421-a Tax Abatements: Precautions for the Buyer

Are those monthly or yearly numbers?

monthly!

Why would you buy an apartment that you can't afford to pay the tax on? The abatement goes into the developer's pocket, all you do is wind up paying a higher price to compensate for the abatement. Compare similar apartments without the abatement, & I'm sure you'll see that they're much less expensive.

So buy this apartment and you pay the tax twice: once in a higher purchase price (which you'll be stuck with forever) and again when you start paying the tax. And properties with the abatement go up in value slower, as the abatement phases out over 10 years.

stevejhx, could you go into more detail on your statement, "The abatement goes into the developer's pocket, all you do is wind up paying a higher price to compensate for the abatement."

I'm not sure I follow.

Certainly, that's the way it works on all abatements and tax credits and everything.

You don't look for an apartment based on its sale price, do you? You look based on the full monthly cost versus how much monthly income you bring home. A bank doesn't give you a mortgage based on the price of the apartment. They give you a mortgage based on how much they think you can afford a month - usually total housing expenses of 28% of total income.

So, here you have an apartment that is giving you a temporary discount of say $1,200 per month. That's the equivalent of a 30-year mortgage at 6.5% in the whopping sum of $190,000. That means that the value in the first year of that abatement is the same as what a $190,000 mortgage is going to cost.

Let say you have two identical apartments, one with a tax abatement and one without. Since they're identical, they should cost the same amount. But the one without the tax abatement will have to cost $190,000 LESS in order for the monthly carrying costs for both of those apartment to be the same.

The developer with the abatement is in direct competition with the developer without. If the developer without the abatement can charge, say, $1 million for the apartment, the developer with the abatement can charge $1,190,000 for the exact same apartment, and it will cost you, the buyer, the exact same amount of money...

...in the first year. But it goes up in 10% increments every year for 9 years, yet people tend to forget that. So if you buy an apartment with a 421-A abatement, you're effectively paying a premium - in this example, $190,000 - for the apartment, in extra principal. You're stuck with that extra principal - now in the form of a higher mortgage payment because of the higher principal - for the entire time you're there. But the abatement runs out, so you pay the abatement twice: once in the form of the higher mortgage payments - which, being leveraged, would not only cost you the extra principal of $190,000, but $242,344.50 in interest over 30 years - and again when you start paying the full amount of the tax after 10 years.

Unless you think that a developer with a 421-A tax abatement will sell you an apartment for less than a developer - or any seller - without one, but if that were so, they wouldn't tout the abatement as such a deal for YOU, would they?

Read the article in my thread "Parallels with 1988," the last property boom in NYC caused by a phase-out of most 421-A abatements in the city. For that and a number of other reasons, property prices plummeted after the phase-out. (They always do after artificial incentives are removed.)

pw2000,

Think of it this way: homes in Westchester NY have much higher property taxes than comparable ones in Fairfield CT. (This is true for reasons not relevant here.) But, when a homebuyer is looking at Rye vs Greenwich, the equivalent house in Greenwich is much more expensive than the house in Rye, because the all-in carrying costs, after factoring in the property tax differences, are roughly the same. Thus, while the CT buyer is paying much more for the house than in Rye, he has much lower property taxes to offset the larger purchase price.

You can discount the value of the abatement as it phases in, to get an idea on what it is really worth. But Steve is right, the developer sees the $$$$ and his only cost for the abatement is pretty minimal.

And if you're taking an ARM out to "afford" this property, and you can't afford the maximum reset of the ARM, then you could really be in for a shock. Let's say you take out an $800,000 7/1 ARM at 6%, with a cap of +5%. Your maximum interest rate, then, is 11%. A 6% $800,000 mortgage will cost you $4796.40 per year. At 11% it will cost you $7,618.59. In the 7th year you'll be paying 70% of your property tax (at a assessed higher value, presumably) so it will cost you $840 a month, not $50. So in 7 years your total monthly expenses can go up to as much as $8,458.59, versus the $4,846.40 you had planned on. That's a 75% increase in monthly expenditures (excluding common charges, also often subsidized in the early years).

"I can refinance," you say. Maybe, maybe not. If your personal conditions change, or the market changes, or the law changes, maybe not. No one can force anyone to refinance your loan.

Not that this will necessarily happen, but it might. It is happening elsewhere, and it's starting to happen here. You should know what products you're taking out, and how they might behave.

Yes, TheFed, the math is more complicated than that, but the extra complications dealing with this much money over this much time don't really have that much of an effect. I just tried to make it easy to understand.

Thanks much for all your comments.

I had initially been led to believe that the property taxes (without the abatement) would be $560/month, which I could comfortably afford. But adding close to another thousand on top of that makes me a bit more uncomfortable--especially if the abatement does not go through.

Two Questions:
1. Does $1100/month seem really high for a 2BR in Harlem (130s)? (I know people with 2BRs in midtown who don't pay such high taxes.)
2. Is there anything I can do to make sure that the developer has properly applied for the abatement and that things are reasonably on track with it?

One other thing to consider:
If you fall into the AMT when you file your taxes, real estate taxes are not deductible. Likewise, the intrest on the extra mortgage you might pay IS tax deductible up to $1million even if you are in AMT.
Thus, for an individual buyer, the tax abatement may provide a signigicant after tax savings compared to apt without abatement.

Yes, PW, those taxes seem to me to be extraordinarily high. I have a 2 br/2bth in prime Chelsea with annual taxes around 7K per annum. One important determinant of tax liability of the people who buy in this building will be the willingness of the condo board (through the managing agent) to request annual tax abatements from the city.

street_easy, I don't know what you mean. An apartment with a tax abatement does not pay property tax, therefore there is no deduction on your income tax. An apartment without an abatement - already cheaper without the abatement - does pay property tax, and therefore can lead to an income-tax deduction.

That seems to be the opposite of what you're saying.

Interest IS deductible up to a $1 million loan, subject to sufficient income to deduct the interest from.

pw2000, how property taxes are calculated in NYC is byzantine. It is nicely explained here:

www.baruch.cuny.edu/spa/images/pdf/George_Sweeting.pdf

Basically, houses are taxed at the lowest rate, as a percentage of assessed value. Large condo buildings (more than 10 units) are taxed as rental buildings, and at a higher rate than equivalent co-ops. Also, older buildings have lower taxes because there is an annual assessment cap of 5%. Prewar buildings are taxed at a lower rate than postwar buildings. Since the city must make a certain amount in property taxes in income, the burden is shifted toward newer condos. That is why your taxes are so high.

I have no idea whether the developer is entitled to the abatement. You'll have to check with the city.

stevejhx, I think you misunderstood. If one falls into AMT then having the tax abatement is much more important to them than paying a lower mortgage b/c they won't be able to deduct real estate tax but they will be able to deduct mortgage interest.

I think that the 421-a is for 20-25 yrs not 10yrs; the J-51 is for 10 yrs. I purchased in Harlem recently and the condos with abatements and those without, from what I saw, cost approx. the same....it serves as an incentive for buyers. So, in Harlem you will find comparable units with and without abatements at approx. the same price point which affords you the opportunity to save a lot of money.

stevejhx,

Thanks much for the Baruch link. But I'm still a bit confused by a formula that seems like it should be simple. As a class 2 property selling for $700k, wouldn't my property's assessed value be somewhere around $700k? (That is, isn't it worth the purchase price?)

If that's true, however, the property tax would be $37,800 per year (see calc below) or $3150 per month. There's no way that can be true, can it? What am I missing?

37800 = 700,000 x 0.45 x 12%
assumes assessment value is 45% of market value and that annual property tax rate is 12%

Thanks for the quick remedial tutoring.

dg156, that's nonsense, you don't know what you're talking about.

Go here: http://www.urbandigs.com/2006/03/what_is_a_421a.html

where is says:

"Its important to note that tax abatements are applied for by the developer and granted by the city to offer incentives to developers for building and marketing a new property. Usually, a 10-Year Tax Abatement is granted meaning that the actual property taxes that were assessed to the building and its individual units will get relief for the first 10 years of occupancy. The tax relief is the greatest right when the building is ready for occupancy and then increases every 2 years (20% every 2 years) until the 10 years is up, and at which time the property taxes will have hit their maturity."

Note the VERY FIRST SENTENCE: "Its important to note that tax abatements are applied for by the developer and granted by the city to offer incentives to developers for building and marketing a new property."

OFFERS INCENTIVES TO DEVELOPERS. That is what is says, isn't it?

It is NOT an incentive for buyers - its clearly stated purpose was to subsidize the development of housing. Don't charge property taxes, and developers can make a bigger profit.

Then, the length of the abatement varies, but it is usually 10 years. The difference between the J-51 and 421-a abatement is:

"If the building was rehabilitated or converted from another use, the abatement is known as a J-51 tax abatement. If it is newly constructed, the abatement is known as a 421-a tax abatement."

That is from the NYC Rent Guidelines Board. http://www.housingnyc.com/html/resources/faq/421a-J51.html

From NYC Finance:

"The Section 421a Program is administered by the NYC Department of Housing Preservation and Development (HPD) to promote multi-family residential construction by providing a declining exemption on the new value that is created by the improvement. The 421a benefits vary depending on location in the City, whether construction is carried out with substantial government assistance, and whether requirements for affordable housing have been met."

http://www.nyc.gov/html/dof/html/property/property_tax_reduc_421_a.shtml

Why do you think it is designed to "promote construction," according to the city. Because the incentive is for builders to make a profit.

When the government subsidizes something, the cost goes up. It subsidizes the production of ethanol, the price of corn skyrockets because everybody's buying corn to take advantage of the subsidy.

Econ 103 - Public Finance. Read about externalities: http://en.wikipedia.org/wiki/Externalities

"in Harlem you will find comparable units with and without abatements at approx. the same price point which affords you the opportunity to save a lot of money."

Really? I'm a developer and an identical building across the street sells an identical apartment for $500,000 with hypothetical carrying costs of, say, $1,000 per month. I have a property tax abatement, meaning the monthly carrying costs on my building using the same mortgage would be $800 without the abatement, amounting to, say, mortgage principal of $50,000.

Do you think I am really going to give that subsidy to the buyer, when I can raise my price - maybe not to $500,000, but to $498,000, so that my property is marginally cheaper than the one across the street, it sells faster and I keep the $48,000 difference between the net present value of the cash flow generated by the abatement?

Please!

You don't know the difference between a 421-a and J-51 is, you don't know how long or why they're granted, and you don't know the effects of a subsidy. Other than that, you're spot on.

Typical for this website.

Unfortunately, pw2000, it's not that simple because co-ops and condos are assessed not at their market value, but at the value of their imputed rent: that is, what the apartment would rent for on the free market, and then again by the target assessment ratio. It's byzantine.

The "effective tax rate" for large condo buildings was 0.709% in that report. That would make the annual taxes on a $700,000 apartment $4,963 per year, or $415.58 per month.

But don't take my word that that's what your bill will be. It varies widely for sometimes unknown reasons. NYC Finance has more information on it.

stevejhx - I didn't read all of the crap you wrote but apparently you have emotional issues and too much time on your hands - so I doubt that you're a developer. But anyway, keep in mind that Harlem is a neighborhood that is gentrifying....it's still got a lot of room to grow so abatements in Harlem are in fact incentives for buyers to move into this developing area....and yes it is obviously an incentive for developers. I can tell you for a fact that there are similar units, with and without abatments, that cost about the same.....you probably don't know that because you haven't done any business in Harlem. Also, new developments in the Upper Manhattan Empowerment Zone that qualify for the 421-a generally shoot for the 25yr abatement.

And Developer Dude, take it easy....it's not that serious.

dg156, I stand by what I said. We weren't discussing the Upper Manhattan Empowerment Zone per se, that I recall.

stevejhx- Don't forget that the unit that had the abatement will not keep re-sale pace with the one that doesn't. The carrying costs for the unit will be higher or the same, however remember that the abated unit was purchased at a much higher price. Once the abatement expires that building will see a dramatic decrease in the asking prices because the carrying cost will make the unit less desirable to buyers.

I call this the abatment trap. Some of these units will have 1500-2000 a month in CC when the abatemnt expires. This is all so the developers can charge more for their units. That it. I doesn't benefit the buyer at all. You are just paying up front by paying an $200,000. This would be a good deal if this was a lifetime abatement but it's not and it will expire. And when it comes time to sell the unit will have to be listed based on the total CC's which will deter buyers from high CC's

Steve, your calculation on abatements is not using the best scenario - earlier you said that by the 7th year you are paying 70%.

Most of the 421-A's are 0% for the first 10 years and then the 11th - 15th years increase until they reach 100%.

So, most of the time you have 10 solid years of essentially paying the same tax.

Dco,
it may be true to some but not always. Abatement condos are generally priced less than the non-abated condos. Like Steve mentioned, the gov't gives the developers to build in a crap (little exaggerated) neighborhood, in return they get a tax break for the buyer. This attracts more buyers at a offering price. If Condo A and B (identical condos) both cost $800,000 but Condo A has 421a abatement, 100% will take condoA over B until all sold. I have not seen a sponsor charging a premium $ for tax abated condo in the past 5 years.

Dco,
to further educate you, abatement trap means for the individual buyer. Let's say, a buyer can only afford $5,000/month including Mortg+CC+tax (with 421a). This qualifies them for a mortgage from a lender...little do they know, their income remains the same and the tax starts to creep up. Once the abatement is up, they can no longer pay the monthly expenses with their salary.

lobo,
Generally, 421A abatement has 20% increase every 2 years. This amount is close to null due to 20% of nothing (50-100/month)equates to nothing. So in a way, you are correct by saying 10year tax abated.
You may have a different condo where it's locked at 0% for 10 then creep up til 15th. I've seen 20yr abatement condos as well.

ba294, I am not saying that variations do not exist. I was just stating that Steve was not using the best case scenario (or even close). I have seen many cases where a tax abated apartment sells for the same price as a similar unit near by. On top of that, many tax abatements are either 0% increase for the first 10 years or they are 20 or 25 year abatements.

So, to actually answer the original question: PW2000 should look at what the proposed abatement is (as should be clearly stated in the OP) and then he/she can make an informed decision on the purchse based on similar aprtments near by, whether the costs are affordable after expiration -- and if you have a 10 year abatement with 0% increases for 10 years and plan to sell fter 7 years; then you should certainly go ahead with a 7year ARM and you will pass along 3 years of 0% plus another 5 of increases to the next.

...I agree with your previous post, I have not seen developers asking for a premium for abted apartments. The incentive for people to buy is enough to keep the develoeprs happy.

pw2000, your very scenario is one I worry about. I heard however that if the building doesn't get the abatement in time, resulting in you paying the full RE tax, that once the abatement kicks in, you could get some kind of credit. Does anyone know if this is or is not true?

ba294, each individual abatement is different. The majority are for 10 years, according to official information.

lobo: "I have not seen developers asking for a premium for abted apartments." The economics of it can play itself out in many ways. One particular developer, for instance, might decide to price his apartments at the same price as ones without an abatement, to sell it faster. Voilà, the developer gets the benefit by selling his unit faster: reduced mortgage costs, reduced carrying costs, reduced inventory leading to higher sales prices for subsequent units, increased income to move on to his next project.

The developer always gets the benefit regardless of how it plays itself out: it's a construction incentive, after all.

It's true that developers are likely to benefit, but that doesn't mean that they necessarily extract all of the benefit. If the developer prices the unit low to sell faster, and makes out reasonably well by virtue of the abatement, the purchaser is still saving money relative to an unabated apartment, often to the tune of tens or even hundreds of thousands of dollars over the course of the abatement.

jordyn, exactly how much the developer gets out of it depends on market conditions. If markets are tight, the developer will get more out of it; if markets are weak, the buyer does.

ba294-- I think people make things much more complicated then they are. NOTHING in this world is free. No matter how you slice it the developer always comes out ahead. Prices at abated condos are always higher because the total monthly nut (loan+CC) will appeare to be in line with the neighborhood comps. The developer gets more for the units. I have not seen where a tax abated development is selling for less than the neighborhood comps when all is calculated.

Also by "trap" I mean that most peopole do not understand the above explaination. What's even worse is people's own real estate agents don't even explain this to them. The only thing they like to point out is that the CC's are just XYZ and don't tell them that they are actually paying for the abatement with a larger loan to buy the inflated cost of the unit. Also when you go to sell the unit it will not have appreciated at the same rate because the asking price will consider the CC's. The buyer will look and see the abatement no longer exists and the CC are $1500/month more on top of the price of the condo. This will result in the condo being de-valued for the seller.

dco,
you've got it completely wrong. Tax abated developments are generally cheaper than the others, and this is a FACT. Let's take the West side for instance, many developments including Chatam, 505, ClintonWest, etc are all priced $100-200/sq lower than any avg condos. WHY? this is because, ALL tax abated (10year) condos are built in a non-desirable neighborhood to promote and mix/match census. Who gains from this tax abatement? Both the developer and the buyer, but like steve said, if the market is tight and more buyers are looking into these condos due to less monthly cost, it'll drive the price up.

You seem to get it all wrong by thinking there is a premium in tax abated condos. The reason why these abated condos are actually priced less is because they are built in non-desirable neighborhood.
To make all these statements simple and easy for you understand, here is an analogy
Condo A = 800,000 (new and 800sq) Condo B = 800,000 (new and 800sq) same neighborhood. CondoA has 421A abatement. Now which one would you choose? After 10 years, when one decides to sell, does it mean Condo A is de-valued compare to B when they are under the same tax bracket? This is SIMPLE STUFF

Dco,
Nothing in this world is free? well certain things are. To give you one example, Our gov't gives us nice incentives to put our money towards our retirement. Bush's tax-return rebate this year is another one. Another excellent example is tax abated condos. Well, I agree nothing is 100% free and comes with a downside. In tax abated case, you get lower RE tax but in return gotta deal with the hoodlums and few crackheads until the area fully develops.

Does anyone know if it is typical for developers not to get the 421-a abatement they are applying for? Given no other factors, what are the odds that any building in Harlem (central 130s) would or would not be approved for the abatement?

ba294, "ALL tax abated (10year) condos are built in a non-desirable neighborhood to promote and mix/match census." is the biggest load of cr*p I've ever heard of.

While it is true that 421-a's have (recently) been eliminated from most wealthy areas, 99 Jane, Morton Square, Ariel West, Chelsea House, Chelsea Stratus are ALL abated, and I could go on.

Please do your research.

ba294, "ALL tax abated (10year) condos are built in a non-desirable neighborhood to promote and mix/match census." is the biggest load of cr*p I've ever heard of.

While it is true that 421-a's have (recently) been eliminated from most wealthy areas, 99 Jane, Morton Square, Ariel West, Chelsea House, Chelsea Stratus are ALL abated, and I could go on.

Please do your research.

ba294, "ALL tax abated (10year) condos are built in a non-desirable neighborhood to promote and mix/match census." is the biggest load of cr*p I've ever heard of.

While it is true that 421-a's have (recently) been eliminated from most wealthy areas, 99 Jane, Morton Square, Ariel West, Chelsea House, Chelsea Stratus are ALL abated, and I could go on.

Please do your research.

ba294, "ALL tax abated (10year) condos are built in a non-desirable neighborhood to promote and mix/match census." is the biggest load of cr*p I've ever heard of.

While it is true that 421-a's have (recently) been eliminated from most wealthy areas, 99 Jane, Morton Square, Ariel West, Chelsea House, Chelsea Stratus are ALL abated, and I could go on.

Please do your research.

Steve,
Those are abated at 2 years not 10years. These abatements are to push developments and stimulate economy, not like the others.

And If you consider Chelsea stratus as a trendy neighborhood, I'd look again.

pw2000,
In Harlem, you (Sponsor I should say)don't have any problem getting tax abatement. If you are looking to buy in Harlem, why should you choose a condo without an abatement when it is priced lower or same per sq. If a sponsor is not applying for 421a, then it's because they are not eligible for that location.

Steve,
Thought Ariel was amonth the Trumps for 2 year abated but just reazlied W99th street. You just proved my point. If you consider stratus (spanish filled), W99th Ariel West (No different then harlem) as developed neighborhood, you must either be from Bedstuy or the Bronx.

ba294, they're 10-year abatements.

I live 4 blocks from Chelsea Stratus - not "Spanish filled," whatever that means. One of about 5 luxury high-rise residential buildings right across the street from another.

W 99th "No different from Harlem." I must be from Bedstuy or the Bronx...?

Wait, besides you don't know what you're talking about - YOU'RE A RACIST!

Begone!

ba294 - Where are you from? Your statements about Manhattan neighborhoods just prove the point that what you consider prime neighborhoods are built for little snobby uninformed idiots like you who have no clue: Wall Street, Battery Park, etc. West 99 is like Harlem?

W99 is no different then harlem as it sits on the border. I was trying to prove a point where 421a are allowed in these neighborhood. Sorry if I came about as being racist but I was just stating a fact of the neighborhood.

ba294 - you sound like a boiler room stock pusher. The end.

Just to be clear, there is a large 421a exclusion zone which covers most of Manhattan (with the exception of lower Manhattan below 14th Street on the East Side/Houston on the West Side and upper Manahttan above 96th Street) as well as parts of Williamsburg/Greenpoint. Developers could still qualify for an abatement by including 20%+ affordable housing, however.

So abatements were easier to get in some areas than others, but there are buildings with tax abatements in a variety of places. I'm sure the racist amongst us wouldn't want to live in a building with middle/low income people, though...

ba294- I have no idea what you are talking about. Are you telling me that if a condo in say LIC is listed a 1M with tax 15 yr abatement. That if the same unit didn't have the abatement that it would still sell for $1M. Not a chance. If that same unit lost its abatement that unit would probably be listed at about $200,000 less. So basically you pay for the abatement up front. The big winner is the developer. He gets to sell the unit for $200,000 more. So I don't see your argument.

I have not read this entire thread, I want to skip through the political battles that have taken over the board (as usual). To get back to what the original poster wanted to know, I don't know all the facts regarding the 421-a abatement, but I can give you my own personal experience. 2 years ago I bought a new construction in Harlem in the West 140's with a 421-A abatement- not terribly far from where the original poster is looking. I have a 1 bedroom, which is actually signficantly larger than the two bedrooms in my building, but the tax situation is pretty close in comparision. The abatement is for a 25 year period...and in Harlem the abatement is fairly common to run 15-25 years. In the case of our abatement the first 20 years the taxes are locked in at the same amount and from years 21-25 the taxes increase 20% per year until it reaches the full unabated amount. My taxes with the abatement is just $3.63/month (not a typo) without the abatement it was about $27/month. So obviously I think your situation sounds odd and way too expensive, but I also know the NYC Dept of Finance has many inconsistancies. I don't quite know the exact boundaries- but depending on where you are looking, I know that when they changed the program last year I think the exclusion zone took place around 135th St- I am sure you can find that info easily with a web search. At closing time, my building had a TCO, and my real estate taxes were paid through the bank that held my mortgage. For the first few months I was charged the un-abated amount. About 2 months after closing our building received our perm. CO and shortly thereafter my bank automatically refunded the excess funds they were holding in escrow after paying the bill from NYC Dept of Finance. The bank also automatically adjusted my future deductions for tax payment.

I would check out the amended 421-a zoning that was changed from last year to make sure your building qualifies. As long as it qualifies, I doubt there are many reasons why it wouldn't get approved- it's in the developers best interest, and you know they are not going to voluntarily leave money on the table. Sure the 421-a abatement requires a fee (that they will likely charge back to you at closing- check your prospectus) and a filing- but it's an additional marketing component for the developer. I am reasonably sure the prospectus will likely state something with respect to the sponsor having no liability should the building not be able to get the 421-a abatement.

This may not be the razor sharp answer you were seeking with precise facts regarding specifics of your situation, but it should provide reasonable guidance. I still have a hard time believing $1,100- 1,400/month for unabated taxes in a 2 bedroom in the 130's. I hope this helps.

dco,
you got it the other way around
If the market value of 1000sq condo is $1M, then the sponsor lists the 1000sq condo for $1M or sometimes less. This is why a lot of investors jump on the offering plan hoping to pocket some change.

Semerun,
Very informative! can't agree more.

Semerun,

Thanks much for your post. I find it very helpful and to the point.