By Frank Thomas
In recognition of Trump’s extremely complicated tax situation, James Stewart in a recent NY Times article asked him to just simply submit ten numbers – adjusted gross income and actual federal taxes paid over his last 5 year returns.
That seems a simple request for Trump to respect. But the legally allowed complex tax concessions given to real estate developers complicates making judgments about Trump’s moral business integrity and obligation to expose his returns.
If Trump’s consolidated actual tax payment numbers are very modest, if not nil, as I certainly expect they are relative to income flows, then Stewart’s numbers will inevitably encourage some sharp public criticism. But this doesn’t necessarily mean he has done anything wrong if he has used the tax concessions and provisions in a manner the law allows. After all, In addition to real estate developers, many wealthy people pay little or no tax.
But of course, the huge difference is that Trump is running for president. He, above all people, is morally bound to reveal forthwith summaries of his returns accompanied by simple explanations of how he – like most real estate developers – pays such modest income taxes. His hesitation to provide the key numbers and explanations may stem from the naked, public exposure of how special tax laws for an “elite business group” make real estate development so extremely attractive from a tax standpoint and in amassing asset wealth.
I ‘ll try to explain just how this is achieved subsequently. In late ’70s and early ’80s, I was a senior real estate investment specialist for a major insurance’s firm’s Equity Fund involving hundreds of millions of dollars for all-cash purchases of commercial real estate (mostly in partnership with reputable developers). I had responsibility for six states including New York during time Trump was just beginning to make a name for himself in the real estate development world with the spectacular Trump Tower.
In my acquisition work for the insurance firm, I witnessed how massive real estate values and sheltered profits could be built up over the years by astute developers like Trump. This is done with the help of highly qualified legal and accounting professionals who know how to maximally exploit the upper limit of the tax avoidance, deference, or mitigation provisions uniquely available for real estate developers.
For decades, commercial/residential real estate development has been a very attractive wealth accumulation business in good economic times and also subject to very rough times in economic downturns. The real estate development business has some big advantages thanks to a legal web of complex tax deduction/deferral provisions also giving developers flexibility to manipulate the timing and recognition of income. So it’s no surprise to me that Trump has exploited the following tax loopholes to the hilt. In his words, “I fight like hell to pay as little (tax) as possible.”
Following briefly describes two major tax provision loopholes routinely being used on a small to massive scale by real estate developers like Trump.
Limited Liability Companies
Trump has an ownership in over 240 LLCs which ‘pass on’ income tax-free and losses to their owners in a very beneficial way from a tax standpoint. An LLC can generate enormous losses on revenues in the multi-millions and even billions of dollars. This is due to substantial depreciation write-offs (the ridiculousness of a depreciation charge for buildings which generally do not lose value except perhaps over very long periods if not properly maintained), interest payments, operating costs, and real estate taxes. Trump, like all developers, can offset his personal taxable income such as employment income, dividends, royalties, interest by using losses from his 240 LLCs.
More common company structures like C-corporations are taxed twice: first on corporate income and second on dividends and/or other payments. LLCs are taxed once. As stated, they can generate substantial losses which are passed through to LLC owners (like Trump) to offset all or a major portion of their ordinary income.
The 1986 tax reform law banned these structures used as a means to sharply reduce tax payments for ordinary (‘passive’) investors. But (‘active’) professional real estate developers like Trump, thanks to aggressive industry lobbying tactics, were exempted from the 1986 reform restrictions of using LLC losses to offset ordinary income.
Of course, Trump and other developers finance their LLC asset purchases with maximum debt possible to benefit from the interest payments deductions. This plus the already mentioned non-cash depreciation write-offs, real estate taxes, operating costs (including Trump’s travel and living expenses) can create considerable ‘paper’ losses. If losses occur and exceed Trump’s income, they can be carried forward to offset future income. In the past, Trump has benefited greatly from this loss-carry-forward provision, for example, carrying forward the extensive losses in his casino operations.
Like-Kind Real Estate Exchanges
Another significant real estate tax avoidance or tax mitigation mechanism is the so-called ‘like-kind’ transactions. Real estate developers as well as wealthy taxpayers who are well-advised can legally use this vehicle to defer taxes when an asset is sold. It works this way: when and asset that has risen in value is sold and yields a big profit and the cash proceeds are used to purchase another similar property, the transaction may be deemed a ‘like-kind’ exchange. In this case, the gain on the sale is tax-free. In a few cases, it may be possible to make a ‘like-kind’ exchange without selling the property first … with no taxes assessed. This wealth building process can go on forever until someone dies.
Just these two special developer tax law benefits result in up to +-$100 billion in lost federal tax revenues yearly. So far, every attempt at a major reform of the tax system – including the two big tax provision loopholes noted herein so tenaciously exploited by Trump and other real estate developers – have failed miserably.
Accelerated depreciation and ‘like-kind’ exchanges are both elective. These two tax electives defer payment of tax way into the future, but do not eliminate it. Trump could have planned his business affairs so that he paid a reasonable amount of tax each year, as most corporate good citizens do. However, he would lose the time value of the tax deferral which would probably be substantial. (Note that from an accounting point of view, SEC reported income is not affected by tax strategies. Profit is currently reduced by tax payments deferred into the future). By foregoing these two tax elections, Trump would have made what could reasonably be called a sacrifice.
If and when Trump reveals Stewart’s 10 numbers related to his last 5-year returns, the public will hopefully get a closer look at the extraordinary tax avoidance, deferral, mitigation provisions magically in action in his plus $10 billion real estate asset empire – resulting, I expect, in Trump paying ludicrously, if not obscenely, modest taxes on his adjusted gross income.
I’m assuming Trump’s +240 LLCs have been correctly following the tax laws benefiting real estate developers. Maybe there are some audit problems here that are behind why no one has seen Trump’s summary returns yet? I doubt he’s embarrassed about how little tax he has likely been paying in both his domestic and foreign investment activities over past years.