When the Kushner Companies paid a record $1.8 billion for 666 Fifth Avenue a year ago, seller Tishman Speyer wasn’t the only one walking away with a fat check. The deal yielded more than $47 million for the City of New York in property transfer taxes — more than the city spends on snow removal each year.
Real estate sales amassed nearly $3.3 billion for the city’s coffers in the 12 months prior to July 2007. Between property transfer taxes and mortgage recording taxes, the collection accounts for 5.6 percent of the city’s total $59 billion budget.
But Mayor Bloomberg has already warned that the “the number of big real estate transactions has come to a screeching halt,” a conclusion that jibes with what many commercial brokers are saying. Brokers are projecting a record dollar volume of building sales this year — thanks almost wholly to activity at the beginning of the year, before the credit crunch hit during the summer, slowing the number of transactions, most dramatically with big-trophy building sales. But 2008 is a different story, according to experts. So with a tighter credit market and smaller volume of sales expected next year, the questions remains: Is the city prepared for the revenue from big-ticket transactions to dry up?
“The large commercial real estate sales that have generated half of our real property-related transaction taxes in recent years have largely disappeared,” Mark Page, budget director, wrote in an Oct. 30 memo. The memo, which also cited slower national growth and leaner Wall Street profits, ordered agencies to freeze hiring and plan for expense cuts of 2.5 percent in 2008 and 5 percent in 2009.
Despite pending deals like Citigroup’s rumored $1.6 billion sale of 388-390 Greenwich Street, which could mean a $42 million windfall for the city, forecasters remain cautious.
Even before the onset of the credit crunch, in June, budget officials, who have historically made conservative estimates, were predicting a combined 20 percent drop in revenue from the real property transfer tax and the mortgage recording tax. Five months later, in November, they lowered their estimate another $240 million for the fiscal year ending in June 2008. If the drop is realized, it would mark a 27 percent decline in real estate revenue taxes from the year before and would be the first decrease in revenue from the two taxes since 2001.
The taxes collected on mortgages and property sales have more than tripled since 2003.
The gush of tax money helped put Bloomberg’s budgets in the black even as spending grew from $44 billion in 2003 to $59 billion in 2007. A tiny fraction of property sales in the upper stratosphere of the market drove the growth, including last year’s blockbuster $5.4 billion sale of Stuyvesant Town and Peter Cooper Village.
Deals priced over $100 million made up less than 0.2 percent of sales in the last six months of 2006, but brought in more than 42 percent of the taxes the city collects when commercial property changes hands, according to the Independent Budget Office, the city’s fiscal watchdog.
Many are expecting the volume of transactions to fall off in 2008 , but how steep the drop will be is the looming question mark.
Richard Baxter, executive vice president at Cushman & Wakefield, says he estimates total volume for 2007 will be around $50 billion, a record amount, up from $35 billion in 2006. Baxter perhaps over optimistically predicts that deals next year will drop but remain within 10 to 15 percent of the 2007 level.
“Most professionals in New York expect a very slow quarter in the first quarter, credit markets to stabilize, and then busy second and third quarters,” he told The Real Deal.
Even with tighter credit, Baxter says he expects big deals that bring the city huge sums in transaction taxes to be brokered. Corporate headquarters, long-term family holdings and properties bought for five- to seven-year investments that have reached the end of their investment lives will still change hands, he says.
The real property transfer tax takes a 2.625 percent cut of every commercial transaction above $500,000, with a portion of that dedicated for transit costs. (The state gets an additional 0.4 percent.) Residential deals and sales below $500,000 are taxed at lower rates. The mortgage recording tax takes an additional 2.8 percent between the city and the state on commercial loans over $500,000, with lower rates for smaller deals and home mortgages. Stricter lending standards and higher interest rates could hit the mortgage tax particularly hard, as fewer loans are made and owners become less likely to refinance.
Despite the city’s recent hiring freeze and grim predictions for revenue slowdowns, budget experts say the lost transaction revenue alone shouldn’t cripple the city’s finances because the Bloomberg administration didn’t plan on the booming market lasting forever.
“Last year all those deals that happened generated a lot of extra revenue for the city that the city wasn’t anticipating,” says Maria Doulis, a research associate at the nonprofit Citizens Budget Commission, a nonpartisan policy group.
MetLife’s sale of Stuyvesant Town and Peter Cooper Village to Tishman Speyer, for example, brought in more than $131 million for the city — enough to cover what the city spends each year to police public housing. Budget forecasters don’t count on such mega deals in their revenue predictions. “There aren’t that many Stuyvesant Towns that are going to be sold,” says George Sweeting, deputy director of the Independent Budget Office. “No one could do anything about modeling a Stuyvesant Town.”
The latest forecasts predict a total budget gap of $2.7 billion next year that could grow to $6.4 billion by 2011. Mortgage and property transfer taxes are partly responsible. The two revenue streams are projected to decline from $3.3 billion in 2007 to around $2.4 billion next year, and hover just above $2 billion in the years following, according to city numbers provided by the Citizens Budget Commission.
Even with fewer transactions, the city’s revenue from the two taxes isn’t likely to fall under $1 billion to the levels of early in the decade, experts say. That’s because the tax rates on both residential and commercial deals increase when the sale price or mortgage is above $500,000. When prices reach that level — a threshold that has been in place since the 1980s — the entire value is taxed at a higher rate, not just the portion over the threshold.
That means that as home values move above the half-million mark, the city benefits not just from taxing bigger transactions, but from taxing them at a higher rate. Barring a collapse in housing prices, that added revenue is an increase the city can count on. “An awful lot of the [housing] stock has now moved above that,” says the IBO’s Sweeting. “It’s bracket creep that has now moved in permanently.”