For many senior housing owners and investors, the tax reform package passed by Republican members of Congress on Wednesday represents a tax break. The bill’s impact on skilled nursing operators and investors, however, remains less than clear.
For instance, non-profit developers of continuing care retirement communities (CCRCs) received mixed holiday blessings: The compromise tax bill saving a key funding source but eliminating another. LeadingAge and other players in the non-profit long-term care space rallied to protect two key sources of funding for CCRC owners and developers: private activity bonds (PABs), which provide tax-exempt financing for non-profits, and advanced refunding, which allows holders of PABs to refinance once during the first 10 years of the bond issuance.
In the compromise version of the tax bill that reconciled the House and Senate’s different visions of reform, tax-exempt PABs will remain, though advance refunding will be phased out after New Year’s Eve. The retention of the PABs marks a major relief for the industry; LeadingAge director of residential communities Steve Maag predicted that their disappearance would increase the cost of capital for non-profit entities by at least a third and bring overall CCRC development to a halt.
But the death of advance refunding remains a source of concern.
“It is dismaying to have a useful tool, used by many of our non-profit CCRCs for refinancing and lowering their costs of capital, eliminated,” Maag told Senior Housing News on Monday.
LeadingAge president Katie Smith Sloan had harsh words for the plan ahead of its passage Wednesday.
“This tax legislation, H.R. 1, is ill-conceived. LeadingAge is concerned about the impact it will have on the federal budget and the availability of resources for Medicaid, Medicare, senior housing, and other public programs serving older adults,” Sloan said in a statement sent to SHN.
“Nevertheless, we are pleased that the medical expense deduction – of great importance to older adults – and tax-exempt private activity bonds, which are crucial to nonprofit providers who serve older adults, were preserved in the final language of the legislation,” Sloan said.
The American Health Care Association focused on the positives, praising Congress for retaining both tax-exempt PABs and the medical-expense deduction, which also faced the chopping block in the original House version of the plan.
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Under that tax break, Americans who spend more than 10% of their total income on health care can deduct those expenses; because seniors tend to have fixed incomes and significant health issues, the elimination of this deduction would have had a disproportionate effect on skilled nursing residents and other older patients. Instead, the compromise plan would see the threshold drop to 7.5% for 2017 and 2018, before rising again to 10% thereafter.
“We appreciate the maintenance of the medical deductibility and private activity bond provisions in the tax bill conference,” AHCA president and CEO Mark Parkinson said in a statement to SHN. “The ability to deduct medical expenses is critical for residents and families who pay for long-term care out of pocket. Private activity bonds are an important source of financing for many of our members and with the growing need for senior health solutions and housing.”
REIT investors get a break
For many senior housing owners and investors, the bill represents a tax break.
Under the former tax code, people paying the highest individual tax rate faced a 39.6% net rate for real estate investment trust (REIT) dividends, Mark Van Deusen, principal in the Washington National Tax Group at Deloitte Tax LLP, told Senior Housing News. These individuals also have also been taxed at that 39.6% rate for any income earned from real estate held through business partnerships.
Going forward, these same people will be taxed at a maximum rate of 29.6% on REIT dividends and income from real estate held through partnerships. This is due to a new deduction that applies to REIT dividends and income from pass-through businesses.
The fact that dividends are still being treated in the same way as real estate income earned through partnerships is “the most important aspect” of the tax bill for REITs, Van Deusen said. The REIT industry was pleased to see that both the House and Senate versions of the bill maintained this status quo, protecting the basis of the REIT business model.
“The rationale for REITs is to allow for retail investors to participate in real estate in a flow-through basis in the same manner that institutional and high-net-worth investors invest through partnerships,” he noted.
Another provision of the revamped tax code will put new limitations on companies’ ability to deduct interest, capping it at 30% of adjusted taxable income. The theory is that this will reduce incentives to capitalize with debt rather than equity, Van Deusen said.
However, there is some uncertainty whether senior housing REITs will be subject to that 30% cap. That cap does not apply to any “real property trade or business.” In the Senate Finance Committee report and the conference committee report on the bill, “lodging” was specifically referenced as fitting this category of a real property trade or business, but senior housing was not specifically referenced.
Tax advisors are analyzing whether senior living could also fall under this category, and explicit guidance on the treatment of senior housing would be helpful, Van Deusen said.
Overall, other than the effect of the lower tax rates, most companies in the real estate business should not see any large changes due to the bill, in his view. Similarly, Byron Carlock, U.S. real estate leader with PricewaterhouseCoopers, sees no “really large drawbacks” for REITs in the tax reform package, and he notes that the real estate exceptions for interest deductibility limits are helpful.
Is Medicare next?
For skilled nursing operators, the most pressing effects of the bill may not come from the legislation itself, which GOP leaders have set for a Tuesday vote. It could come in the aftermath as the deep tax cuts prompt lawmakers to find savings elsewhere.
The Republican tax plan will add $1.5 trillion to the federal deficit through 2027, according to a report from the non-partisan Congressional Budget Office. Under a 2010-era law that requires federal spending cuts if new legislation adds to the deficit, Medicare could see a $25 billion slash in spending next year — or 4% of its overall budget — the San Francisco Chronicle noted.
While the Chronicle points out that Republican leaders Sen. Mitch McConnell of Kentucky and Speaker of the House Paul Ryan have pledged to avert such a scenario, they have not yet explained how they would avoid the cuts.