Long Term Tax Exemptions in a Post-Pandemic World

Sometimes, we have to look back to move forward.

COVID-19 and its impacts have created great uncertainty with respect to the future for the redevelopment of commercial real estate in New Jersey. For developers, predicting what the “new normal” will look like for certain real estate asset classes has become a challenge, making projects that require substantial time and upfront capital investment before producing tangible returns far less appealing.

For municipalities, working to balance budgets in the face of mounting business closures while attempting to spur investment in distressed properties to increase new ratables is a daunting task, particularly if underscored by a lack of affordable housing opportunities. Given these new challenges wrought by COVID-19, certain recent case law and a 2018 amendment to the New Jersey Long Term Tax Exemption Law, N.J.S.A. 40A:20-1 et seq. (the “LTTE”), should be examined more closely, despite not having been informed by the pandemic or its potential impacts.

Long Term Tax Exemption Law

Subject to certain parameters, the LTTE permits a municipality to enter into a financial agreement with an urban renewal entity that calls for the entity to make certain payments in lieu of real property taxes with respect to the improvements constructed on the property. Such payments are colloquially known as PILOTs (“payments in lieu of taxation”); the technical term under the LTTE is an “annual service charge.” In addition, the LTTE is to be read in conjunction with the Local Redevelopment Housing Law, N.J.S.A. 40A:12A-1 et seq. (the “LRHL”).

In essence, the LTTE is an inducement statute whose primary goal is to incentivize the redevelopment of underutilized properties that are so significantly challenged that, but for the financial agreement, the redevelopment of the property would not occur. It does so through the promise of a predictable schedule of payments made to the municipality by the urban renewal entity following substantial completion of the redevelopment project that are less (and sometimes far less) than the anticipated ad valorem taxes on the improvements had the project not been subject to a financial agreement.

Of note, prior to the amendment discussed below, the LTTE prohibited such tax exemptions from having a term of more than 35 years, as measured from the date on which the financial agreement is executed by the municipality and the urban renewal entity.

2018 Amendment to LTTE

In August 2018, Governor Murphy signed into law P.L. 2018, c. 97 (the “2018 Amendment”), which created the Economic Redevelopment and Growth Grant Bond Financing Act, but also updated, among other laws, the LTTE. In sum, the updates came via the following text amendments:

• “[F]or each project undertaken pursuant to a redevelopment agreement which allows the redeveloper to undertake two or more projects sequentially, the financial agreement may specify a duration of not more than 30 years from the completion of a project, or unit of the project if the project is undertaken in units, or not more than 50 years from the execution of the first financial agreement.”
• The tax exemption shall apply “in no event more than … 50 years from the date of the execution of the financial agreement, in the case of a phased project, or from the first financial agreement implementing a project under the redevelopment agreement, in the case of two or more projects.”
• “[W]henever proceeds of a bond are used to conduct environmental remediation, the term of any agreement securing that bond … may … be 35 years plus the anticipated duration of conducting environmental remediation; provided, however, that the term of any such agreement securing the bonds shall not exceed 30 years from substantial completion of the redevelopment project associated with the environmental remediation.”

Let us start with what the 2018 Amendment does not change, which is a cap of 30 years on the exemption period when measured from substantial completion. In practice, this typically means the PILOT payments that will replace ad valorem taxes on certain improvements can benefit the project for only up to 30 years from the issuance of a certificate of occupancy for such improvements.

Prior to the 2018 Amendment, however, the 35-year cap on the maximum term of the financial agreement placed a further restraint on any project or projects with multiple phases and significant challenges by way of, for example, environmental contamination, substantial infrastructure improvements, hurdles to obtaining all relevant regulatory approvals, or issues relating to the financing for all or a portion of the project. If the developer could not address all issues and complete construction within a five-year period, it would be forced to “eat” its own PILOT benefits by effectively reducing the 30-year term it had negotiated for in the first instance, thanks to the delay in completion.

The 2018 Amendment changes that by permitting a 50-year maximum period for multi-phased projects, effectively allowing up to a 20-year “build-out” period for the back phases of a project. In addition, it clarifies that if the project is undertaken in units, then the completion of a unit would trigger the maximum 30-year term with respect to PILOT payments only for that unit and will not impact the other units (i.e., phases) within the project. The 2018 Amendment also brought much-needed relief to environmentally constrained projects, allowing for a more flexible period of time based on the anticipated duration of the environmental remediation (provided a bond is issued that is secured by the PILOT payments and the Department of Community Affairs’ Local Finance Board approves the financial agreement).

This change adds an important tool to the tool belt of developers and municipalities that seek to work collaboratively to redevelop underutilized assets that require both long-term planning and a material upfront capital investment. By bringing predictability to a multi-phased project through a carefully negotiated “master” financial agreement, developers and municipalities should be better prepared to tackle the uncertainties of the post-pandemic real estate world, in turn bringing life and investment to distressed real estate in a variety of asset classes.

Affordable Housing Contributions Under Financial Agreements

In evaluating whether to utilize long-term tax abatements under the LTTE to incentivize the redevelopment of underutilized and distressed properties, the status of a municipality’s affordable housing stock often becomes a topic of intense discussion, particularly in light of any outstanding “fair share” obligations. If the project at issue is not an affordable or inclusionary residential development in which all or a substantial number of the units are restricted based on certain affordability requirements, questions may arise from the public and a municipality’s governing body as to the appropriateness of the financial agreement.

In MEPT Journal Square Urban Renewal v. City of Jersey City, 455 N.J. Super. 608 (App. Div. 2018), decided just over a week before Governor Murphy signed the 2018 Amendment into law, the Appellate Division provided clarity for municipalities by outlining a flexible approach for the funding of affordable housing trust funds through the use of contribution requirements pursuant to financial agreements.

The dispute in MEPT Journal arose out of redevelopment projects in Jersey City that were induced by financial agreements, each of which required the urban renewal entity to make an affordable housing contribution to the City’s affordable housing trust fund. The first installment of the affordable housing contribution in the amount of $710,769 was due up front and was considered a material condition of the financial agreement. The developer made the payment, but later sold the property before the project was built and did not assign the financial agreement. The developer then sought reimbursement of the contribution, claiming the LTTE did not permit the City to condition its granting of a tax abatement on the urban renewal entity contributing to an affordable housing trust fund.

The Appellate Division disagreed, holding that, while the LTTE did not directly address the issue, it was to be read in conjunction with the LRHL, which provided that a municipality “may, by ordinance, require, as a condition for granting a tax abatement, that the developer … contribute to an affordable housing trust fund established by the municipality. The requirement may be imposed upon developers of market rate residential or non-residential construction or both, at the discretion of the municipality.” MEPT Journal, 455 N.J. Super. at 627 (citing N.J.S.A. 40A:12A-4.1).

By reinforcing the ability of a municipality to condition a financial agreement on the payment of non-refundable affordable housing contributions, MEPT Journal ensures municipalities will enjoy greater flexibility in balancing their desire to incentivize the redevelopment of challenged properties through financial agreements under the LTTE with the need to provide quality affordable housing opportunities.

Future Changes to the LTTE?

It’s best to keep one’s head on a swivel when it comes to the LTTE these days. In 2016, the Third Circuit, in Associated Builders and Contractors Inc. New Jersey Chapter v. City of Jersey City, 836 F.3d 412 (3d Cir. 2016), found that the City was acting as a regulator, rather than as a market participant, when it required developers to enter into project labor agreements as a condition to tax abatements. This decision appears to have influenced several bills moving through the legislature that relate to labor issues, and one or more of them may affect financial agreements under the LTTE. In addition, financial transparency and the sharing of PILOT payments among governmental entities remain key issues.

Regardless of any future changes, the LTTE will continue to provide ample opportunities for developers and municipalities in New Jersey to bring distressed and underutilized properties to life despite the many challenges facing the real estate industry in this post-pandemic world.

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Reprinted with permission from the April 26, 2021 issue of the New Jersey Law Journal. © 2021 ALM Media Properties, LLC. Further duplication without permission is prohibited. All rights reserved. For information, contact 877-257-3382 or reprints@alm.com or visit www.almreprints.com.