policy Continuity in Confirmation Hearing

REAL ESTATE & U.S. ECONOMIC OUTLOOK
Q4 2017 Sentiment Index: Commercial Real Estate Executives Maintain Cautious Optimism for Economic Growth Despite U.S. Tax Policy


TAX REFORM

Senate Poised to Pass Milestone Tax Reform Bill; Bicameral Conference Next Week Aims to Resolve Legislative Differences With Goal of Enactment Before Christmas   

As of Friday afternoon, the U.S. Senate is poised to pass its most far-reaching tax reform legislation since the 1980s, setting up a final round of negotiations with House Leaders next week and a possible signing ceremony before Christmas. 

Capitol Twiliight

The U.S. Senate is poised to pass its most far-reaching tax reform legislation since the 1980s, setting up a final round of negotiations with House Leaders next week and a possible signing ceremony before Christmas.

Throughout this week, Senate Republican Leaders worked feverishly to lock down the fifty votes needed to pass their comprehensive tax reform bill.  On Monday, as many as six Republican votes were in doubt — Senators Susan Collins (ME), Bob Corker (TN), Steve Daines (MT), Jeff Flake (AZ), Ron Johnson (WI), and John McCain (AZ).

Today, Senate Majority Leader Mitch McConnel (R-KY) told reporters after a closed-door caucus meeting, “We have the votes.”  (The Hill, Dec. 1)

The Senate legislation would continue to tax commercial real estate on an economic basis in key areas; similar to the House bill.  Business interest allocable to a real property trade or business would remain deductible.  Taxpayers could continue to defer gain when exchanging real estate for property of a like kind.  Structures would continue to be depreciated, rather than immediately expensed.

Momentum for the Senate bill grew as the week progressed with potential Republican hold-out votes announcing one by one that they were inclined to support the legislation.  Perhaps most importantly for the real estate industry, Republican Leaders accommodated demands from Senators Daines and Johnson to add greater relief for businesses operating in pass-through form.

Pass-through businesses represent 60 percent of total business income and are responsible for over 60 percent of net job growth over the last 25 years. 

The House bill includes a significant rate reduction for pass-through businesses.  The tax rate on pass-through business income earned by passive investors would fall from 39.6 to 25 percent.  Active business owners, including real estate professionals, could also qualify for a reduced rate, but under more restrictive rules.

Jeff DeBoer RER Fall Mtg blue x225

“Reducing the tax burden on pass-through businesses is an opportunity to spur entrepreneurship and give a real lift to America’s true job creators — the partnerships, family businesses, and others who drive economic activity here at home, including commercial real estate. This effort should not be relegated to the back pages, an afterthought in the race to reduce the corporate tax rate,” Roundtable President and CEO DeBoer said.  

Initially, the Senate bill would have provided a much smaller benefit for pass-through businesses.  As debate continued on Friday, Senators were preparing to expand the pass-through relief in the bill.  The revised legislation would create a pass-through deduction that could result in the equivalent of a 29.6 percent tax rate on pass-through business income.  However. key details, including a rule reducing the benefit for businesses that do not have large employee payrolls, could limit the value of the provision for real estate businesses.

The Real Estate Roundtable and its Tax Policy Advisory Committee (TPAC) have worked closely with the tax-writing committees and interested Members of Congress on the details of the new pass-through tax regime to ensure that it promotes capital formation, investment, and entrepreneurial risk-taking.  Many of the concepts put forward in a September TPAC pass-through reform white paper are reflected in the House bill.   As the two bills go to “conference” to be reconciled, The Roundtable will be working actively to achieve a result that spurs real estate investment and job creation.

On Monday, GlobeSt.com published an interview with Roundtable President and CEO Jeffrey DeBoer and Roundtable Senior Vice President and Counsel Ryan McCormick on why pass-through businesses have become a central issue in the tax reform debate, how the two bills propose to deal with them, and what The Roundtable would like to see in the final legislation.

DeBoer emphasized the need for fair tax treatment of pass-throughs to GlobeSt. “Reducing the tax burden on pass-through businesses is an opportunity to spur entrepreneurship and give a real lift to America’s true job creators — the partnerships, family businesses, and others who drive economic activity here at home, including commercial real estate. This effort should not be relegated to the back pages, an afterthought in the race to reduce the corporate tax rate,” DeBoer said.

On Friday afternoon, the Senate rejected, on party lines, a motion by Senator Tammy Baldwin (D-WI) to recommit the bill to the Finance Committee to further address the carried interest issue.  The underlying bill includes a provision extending the carried interest capital gains holding period to three years. 

TPAC meeting 2013

 The Roundtable and its Tax Policy Advisory Committee (TPAC) plan to analyze key provisions in the Senate bill as it heads toward a conference with the House next week.

The Senate’s far-reaching tax reform bill would touch many other areas of importance to the real estate industry.  It would fully repeal the deductibility of state and local taxes, which could severely harm local communities and demand for commercial real estate in many parts of the country. 

While the Senate bill would preserve the $1 million mortgage interest deduction, it would end the deductibility of future home equity loans, and fewer people will use the mortgage deduction because of the increase in the standard deduction.  The bill partially repeals the rehabilitation credit and, by reducing the corporate rate, devalues the low-income housing credit. 

Lastly, the bill includes a new proposal to disallow the current netting of losses from an active trade or business against wages or portfolio   income.  The provision, which would apply to existing investment, could have potential unintended consequences for real estate markets and property values that won’t be fully understood or appreciated until after its enactment.  The Roundtable is seeking modifications that would rationalize the proposed policy. 

As Capitol Hill steamrolls toward major tax reform legislation, funding for the government is set to run out next Friday, Dec. 8.  It is expected that policymakers in the House will pass a two-week Continuing Resolution next week to fund the government through Friday, Dec. 22.

The Roundtable and its TPAC plan to analyze key provisions in the Senate bill as it heads toward a conference with the House next week.  We will also work with lawmakers and staff in anticipation of a final tax reform bill that strengthens the American economy, jobs and future investment.

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MONETARY POLICY

Federal Reserve Chair Yellen Testifies About the National Debt's Dangerous Trajectory as Fed Chairman Nominee Powell Offers Assurance of Policy Continuity in Confirmation Hearing  

Federal Reserve Chair Janet Yellen warned about the size and growth of the U.S. national debt on Wednesday during what was likely her final testimony as Fed Chair before Congress. The day before, Fed Governor Jerome Powell testified during his confirmation hearing to become the new Fed Chair, pledging to continue the central bank's current approach to monetary policy. (New York Times, Nov. 28)

 Yellen-final-testimony x225 

Federal Reserve Chair Janet Yellen warned about the size and growth of the U.S. national debt on Wednesday during what was likely her final testimony as Fed Chair before Congress.
(Video of hearing).

During her testimony before the Joint Economic Committee, Yellen said, "I am very worried about the sustainability of the U.S. debt trajectory. (The Congressional Budget Office's) long-term budget projections; it's the type of thing that should keep people awake at night.  It shows a picture in which, as our population ages, expenditures on Medicare, Medicaid, and Social Security grow more rapidly than tax revenues, and the debt-to-GDP ratio moves up." She added, "This should be a very significant concern." 

Under former President Barack Obama, the national debt nearly doubled to 19.84 trillion dollars. The debt is now approaching 20.6 trillion dollars, after President Trump signed legislation in September suspending the debt ceiling until early 2018.  (The Washington Examiner, Nov. 29) 

Yellen has announced she will resign from the Fed once President Trump's nominee is approved. When she departs early next year, Trump will have an opportunity to fill four of seven seats on the Fed's board. (CQ, Nov. 2) 

In his testimony before the Senate Banking Committee, Powell supported the Fed's current approach to monetary policy. "If confirmed, I would strive, along with my colleagues, to support the economy's continued progress toward full recovery. Our aim is to sustain a strong jobs market with inflation moving gradually up toward our target. We expect interest rates to rise somewhat further and the size of our balance sheet to gradually shrink," Powell said. 

Powell Fall2012 RER Mtg x225

Fed Governor Powell was a guest speaker during a 2012 Roundtable meeting, where he discussed market conditions and policy issues affecting CRE capital and credit markets. ( Roundtable Weekly , Oct. 5, 2012)

On Wednesday, the Commerce Department reported the economic growth at 3.3 percent in the third quarter. Yesterday, the Fed's "Beige Book" on economic conditions reported that employment growth increased and price pressures strengthened since the previous report in October. 

With this background, Powell added during his testimony that, "The case for raising interest rates at our next meeting is coming together."  The Federal Reserve's Open Market Committee is scheduled to meet on Dec. 12-13. 

Fed Governor Powell was a guest speaker during a 2012 Real Estate Roundtable meeting, where he discussed market conditions and policy issues affecting CRE capital and credit markets with Roundtable members. (Roundtable Weekly, Oct. 5, 2012) 

Before President Barack Obama appointed Powell to the Fed in 2012, he served as a managing director at Carlyle Group.  He who would become the first non-economist in several decades to lead the central bank. 

Previously, Mr. Powell also served as an Assistant Secretary and as Undersecretary of the Treasury under President George H.W. Bush, with responsibility for policy on financial institutions, the Treasury debt market and related areas. Prior to joining the Administration, he worked as a lawyer and investment banker in New York City. 

During Powell's confirmation hearing, Sen. Dean Heller (R-NV) asked him, "You're about to become the most important economic policymaker in the world. How do you feel about that?" Mr. Powell responded, "I feel fine."  (New York Times, Nov. 28)

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REAL ESTATE & U.S. ECONOMIC OUTLOOK

Q4 2017 Sentiment Index: Commercial Real Estate Executives Maintain Cautious Optimism for Economic Growth Despite U.S. Tax Policy Uncertainty  

The Real Estate Roundtable's Q4 Economic Sentiment Index released yesterday shows commercial real estate executives expect market fundamentals will hold strong throughout the year, despite tax policy uncertainty in Washington..

 Q4 2017 x225w Sentiment Index chart

The Roundtable's Q4 Economic Sentiment Index  released yesterday shows commercial real estate executives expect market fundamentals will hold strong throughout the year, despite tax policy uncertainty in Washington.

"As our Q4 Index shows, 2017 was a positive and productive year for our industry. Asset values are high, and debt and equity capital remain widely available," said Roundtable President and CEO Jeffrey DeBoer. "Respondents to our Q4 survey say they are in a 'wait-and-see' mode in terms of how tax policy may affect their market outlook beyond this quarter," DeBoer added.

The Roundtable's Q4 2017 Sentiment Index registered at 53 - a three point increase from the last quarter. [The Overall Index is scored on a scale of 1 to 100 by averaging Current and Future Indices; any score over 50 is viewed as positive.] This quarter's Current Conditions Index of 53 increased two points from the previous quarter. This quarter's Future Conditions Index of 52, increased by four points from the previous quarter. 

The report's Topline Findings include: 

  • Despite the fact that fundamentals continue to hold strong, the commercial real estate industry appears to have entered a period of caution driven by concerns regarding cycle timing. 
  • Most do not expect current real estate market conditions to change materially in the near-term. That said, the industry is closely watching proposed tax reforms and reserving predictions for the coming year until greater clarity is achieved. 
  • High quality assets in core, urban locations continue to be aggressively priced. However, many still suggest that there are good deals to be found. More broadly, real estate pricing is still seen as attractive relative to other asset classes. 
  • Many respondents cite difficulty sourcing new equity commitments from limited partners. While this has always been perceived as a challenging undertaking, the market's wariness of cycle timing is exacerbating the difficulty.

Thirty-nine percent of survey participants report Q4 asset prices today are "somewhat higher" compared to this time last year, suggesting primary markets are holding strong with the broad availability of debt and equity in the market. However, with 54% of respondents said they expect values to be "about the same" one year from now, pricing may remain steady throughout the course of the next year.

Data for the Q4 report was gathered in October by Chicago-based FPL Associates on The Roundtable's behalf. 

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For questions about Roundtable Weekly, please contact The Roundtable's Scott Sherwood at rweekly@rer.org or (202) 639-8400.

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