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Soaring Retail Rents Keep Vacancies High, So Prices Should Come Down – Right? Maybe Not

Rheaa Rao
09.14.2016 | Commercial Observer
In a feature article on retail vacancies in Manhattan, tax partner Daniel Shapiro examines one alternative to not filling a space with a tenant.

The alternative to not having a tenant is taking a loss on federal taxes. This is a perverse incentive but one that reduces the tax burden for the landlord. This will not make an immediate difference, but if the landlord has a tenant in the space the next year, it only has to pay taxes for the difference between the net income and the loss, according to Daniel Shapiro, the co-chair of the tax department at Berdon. But if the landlord has another profitable property that has rent-paying tenants, he can offset the loss from the income and pay tax on the difference, which is a benefit.

It’s not ideal. “A wise colleague told me that until effective income tax rates reach 100 percent, a dollar of income is worth more than a dollar of deduction,” Shapiro said. But it becomes a lot more optimal if a landlord knows that the market is going up.

Suppose a landlord owns a property that costs $10,000 a year to maintain and he can charge $12,000 in rent. But let’s say he knows that he can charge $20,000 in two years; he might not want to be locked into a 10-year lease this year and thus not get that higher rent later.

So in one scenario, he might decide to take the loss for the first few years-all the while knowing he’ll start to make the money back by say the third or fourth year of a lease. This only makes sense, however, if the landlord knows that the rents are going to rise. There’s no benefit to taking the tax loss if the rents are going to stay flat.

But sometimes spaces stay vacant because retailers are changing their footprints. Some are shrinking their square footage because of online sales; others are doing the opposite to cater to customers used to the suburban mall sprawl. In these cases, it might be taking a while for landlords to get creative and catch up.

To view the full article, click here.