COVID-19 FAQ: Real Estate & Construction

The COVID-19 pandemic is having a widespread impact on all aspects of the economy and everyday life. In the real estate and construction industries, many organizations are affected by the mass business closures of their tenants, who are themselves struggling to meet their financial obligations, and by stop work orders, which halt the progress of construction projects.

Here are some of the most frequently asked questions and resources to help real estate and construction companies in their immediate response and planning.

What should I do if a critical supplier defaults?

The impact of COVID-19 on the construction industry has been varied, with some jurisdictions having declared construction an essential service and others issuing stop work orders for periods of time. The industry has yet to feel the full effects of a disrupted global supply chain as some suppliers have been deemed essential and as construction companies with work underway may already have their materials in hand. Should the interruption to the economy continue, however, the industry is expecting to see supply chain-related delays. In addition to potentially lengthy factory closures, when manufacturers come back online, they are expecting to have a backlog of orders to fill, compounding the effects of an initial shutdown. Construction companies should begin:

  • Discussing contingencies with their current suppliers and exploring alternate suppliers.
  • Drawing up contingency plans for re-sequencing work and potentially supplementing labor in order to accelerate the work schedule once materials become available again.
  • Conferring with their advisors over whether they have contractual language that protects them from unforeseen impacts to their projects and business.
How can I keep my business running?

COVID-19 has interrupted business operations for many industries, including real estate and construction, but there are steps that organizations can take to address this.

Organizations must ensure they understand their cash runway, including cash, revenue and lines of credit to understand their needs. If there are existing incident response and business continuity plans, these can highlight critical measures to implement now. If they haven’t already done so, organizations should assess the specific risks that the pandemic poses to business continuity and identify a core response team to lead crisis management efforts. While a crisis management team should be formed, it will be a part of every executive’s job to continuously build intelligence, scenario pan and apply lessons learned to operations. Communicating consistently with internal and external stakeholders also helps the organization stay up to date about the response.

For landlords and property owners, clear and forthcoming communication with retail tenants and others hard-hit by the pandemic, who may have difficulty meeting their financial obligations—including rent payments—is paramount. Engage in ongoing discussions with tenants about alternatives, such as rent reductions until an agreed-upon date or using tenant improvement allowances in lieu of rent, being mindful of what they are able to afford.

Furthermore, when it comes to reintegration planning, prioritization of and staging for a slow return to work is essential, as safety measures will likely need to be in place to assuage any contagion concerns of tenants and their own clients and customers.

Internally, reviewing current workforce needs and capabilities can inform the organization’s options for transitioning temporarily to remote work by using cloud computing and collaboration platforms, where possible.

There are also options for economic relief through programs under the CARES Act stimulus and other government programs, but eligibility and compliance requirements need to be reviewed thoroughly.

Should we be thinking about re-tooling our business strategy to capture new business opportunities?

As professionals have moved to remote work and as consumers across industries are increasing their use of digital services—from delivery to telehealth—the real estate industry is confronted with the acceleration of a trend away from the use of physical spaces toward digital ones. While the immediate concerns are concentrated on rent relief and the resulting impact on cash flows, the new normal post-crisis may look very different. Many tenants are already reconsidering their long-term real estate needs as new habits and essentialism make priorities clearer. While each sector is affected differently, real estate companies will need to think creatively about value-add to appeal to lessees—from additional services or credits to innovative partnerships with tenants and the broader community, including governments. These efforts will be key in counteracting the flow away from the use of physical space, and may also aid in laying a foundation for companies to navigate and adapt to situations that arise in the future that have analogous effects to those of the COVID-19 pandemic.

What financial relief measures are available to my organization?

There is financial relief available for many organizations under various federal stimulus bills, although eligibility for some provisions is dependent on size and other factors, and many benefits are mutually exclusive or have other tax implications. Given the level of complexity in applying these provisions, it is critical organizations consult with tax professionals in order to maximize their savings.

The CARES Act includes a number of programs for employers that keep employees on payroll instead of laying them off. Keeping the employee population intact provides the additional benefits of not having to locate, screen and train new employees upon re-opening, which will accelerate the ability to restart operations.

The most publicized of these programs is the Paycheck Protection Program (PPP), which provides loans to certain employers through the Small Business Association. In addition to providing a very favorable two-year loan at 1% interest, there is an opportunity for the loan to be forgiven if the employer maintains its employee headcount and wage payments at pre-COVID-19 levels.

Eligibility for the PPP and its forgiveness requirements are dependent on many variables. These conditions need to be reviewed thoroughly to determine if an employer organization qualifies.

Employers who don’t take advantage of the PPP that either

  • fully or partially suspend operation during any calendar quarter in 2020 due to orders from an appropriate governmental authority limiting commerce, travel, or group meetings (for commercial, social, religious, or other purposes) due to COVID-19; or
  • experience a significant decline in gross receipts during the calendar quarter

are eligible for a 50% credit on qualifying wages paid to employees on March 13 through Dec. 31, 2020.

All employers are eligible to defer their social security tax liability due March 27 through Dec. 31, 2020.

Organizations should also check with state taxing authorities for relief and updates on how states are coordinating with the CARES Act, examine all liabilities to see how to mitigate any potential financial issues, engage lenders to confirm existing lines of credit, negotiate terms or seek forbearance on existing loans, or seek additional funds for relief in the near term.

How do forced closures affect our ability to collect rent payments?

Organizations should confer with their advisors and counsel when determining the effect of forced closures on their right to collect rent in the event a tenant defaults on payment. Such an evaluation will require a lease-by-lease review, as some leases may contain clauses that release tenants from liability should there be lack of access to the space, for example.

Tenants are likely to seek abatements or try to trigger force majeure clauses in their leases. However, it is possible for landlords and owners to also claim force majeure with respect to their debt obligations. Engaging legal counsel, on both sides of the table, is likely to facilitate smoother negotiations.

It’s a trying time for businesses and their people as they work to navigate public safety concerns while preserving their operations. Maintaining records and documenting non-physical damages may prove to be the determining factor in receiving relief from a business interruption claim down the road.

Meanwhile, instead of forecasting a single revenue figure, property managers should forecast a range of potential outcomes that can be used as a guide for contingency plans. Flexibility to respond to revenue fluctuations increases an organization’s resilience to disruption.

How can I prevent data loss while employees are working from home?

Many organizations have rapidly pivoted to allow their employees to work remotely, a necessary measure for business continuity and preserving employee health, but one which introduces potential cybersecurity issues that require urgent review. When IT professionals set up a business’ network, they install numerous controls that are designed to prevent data leakage and loss, but many popular remote working tools do not easily align with these controls. For example, companies may have options that allow the remote sharing of desktop files and remote USB connections. Moreover, employees who use their own devices for work instead of company-issued devices could unwittingly introduce malware to the network. This endangers the security of network data across the entire company, with particular concern regarding proprietary and sensitive information, especially data related to revenues, costs, cash flow and new business opportunities.

Increasing the number of entry points to a network raises serious issues for data protection and heightens the possibility of data loss. There has also been an increase in phishing attempts that could expose a network to ransomware, so employees should receive additional training for cybersecurity while working remotely. Not only could a company lose important data and be unable to retrieve it, but that data could be shared improperly outside the organization or breached by a malicious third party. This could also expose the business to violations of data privacy laws.

To prevent this, businesses should use cloud computing for all files and require employees to connect using a cloud VPN. This provides secure access to the organization’s network and shared files with all data encrypted. Two-factor authentication can further strengthen that security. There are also specific data loss prevention (DLP) solutions that give the network administrator control over the data that employees handle, so they can restrict what data can be transferred and who can receive data transfers. There are also advanced detection tools that use machine learning to identify such issues and prevent improper remote access. Overall, network access for remote workers should be protected by numerous robust controls and barriers and actively monitored for any issues in real time.

What can I do to avoid having to furlough or lay off employees?

Real estate and construction leaders should thoroughly evaluate all of the government assistance programs designed to reimburse employers for continuation of wage payments under the Paycheck Protection Program (PPP), Emergency Paid Sick Leave, Emergency Family Leave, Employee Retention Credits, 3601 Payments as well as employee payroll tax deferrals.

If the CARES Act does not provide the assistance necessary to maintain a company’s workforce, leadership teams will face difficult decisions. Unfortunately, many real estate companies are not eligible for relief under the PPP due to the “passive company” stipulation contained within the Act.

However, there may be some alternatives to the worst-case scenario of layoffs—when employment is fully terminated.

Although furloughed employees do not work, they maintain employment status and can be reactivated when appropriate, minimizing hiring expenses companies incur down the line. Both terminated and furloughed employees are eligible for unemployment.

Many companies are implementing pay cuts across the board to save jobs, with higher reductions for higher salary brackets to protect the most vulnerable. If going this route, it’s critical that the leadership team lead by example and also commit to pay cuts. Many executives, especially in the hard-hit airline industry, have announced that they’re giving up their salaries altogether to avoid layoffs for as long as possible. Companies can also consider shortening the work week for any roles in which a capacity reduction is feasible. If given the choice, some employees might opt for part-time work if it will save their job.

Some employers may also make the tough decision to delay or temporarily cut back on fringe benefits like 401(k) contributions, paid vacation and gym or tuition reimbursements, in efforts to preserve salaries and health insurance coverage.

Similarly, temporarily suspending non-essential vendor services—including office supplies, maintenance for closed physical spaces, event support or certain conveniences—could free up cash to reallocate for labor expenses.

In any scenario, open and clear communication with staff is critical during turbulent times when stress levels are already heightened. Minimizing uncertainty and being transparent about difficult decisions is key for individual and company-wide well-being.

What tax relief options are available to my organization?

In response to the COVID-19 pandemic, governments around the globe have taken action to provide both companies and individuals with tax relief designed to increase cash flow and help businesses continue to employ their workers. In the United States, the Coronavirus Aid, Relief, and Economic Security (CARES) Act addresses the economic impacts of COVID-19 and includes a number of tax relief options.

The Act allows businesses to carryback net operating losses (NOLs) incurred in 2018, 2019 and 2020 by five years—in other words, to tax years when their corporate tax rates were as high as 35%. It also enables businesses to utilize NOLs generated in prior years to offset 100% of taxable income for tax years 2019 and 2020, rather than the 80% previously permitted.

It should be noted that under the CARES Act, real estate investment trusts (REITs) are not allowed a carryback to any preceding taxable year. In addition, an NOL generated in a year in which a taxpayer was not a REIT cannot be carried back to a year in which the taxpayer was a REIT.

The CARES Act also fixes the so-called “retail glitch,” introduced in the Tax Cuts and Jobs Act, which resulted in qualified property improvements, including those made by tenants to offices and retail space, only being eligible for 39-year rather than 15-year bonus depreciation. Because of this, tenants were either declining to purchase or lease new store locations that would require significant improvements, or they were delaying remodeling projects. As the fix in the CARES Act is retroactive, taxpayers can amend their returns and claim that shorter life, 15 years, and yield an immediate cash flow benefit. The Act also increases the business interest expense limitation, commonly referred to as Section 163(j), from 30% to 50%, allowing businesses to decrease their taxable income.

While there are many tax savings opportunities provided by the CARES Act, eligibility for some provisions is dependent on specific factors, which include company size. Many of the benefits are mutually exclusive or have other tax implications. Given the level of complexity in applying these provisions, it is critical that organizations consult with tax professionals in order to maximize their savings.

Organizations should also check with their applicable state taxing authorities for relief and updates on how states are coordinating with the CARES Act’s provisions.

Outside of the existing stimulus measures, companies should also consider tax relief measures that pre-dated the COVID-19 pandemic. If businesses are working to develop, improve and adapt products and processes, they may be eligible for Research & Development tax credits from federal and state taxing authorities.

How will this impact my company’s valuation?

Changes in valuation aren’t anticipated to be reflected in the second quarter of the year, although given the extensive business shutdowns across the country, fluctuations in valuation are predicted to show up later in the 2020. Provided that a property’s valuation is contingent upon leases in place, with many tenants either defaulting on their payments or having shuttered altogether as a result of state or city mandates, it is likely that properties will experience valuation decreases. Decreases in valuation may also trigger loan covenants, so organizations should leverage their legal and strategic advisors in order to negotiate potential short-term covenant modifications with their lenders.

For further questions on the impact that COVID-19 has had and will continue to have on the real estate and construction industry please reach out to Steve Wuest or Corey Dennis.