Value-add investors compete for “old 421a” buildings

When Witnick Real Estate Partners bought two Clinton Hill apartment buildings this month, it paid about $456 per square foot — a price reflecting that the rental properties’ tax break was about to run out.

The seller, Madison Realty Capital, had bought 97 Grand Avenue and 96 Steuben Street after foreclosing on Chaim Miller, who in 2013 had paid $26 million for the pair. A decade’s worth of gentrification later, Witnick paid only $27.5 million.

The buildings’ various owners had paid next to nothing in property taxes since tenants arrived in 2012. But the 15-year exemption is now in the midst of a four-year phase-out. In February, the tax bill quintupled, records show.

Madison declined to comment on losing the exemption, which is Witnick’s problem now. But the situation also presents an opportunity for the buyer.

The building’s 62 units, rent-stabilized under 421a, will become free-market when the tax break ends, offering the chance for an immediate revenue boost that Witnick could build on by renovating. Witnick did not return a request for comment.

Alpha Realty’s Lev Mavashev, who brokered the sale of 97 Grand, said he has worked on a lot of such 421a deals recently. He pointed to 525 Union Avenue in Williamsburg, which was built in 2008 and received a 15-year exemption, just like 97 Grand.

In that version of the program, colloquially called “old 421a,” taxes for the first 11 years are based on the site’s assessed value prior to construction. The annual bill is generally negligible.

Starting in the 12th year, 20 percent of the exemption burns off annually. “Finally in year 16 you pay full property taxes,” said Daniel Bernstein, who heads law firm Rosenberg & Estis’ tax incentives department.

When Witnick picked up 525 Union Avenue in June 2023, the property tax bill was nearly $500,000. In 2019, the last year before the phase out, it was just $20,000.

“We’re usually selling them in the ramp-up period,” Mavashev said.

The motivation for buyers is that rent regulation ends when 421a benefits do, as long as the owners had notified tenants of that every year. For properties stabilized in 2008, such as 525 Union, the bump up to today’s near-record rents can be a huge revenue boost.

Mavashev said it’s often owners facing a deadline to refinance who put expiring 421a buildings on the market rather than wait for higher rents to kick in.

During the early years of a 421a exemption, borrowers can often take out a loan underwritten to reflect the lower tax bill. As an exemption nears its terminus, lenders are more likely to underwrite for the full tax bill.

“That’s going to require a higher cash infusion,” said broker Marco Lala, who heads a team at RM Friedland that is marketing 421a deals.

If a new loan requires a larger equity commitment, buyers can often negotiate to pay less per square foot than a free-market building in the same neighborhood might fetch.

Take Carlyle and Stonehenge’s purchase last April of 408 East 92nd Street, an Upper East Side rental tower. They paid $114 million, about $588 per square foot. By comparison, Manhattan multifamily traded for an average of $784 per square foot that quarter, according to an Avison Young report.

The East 92nd Street rental, built in 2004, had secured a 20-year tax exemption with an 8-year phase-out, property records show. That meant Carlyle would be paying full tax within a year.

“A core asset would really trade at 15 to 25 percent higher value,” Shimon Shkury of Ariel Property Advisors said.

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Shkury said it’s not just 421a buildings with sunsetting exemptions that are drawing interest. Properties that locked down the most recent version of 421a, Affordable New York, are also a hot product because the program lapsed in June 2022.

“Because there’s no 421a and there’s not a lot of buildings that are free market or close to it with a tax abatement, 421a and J-51, in some cases, are extremely desirable to many investors, ” he said. J-51 is a property tax exemption that subsidizes renovations.

“It’s across the board,” Shkury added.

Demand for these buildings will likely stay strong as long as Albany fails to replace 421a. Negotiations for a new incentive are complicated by a disagreement between the Real Estate Board of New York and construction unions over wage requirements, as well as an attempt to package the tax break with good cause eviction and other controversial housing measures.