AUSTIN—You can expect to hear a lot about the importance of 1031 like-kind exchanges when you arrive in Austin next month for CCIM THRIVE. Joe Cosenza, vice chairman of the Inland Real Estate Group, will be a featured speaker, so you can bet his passion for preserving the tax-deferral structure will come up.

We have spoken with Cosenza frequently on the topic, and he was no less outspoken when the issue came up again in the days leading up to CCIM THRIVE:

GlobeSt.com: Let’s take the issue step-by-step. Why is the current legislation trying to eliminate 1031s?

Joe Cosenza: The simple truth is that the federal government is looking for income in the way of taxes any way they can and the purpose is twofold: The government needs it, and they’re trying to afford lowering the tax on business.

GlobeSt.com: You’ve related this to the so-called tax reforms of 1986.  How?

Cosenza: If you look back to November of 1986, they changed the tax laws for individuals writing off deductions on real estate deals. The result was an enormous downturn in the economy. We saw the savings and loans all get crushed. And commercial real estate, I don’t care if it was shopping centers or apartments or industrial or office, all of it sank in value. It took until 1993 for us to recover. If you look at the amount of income they were able to get out of individuals because of the tax law change vs. the devastation to the economy, you have to ask what they were thinking. This is exactly my comment right now.

GlobeSt.com: So why is it really a significant threat to brokers and investors?

Cosenza: To brokers, it’s their livelihood. To investors, it’s the way to increase wealth and increase their holdings. Now that sounds like some rich guy talking, but the fact is that like-kind exchanges enable a business or an investor to defer a capital gain—not avoid it, not never pay it, not dodge it, but just defer it, as long as they reinvest that capital—and it has to be very quickly—into something like-kind. For example, you know that a US manufacturer can’t obtain a 1031 deferral if he moves his plants overseas. But if he reinvests domestically he can defer the gain on the sale of the first plant to the purchase of a second plant. But, in every single case, whether it’s a business or an individual or a REIT, in every instance they always buy something bigger.

The 1031 allows you to use all of the cash from the first sale for the purchase of the second property, not just some of the cash because you had to pay taxes on it. And that was the original premise back in 1921 when they enacted the like-kind exchange rules. They wanted to encourage reinvestment from people or businesses and help them avoid unfair taxation of ongoing property investments. In other words, back then, Congress wanted to make sure that you kept investing because it would grow the economy. 

GlobeSt.com: So when does it come time to pay the piper?

Cosenza: There were some studies on this. They showed that 40 to 60% of the taxes actually do in fact get paid during the course of the investment. Why? Because at some point you say it’s time. I’m out. I pay my taxes, I’ll take my cash and put it in the bank, or the REIT decides to disburse it as a dividend to the stockholders.

GlobeSt.com: But if they’re only paying a portion of the taxes, how does this grow the economy?

Cosenza: There was a study by EY earlier this year that said that, if the like-kind exchange rule was to cease, the GDP net would be down about $8 billion, investments would be down $7 billion and labor income would be down $1.4 billion.

GlobeSt.com: Down because…

Cosenza: Because whenever you don’t sell the first asset to buy the second asset a series of things happen. You don’t get the local transfer tax paid in either of those transactions; you don’t get estate transfer taxes paid in either of those transactions; the appraiser doesn’t get the first job or the second job; neither does the attorney or the title company; and the bank loses loans on two properties. We could add roofers, plumbers and carpenters. And each of those assets would have a higher value than when they were held by the first entity. Losing that increased value loses the increase in taxes, that hits the cities, and it hits the states and everybody’s school districts. A loss of the like-kind exchange touches everyone who touches real estate. And of course there are other 1031 investments outside of the real estate industry.

GlobeSt.com: So where does the ruling stand now?

Cosenza: A year ago, both Democrats and Republicans were very much in favor of this, and I would say there was an 80% chance the change would be in place. But there has been a huge group of people in favor of keeping 1031s; I’m not John the Baptist crying in the wilderness. The ICSC, the US Commerce Department (Inland, by the way, was instrumental in convincing them), IPA, NAREIT, NAR and the title companies and real estate companies.

Are all these groups in favor of 1031s just because they want to save their businesses? No. It’s more than that. They want to save the economy from the negative effect it will have on jobs in this country. So today I see maybe a 40% chance because we’ve educated so many congressmen and senators on exactly what like-kind exchange rules mean. A vote was to happen this summer or fall, but I believe it’s being deferred now until sometime early in 2016.

GlobeSt.com: As the wait continues, will it continue to lose steam?

Cosenza: God, I hope so.