Philly misses full bounty of Shops at Schmidts sale, as transfer-tax shortfalls persist

When developer Bart Blatstein sold his Shops at Schmidts retail complex in Northern Liberties, Philadelphia missed out on its full transfer-tax bounty from the deal — and that wasn’t the only such shortfall for the city recently.

Though affiliates of Blatstein’s Tower Investments Inc. reportedly earned $31.5 million from the sale to the Sterling Organization, a Palm Beach, Fla.-based real estate firm, the transfer tax on the transaction was calculated against the property’s much lower city-assessed value.

The disparity comes to light shortly before the July 1 implementation of new city rules aimed at closing loopholes used by buyers and sellers in commercial real estate transactions — legally, in most cases — to reduce or avoid the tax, which is levied whenever a property here changes hands.

The new rules were approved last year by City Council after the Inquirer reported how gaps in the law were depriving Philadelphia and Pennsylvania of millions of dollars in revenue.

Investors in Philadelphia have a strong incentive to engineer real estate transfer-tax relief for themselves: After a 0.1 percent increase on Jan. 1, the tax — including the state’s share — is now 4.1 percent, most likely the highest of any major U.S. city. Over the last 12 months, other big commercial transactions involving slimmed-down tax bills have included the sales of the offices in Two Liberty Place and of the Wanamaker Building.

A Transfer-Tax Shortfall

Over the last 12 months, at least three big commercial real estate transactions netted the city far less in transfer-tax revenue than might have been expected based on their purchase prices.

A perception that Blatstein might be shortchanging Philadelphia could prove awkward as he seeks to lease and then sell the former North Broad Street home of the Inquirer, Daily News, and Philly.com to the city as part of the Police Department’s $288 million move from its current headquarters.

Though Blatstein should not be specifically faulted for exploiting an available opportunity, “we should look carefully to ensure any party to a major deal with the city has played by the rules,” said City Councilwoman Helen Gym, one of the cosponsors of the legislation passed in December.

“Investors are motivated and incentivized to maximize profit, even when it’s potentially at the expense of the rest of society,” Gym said. “This is where government comes in.”

City spokesman Mike Dunn said that Philadelphia’s Revenue and Law Departments are aware of the Shops at Schmidts, Two Liberty Place and Wanamaker transactions, but that confidentiality laws prohibited comment on those cases.

Dunn did say that the city has stepped up enforcement of existing law, resulting in audits of more than 250 property transfers since July 1, 2016. It has collected more than $3.5 million through settlement agreements to resolve a number of those cases prior to litigation, he said.

Starting July 1 of this year, officials will have added to their enforcement arsenal the new rules, which seek to block what are seen as two main ways to reduce tax bills in property deals.

One change addresses misuse of the city’s so-called 89-11 statute, which holds that a transaction need not be recorded at the time of sale as long as an 89 percent-or-smaller stake in a property changes hands, with the seller holding on to the remaining stake of at least 11 percent for four years or more. Under the new rules, sellers will now have to retain a bigger share for a longer time, making the strategy less attractive for most investors.

Also targeted by the new rules is a strategy used when the asset sold isn’t a property itself, but a company that had been set up to own that property. This is common in big transactions, as large commercial owners routinely hold assets through subsidiary companies.

When a subsidiary company changes hands, buyer and seller can avoid filing a deed recording actual purchase price because the property itself is not what’s being sold. In the absence of documented sale prices, those employing this strategy calculate taxes against properties’ usually much lower assessed values.

The new rules oblige buyers and sellers of real estate-owning entities to base transfer taxes on the amount of money changing hands, despite no deed being recorded. (Even without the rule change, this method is being diminished by a recently started city initiative to reappraise commercial properties so their assessed values are closer to their actual worth.)

The Two Liberty Place and Wanamaker deals appear to have tapped versions of the two approaches addressed by the new city law.

In its sale last year of the Two Liberty tower’s 941,000 square feet of offices, Atlanta-based Cousins Properties Inc. reported earning $219 million in gross proceeds. That sale, to Los Angeles-based Coretrust Capital Partners LLC, would have yielded $8.76 million in city and state transfer taxes under the 4 percent rate then in effect.

A search of documents filed with the city, however, found payment of only $687,569 in three separate transactions involving the transfer of property-owning entities, a difference of more than $8 million.

Coretrust spokeswoman Barbara Casey said in an email that Cousins’ reported sale price was overstated because it left out “credits” that were part of the transaction, and that taxes on the deal — involving the acquisition of property-owning entities — were calculated by lawyers and tax advisers following legal guidelines.

“An $8 million-plus transfer tax … would be completely uneconomic,” Casey said. “Fortunately, the law did not require such a high tax because, if it did, Coretrust would not have pursued the acquisition and the city would have realized zero transfer-tax revenue.”

Meanwhile, Dallas-based TIER REIT’s sale of most of its stake in the Wanamaker Building to Rubenstein Partners of Philadelphia for $114 million would have generated $4.67 million under the 4.1 percent rate in effect since Jan. 1.

But a records search found payment of only $892,719 in taxes against portions of the property’s assessed value through the transfer of property-owning companies, a difference of $3.78 million. TIER’s description of the deal — as the sale of a “majority” of its interest in an entity that had owned the property — suggests that it also relied on the “89-11” method.

Scott McLaughlin, a TIER REIT senior vice president, and Rubenstein spokesman Tom Nolan declined to discuss the transaction.

Unlike the Two Liberty and Wanamaker transactions, which involved transfers of corporate ownership, the Dec. 30 sale of Blatstein’s 92,500-square-foot Shops at Schmidts retail complex at Second Street and Girard Avenue was recorded as a property sale.

No purchase price is recorded on the deed documenting the sale of the Acme Markets-anchored center, but the buyer, the Sterling Organization, said in a lawsuit against Blatstein that it had paid $31.5 million. The suit says Blatstein withheld rents paid by tenants even after he no longer owned the building, and that he sold the property without first providing tenant Petco with the number of parking spots guaranteed by its lease, among other claims.

Frank Keel, a spokesman for Blatstein’s Tower Investments, said the company does not comment on pending legislation.

The Shops at Schmidts’ $31.5 million sale price would have yielded $1.26 million under last year’s 4 percent transfer levy. Instead, $408,016 was paid against a $10.2 million figure derived from the property’s assessed value, a difference of $851,984.

Though the deed recording the transaction does not explain why the levy was calculated in this way, it does note in an attachment to the filing’s transfer tax-related documentation that the sale was between two Blatstein-controlled entities — each owning a separate parcel constituting the retail center property — and Sterling.

The implication may be that there is no single recordable purchase price for the retail complex, because its sale involved the transfer of two separate parcels. But whatever the rationale, the approach does not appear to be one that would be stymied by the new rules, assuming it goes unchallenged by city officials, because it is neither an “89-11” deal nor a transfer of corporate ownership.

Source: Philly.com