Original Article shared HERE.

Despite raising it as a possibility on the campaign trail, modifying or repealing the treatment of the tax benefits of like-kind exchanges has not been part of President Biden’s proposed tax reforms to pay for social services. That doesn’t mean that commercial real estate associations are standing pat, however. They have been actively advocating to preserve Section 1031 of the U.S. Internal Revenue Code, which defers capital gains taxes on property sales if the gains are reinvested in “like-kind” properties of equal or greater value.

Attention on the issue was first raised back in July when Biden outlined his proposed $775 billion “Caring Economy” Plan, which would provide funding for child and elderly care. The released 10-page proposal included eliminating the tax benefit for investors with incomes over $400,000 to help pay for the plan. More recently, with a potential $2 trillion infrastructure bill on the agenda, industry insiders are keeping a watch on like-kind exchanges as a potential funding mechanism for the bill.

For now, commercial real estate groups are signaling that their concerns are muted. As Suzanne Goldstein-Baker, who serves as co-chair of the Federation of Exchange Accommodators (FEA) Government Affairs Committee and is executive vice president/general counsel for Investment Property Exchange Services Inc., stresses, “There is no pending legislation to eliminate Section 1031 of the tax code or anything currently that poses a tangible threat.”

Changes to Section 1031 have not so far been mentioned as part of any specific tax reforms proposals by the administration. Moreover, it does not appear that tax reform is at the top of the Biden Administration’s priorities right now, says Alex Madden, vice president at Kay Properties & Investments, which provides online listings and access to 1031 eligible properties.

“Of course, there always is an intangible threat that it could get offered up as ‘pay for,’” Goldstein-Baker says.

For their part, industry groups are trying to stay ahead of the game. In fact, just two weeks ago, more than 30 industry organizations, including the Real Estate Roundtable, NAIOP, the Mortgage Bankers Association, the American Hotel & Lodging Association, Nareit and the National Apartment Association, among others, sent a letter to Secretary of the Treasury Janet L. Yellen outlining the benefits of the 1031 exchange transactions to the U.S. economy, including its potential to help the U.S. recover from the impact of the COVID-19 pandemic.

“Gains reinvested in new property through an exchange create a ladder of economic opportunity for small and minority-owned businesses and entrepreneurs, and generate much needed tax revenue for states and localities,” the letter states. “Also, like-kind exchanges increase the supply of affordable rental housing by filling gaps in housing supply not covered by other incentives.”

Whenever the like-kind exchange comes under scrutiny, which has happened multiple times over its 100-year history, its proponents are ever vigilant in educating members of Congress about the tax incentive’s benefits and importance to real markets and the economy, Goldstein-Baker notes. She says studies have shown that the 1031 exchange is a powerful economic stimulator that creates jobs and increases capital investment in property improvements.

Keeping a watchful eye

Despite these efforts, everyone in the industry involved in 1031 transactions is keeping a watchful eye out for possible reforms to this tax code since an income limit for eligibility was mentioned during the campaign, notes Madden.

Madden supports the notion that while many real estate investors benefit from the tax break, the ripple effect of 1031 exchange transactions, which represent 25 to 33 percent of all commercial and multifamily sales, can have a significant impact on local economies, as they involve a variety of ancillary services to process the transaction and renovate the property.

“Owners maintain, buyers renovate,” adds Baker, who notes that 1031 exchange transactions can create jobs and improve neighborhoods because they encourage capital investment. Madden also notes that improvements to replacement properties often trigger property reassessments that generate greater tax revenue for local governments than the property previously had provided.

Studies support these contentions, which might serve to discourage changes to the 1031 incentives.

A study entitled, “The Economic Impact of Repealing or Limiting Section 1031 LikeKind Exchanges in Real Estate,” published in 2015 by David C. Ling, professor of real estate at the University of Florida and Milena Petrova, associate professor of finance at Syracuse University, looked at the impact of like-kind exchanges on both the real estate market and tax revenue.

Their analysis, which included review of more than 1.6 million commercial real estate transactions that took place between 1997 and 2014, found the widespread use of Section 1031 improved liquidity and increased investment in the real estate market and building improvements. It also increased overall taxes paid to the Treasury—supporting the real estate industry’s thesis that the cost of Section 1031 is largely overstated and its benefits overlooked.

The study found that 88 percent of replacement properties are eventually disposed of in a taxable sale that generates approximately 19 percent more in taxable gains than non-exchange properties sold in conventional sales.

A 2015 Ernst & Young study, Economic Impact of Repealing Like-Kind Exchange Rules,” presented similar findings, but it also looked at the potential impact of a repeal on the U.S. economy. Ernst & Young’s findings suggested that elimination of this tax incentive would shrink the U.S. economy by up to $13.1 billion annually and reduce annual GDP by $8.1 billion, as a result of less investment, which was estimated to fall by $7.0 billion, and lower labor incomes, which would be reduced by about $1.4 billion.

Given these factors, many commercial real estate executives remain hopeful that the Biden Administration will avoid making changes to 1031 exchanges and will look for other funding sources to pay for expanded services and infrastructure improvements.

Article originally posted here.

Attorney Zach Allen had never in his 20 years of practicing real estate law seen the possibility of a pandemic or epidemic included in a standard real estate lease as an “act of God” similar to a war, hurricane or earthquake. Until the past year.

The pandemic has fundamentally transformed how most attorneys and their clients consider force majeure, a lease clause that limits the liability or obligations of tenants and landlords in the event of such catastrophes, Allen said. Those clauses had formerly been “one of those often-overlooked boilerplate provisions,” he added.

“Most landlords and tenants had little cause to invoke it except for maybe the occasional weather-related delay,” Allen, a member of the real estate practice group at the Oklahoma-based Crowe & Dunlevy law firm, told CoStar News. “I’ve looked at a lot of lease agreements for national retail tenants,” he said, and “I don’t think I’ve seen one that actually anticipated a pandemic. We’ve never encountered a situation like this.” 

A year after the pandemic wreaked havoc on businesses ranging from stores, restaurants and movie theaters, force majuere clauses have become the most discussed portions of any new commercial real estate lease. They’re also being modified or added to existing leases in anticipation of the next crisis or unexpected event. And major changes are underway to other general lease language on issues such as rent abatement and lease termination rights, according to real estate attorneys and brokers representing both sides of negotiations.

The change comes after the pandemic and government emergency orders forced businesses in shopping malls, restaurants and office buildings as well as other commercial properties to close or sharply limit occupancy. Many struggling tenants stopped paying rent or abandoned their space, causing high-profile fights between landlords and tenants. Some conflicts have escalated to lawsuits over who should bear financial responsibility for the disruption that has caused billions in lost sales and income and contributed to millions of lost jobs and a rising tide of business bankruptcies.

“We’re seeing language involving government-mandated shutdowns in virtually every new lease,” said Scott Burns, retail brokerage lead in Los Angeles and managing director for JLL.

Almost one-third of leases signed between April 1 and Dec. 31, 2020, in the United States specifically listed a pandemic as a force majeure event, compared with just 4% of leases signed prior to the crisis in 2018 and 2019, according to a survey of more than 300 recently signed leases conducted by business and legal research firm LexisNexis.

In total, more than 60% of leases signed from April through December mentioned the pandemic, other public health crises, coronavirus-driven emergency shutdowns or laws that could effectively make it illegal to fulfill the lease terms, the survey found.

“Force majeure clauses went from being somewhat boilerplate prior to the pandemic to being one of the more negotiated provisions in a lease negotiation,” Michelle McAteer, a real estate litigation attorney with Chicago-based Jenner & Block, told CoStar News. 

Negotiating force majeure provisions has taken on a new sense of urgency as attorneys and their clients track the progress of the first wave of lawsuits from tenants that seek to excuse or delay their lease obligations amid extreme financial hardship, McAteer’s Jenner & Block colleague on the litigation side, Abraham Salander, told CoStar. 

In the early weeks of the pandemic, tenants, owners and their attorneys rushed to review their leases and push for new terms that include references to pandemics and civil unrest, he said.

“We immediately started seeing feuds between landlords and tenants from day one of the pandemic,” Salander said. “My phone was ringing off the hook. Emails were blowing up from clients, other partners in the firm and outside lawyers were calling to discuss issues. Tenants said they couldn’t pay rent and didn’t have to, and landlords pushed back.”

That burst of activity “has now swelled into this wave of ongoing issues that my clients are facing,” Salander added. 

Burns said what stuck out to him was that, although leases weren’t much of a road map for navigating the crisis, most struggling retail landlords and tenants pulled together and worked out their own agreements on deferred or abated rent without needing to call in the lawyers.

“Landlords could see they were struggling and tried to become partners instead of playing hardball,” Burns said.

New Lease Terms

Force majuere clauses in property leases signed before 2020 typically defined fires, labor strikes, war or acts of terrorism, government prohibitions, natural disasters or other uncontrollable circumstances as being events that could free landlords or tenants from being liable for lease terms. Few of the clauses mentioned pandemics and almost all did not allow the abatement, extension or deferral of rent or other payments required by either party.

Now, attorneys have to grapple with whether a tenant can get rent full abated if a government order closes the doors to the business or whether they can get rent partially deferred if their capacity is reduced. For example, Crowe & Dunlevy’s Zack Allen negotiated changes to a lease between a hospital tenant and property owner that would require rent abatement if the owner receives forbearance from its lender in the event of a government-ordered lockdown of 10 or more consecutive days.

But many real estate attorneys are still trying to sort out exactly how force majeure clauses will change in coming months and years, said David Farren, an attorney with the Phoenix-based Jaburg Wilk law firm. The circumstances created by the pandemic have raised legal issues that are barely a year in the making and are difficult to analyze without the guidance of precedent-setting case law that hasn’t yet been established.

“Unfortunately, the courts have not had time to catch up to the COVID-19 pandemic,” Farren told CoStar News.

Many owners and tenants that haven’t yet added such lease provisions plan to do so, according to the survey of more than 300 recently signed commercial leases obtained from private sources by LexisNexis legal publication Practical Guidance Journal. 

More than half the respondents whose force majeure lease clauses did not already include mention of pandemic-related events reported that they planned to renegotiate their leases to include one or more of those events in their contracts.

Several cases working their way through U.S. federal and trial courts could define how judges interpret force majeure in light of a pandemic or government-ordered business closing. In addition to rent requirements in leases, the cases could help decide whether commercial insurers are obligated to cover business losses or buyers and sellers are required to complete property sales. Other cases could determine whether developers, contractors and lenders have to meet construction timetables on projects delayed or canceled by pandemic shutdowns.

Landlords have won some early victories on leases, with judges refusing to exempt tenants from paying rent based on their claims of force majeure and other legal arguments, according to Jenner & Block’s Salander.

Judges in several cases have denied tenants’ force majeure claims under leases and casualty provisions, generally concluding that the premises were physically intact and the tenants were able to operate their businesses in some form, Salander said.

For example, U.S. District Judge Robert Scola denied a motion by Kirkland Stores Inc. to dismiss a lawsuit filed in April by Palm Springs Mile Associates, owner of the Palm Springs Mile shopping center in Hialeah, Florida, after the home decor and furniture chain stopped paying rent as the effects of the pandemic disrupted its business. 

Kirkland argued that restrictions on its business operations constituted a force majeure event in the lease, according to the lawsuit. Scola rejected the motion in a September ruling, concluding that the tenant failed to explain “how the governmental regulations it describes as a force majeure event resulted in its inability to pay its rent.” 

Kirkland and Palm Springs Mile Associates did not response to requests to comment on the case.

Tony Natsis, an attorney with the Allen Matkins law firm in Los Angeles who represents landlords, has yet to see a case where a tenant successfully invoked force majeure or other common-law principles to forgo rent payments because of COVID-19.

“Exacting lease language that forgives a tenant from any rent is almost nonexistent,” Natsis said. “Most leases in the history of real estate say that if there’s a force majeure event, the tenant still has to keep paying rent.” 

He said that court cases until now have not given him or his landlord clients “anything to be afraid of.”

While losses to retailers can be measured in lost sales, the financial impacts of pandemic shutdowns aren’t as clear for office landlords and tenants, Burns said.

“In some cases, office landlords and tenants are in an even worse situation,” he said. “It wasn’t even the fact that governments mandated closures, it was the fact that companies including landlords didn’t want their people coming back to office buildings, or those people refused to come back.”

Bankruptcy Complications

Rulings in bankruptcy cases are also providing a glimpse into how judges view tenant arguments that force majeure provisions should allow them to withhold rent.

Movie theater chain Cinemex thought it had protection against any disaster in its standard commercial property lease. But what the lease didn’t include was protection against an unprecedented health crisis that has sent most of the world into quarantine for a year.
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Cinemex learned the hard way like most tenants in the United States that the force majeure clause doesn’t give it the right to avoid paying rent. The Miami-based parent of Mexico’s second-largest movie theater chain, Cinemex Holdings USA, filed for Chapter 11 bankruptcy protection last April and sought to pay reduced rent to landlord Cobb Theaters at the Lakeside Village Shopping Center in Lakeland, Florida for the time that it was required to operate at 50% capacity when Florida Gov. Ron DeSantis closed movie theaters as part of precautionary measures to control the virus.

U.S. Bankruptcy Judge Laurel Isicoff of the Southern District of Florida ruled in January that no rent was due for the time period covered by the full shutdown, based on the force majuere lease provision excusing performance when it was impossible due to “acts of God [or] governmental action.” 

However, Isicoff noted that the provision did not fully excuse Cinemex’s rent obligation. It merely extended the lease term for a period equal to the duration of the full shutdown orders. Cinemex Holdings ultimately renegotiated some leases and emerged from bankruptcy reorganization in November. 

Cinemex and Cobb Theaters did not reply to requests for comment.

The decision reinforced the importance of concise and accurate force majeure lease provisions, Quinto Martinez, a real estate attorney for Orlando, Florida-based Lowndes law firm who was not involved in the case, said in an email.

“It’s important to strategically negotiate the allocation of risk in a force majeure provision, but it’s equally as important to carefully craft the provisions to ensure that the lease language makes the intent of the parties clear,” Martinez said.

Many companies haven’t yet started to negotiate new leases with language providing more clarity on short-term rent deferrals because of the pandemic and other issues.

“It hasn’t crept into our lease negotiations” said Peter Mavoides, CEO of New Jersey-based Essential Properties Realty Trust Inc., a real estate investment trust that owns and manages single-tenant properties leased to retail and service-oriented companies.

Most of the 3% of uncollected rent due to Essential Properties is from five theaters leased to AMC, which has had to close hundreds of cinemas for months because of government mandates prohibiting public gatherings and it owes hundreds of millions in back rent, Mavoides said during a recent earnings call with analysts.

AMC did not respond to a request for a comment on the status of its leases with Essential Properties or other landlords. 

Mavoides declined to comment on how much rent the REIT is collecting from the embattled theater chain or whether the tenant cited force majeure. But the CEO said that he wouldn’t be surprised if more tenants start looking to share some of the risk of state-mandated shutdowns with landlords in future leases.

“Currently, the tenants bear those risks and are required to pay rent regardless of mandated shutdowns. That’s why we were able to structure rent deferral agreements as opposed to tenants just being able to say ‘force majeure’ and not pay rents,” Mavoides said.

Article originally posted HERE.

Retail is in turmoil and will continue to face challenges like the rise of e-commerce and the slow demise of many big box retailers. But brick and mortar isn’t dead. In fact, CRE professionals recently ranked retail the third most valuable asset, over office and hotel properties. 

So, what will save brick and mortar? Technology. 

Tech is completely revolutionizing the way we think about and use retail locations. New advancements in technology will create a bright future for retail properties and set the stage for the resurgence brick-and-mortar has been waiting for. Here’s what you can expect:

Sensors and behavior tracking

Retailers are already beginning to utilize motion tracking through wifi, infrared sensors and cameras in order to better understand in-store physical customer behavior and create a seamless purchase processes. 

This technology is already in play, most notably through Amazon Go’s seamless purchasing beta test. With Amazon Go, customers can simply walk into the grocery store, pick up their items, and walk out. Sensor technology automatically charges customers for the items they take out of the store. Amazon Go is currently stalled, but once this technology is perfected, customers will be able to walk in and out of retail stores with their merchandise without dealing with checkout lines.

But that’s not all retail will be able to achieve with sensors and behavior tracking. As cameras and sensors that track customer movements grow smarter, retailers will be able to optimize visual merchandising in their stores based on rich data. Customer patterns will inform the best placement for certain items, which will be beneficial for both consumers who are trying to find items, and stores that want to maximize sales.

Through this technology, some retailers may discover their current spaces are not actually optimized for their offerings. Adoption of in-store behavior tracking could lead to a surge in retailers moving from one location to another or redevelopment of existing storefronts to optimize them for customer behavior patterns.

Virtual reality

We typically think of virtual reality in the context of Oculus Rift headsets and video games, but it will have a major impact on retail as well. With VR, we’ll be able to have realistic experiences and interactions with products before purchasing them.

VR is becoming increasingly popular for leisure and even real estate transactions, but what about smaller-scale purchases? All signs point to a major impact from VR there, too. Soon, you’ll be able to use VR in retail locations to test out products like clothes, shoes, tools and appliances, without actually going into the dressing room or taking them home to use in real conditions.

Today, you have to make an educated guess about whether a couch will look good in your living room or whether those snow boots will hold up in a blizzard, but with VR, you’ll be able to actually see how products fit into your life and fulfill your needs before making a purchase decision.

Virtual reality will allow retailers to inhabit smaller storefronts because they won’t have to have all physical merchandise on location at any given time. A greater percentage of a given retail space will also be able to be devoted to the shopping experience rather than to stock rooms. In the next few years, your retail CRE buyers and tenants will likely bring these considerations into their purchasing process.

Natural language processing

Natural language processing is an artificial intelligence function that allows computers to understand our words, process them and complete an action as a result of requests or questions. In retail, NLP will allow customers to effectively interact and converse with computers to receive the same kind of assistance they might currently get from a sales associate.

This technology is an obvious choice for improved customer service in-store. As a customer, you’ll be able to talk to virtual store representatives via kiosks and mobile apps and receive high quality service without waiting around.

NLP will likely have a large impact on retail businesses themselves in terms of staffing and service offerings. And because it will reduce the number of staff needed on-site in retail properties, buyers and tenants will have more freedom to choose properties with smaller break rooms and employee parking areas.

Predictive analytics

Predictive analytics is another AI function in which a computer makes predictions based on past behavior or data. We already see predictive analytics in e-commerce, which recommends your next purchase based on your viewing or buying history, but until now, these predictions haven’t been available in store. Instead, we’ve relied on human recommendations from customer service representatives. But with customer service kiosks and apps equipped with this technology, you’ll be able to get targeted recommendations in-store. Add-ons and complementary product choices will be easier to find in stores because virtual customer service will do the work for you.

Inventory management will also be affected by predictive analytics. Stores will be able to better manage inventory and remained stocked with the right products at any given time thanks to this technology.

Retailers will need to optimize their brick and mortar locations to provide spots for customers to browse recommendations via smartphone or kiosk. Additionally, better inventory management will mean smaller stockrooms stocked with only the merchandise that will sell.

Predictive analytics will also be huge for brokers working with retail clients. Predictive analytics will make prospecting and location analysis easier for brokers when serving their clients, and retail clients will see the benefits of improved location selection.

3D printing

3D printing is on the rise, and could be a gamechanger for personalized retail. Custom products designed based on desired specifications with tools like Autodesk’s drafting and design software will soon be created on the spot for retail customer with 3D printing.

And for items that come in different sizes, like shoes, no one will ever be between sizes again. You’ll be able to get the exact size you need printed custom. Adidas is already testing a new method of mass-production 3D printing and plans to print 100,000 shoes by the end of 2018.

Retail locations will need to be large enough to accommodate 3D printers, and will likely need separate rooms to house them. However, these printers could take the space previously used for excess inventory.

Autonomous vehicles

Self-driving vehicles will be beneficial to both consumers and retailers.

Mobile warehouses, combined with predictive tech, will assist with merchandising and ensure that stores are properly merchandised at all times.

Customers’ ability to get around will drastically change the way they perceive store locations, and we all know location is the most important factor in real estate. But with self-driving cars, consumers will have a new interest in locations outside of urban hubs.

What should I do to prepare for retail technology?

Keep paying attention to how these new technologies are impacting purchasing decisions in CRE, and how the consumer demand is evolving. As technology becomes more optimized for the consumer experience, demand for retail locations will increase dramatically. Buyers and investors will be looking for spaces that are ready to integrate with and optimize the use of new technology, and the brokerages that can point them in the right direction will be the ones that succeed.

Story originally posted here.

By Kelsi Maree Borland | February 24, 2021 at 06:27 AM

Nearly a year into the pandemic, the CRE industry is showing mixed signs of the recovery. The SIOR Snapshot Report shows waning investor confidence alongside strong transaction volume.

Overall investor confidence fell in the third quarter after two consecutive quarters of improvement. In the fourth quarter, confidence fell to 6.2 out of 10, the lowest level since the second quarter of 2020, when investor confidence was 6.3 out of 10. Industrial had the highest level of investor confidence at 6.9 out of 10, while office has the lowest investor confidence at 4.7 out of 10.

Although investor confidence fell in the fourth quarter, in schedule transactions increased from 42% in the third quarter to 67% in the fourth quarter. On hold transactions decreases, but cancelled transactions remained the same. Both office and industrial transactions showed an improvement. On-schedule office transactions increased at 52% from 38% in the third quarter, but cancelled transactions increased at 20% from 17% in the third quarter. On schedule industrial increased significantly from a rate of 51% in the third quarter to 74%. Plus, cancelled transactions decreased from 12% to 9%.

With improving transaction volume, sellers continue to have the upper hand at the deal table. In the survey, 49% of overall SIORs said that site acquisition prices are increasing rapidly or at a steady pace. Only 21% reported lower prices and a buyer’s market. Still, buyers have a better opportunity to negotiate than the pre-pandemic market. In 2019, only 6% of survey respondents said this is a buyer’s market. However, responses vary based on asset class. Industrial transactions favor sellers, with 63% of respondents reporting a seller’s market. In office, the number falls to 21% saying that the market favors sellers.

The transaction activity could be linked to improved leasing activity. Of the participants in the SIOR survey, 51% reported minimal leasing activity, an improvement from 59% in the third quarter. Consistent with transaction volume, industrial leasing activity was strong. With little to no vacancy in many markets, only 34% of SIOR respondents in the survey said that leasing activity was lower in the fourth quarter; however, 88% of respondents made the same claim about office leasing.

Several sentiment reports have rolled out recently reflecting wildly different market conditions. The RCLCO Current Real Estate Market Sentiment Index has increased 22.4 points over the past six months, with respondents predicting that conditions will improve “significantly” over the next 12 months. In California, the Allen Matkins/ UCLA Anderson Forecast biannual commercial real estate survey offered an optimistic outlook for multifamily and industrial product, but a pessimistic outlook for retail and office product over the next three years.