Investors pass up tax shelters as inflation, taxes ease
When Robert Stanger's piano teacher asked him last fall about a ''hot new'' research-and-development tax shelter, Mr. Stanger says, he knew the tax shelter business had topped out.
As it turned out, he was right. He publishes The Stanger Report, a Fair Haven, N.J.-based guide to tax shelter investing.
Since the beginning of the year, the tax shelter business has lacked investor support. For the first three months of the year, sales of the 10 leading sponsors of publicly registered oil and gas drilling programs fell 21.3 percent, to $256 million. Last year, in the first quarter, sales were $325 million.
And for all the tax shelters the Securities and Exchange Commission approves, only 42 of 73 programs have raised money this year. The rest, sitting unsold on broker's desks, total some $1.9 billion.
Why are investors suddenly ignoring the lure to thumb their noses at Uncle Sam? According to Mr. Stanger, there are at least two reasons. First, taxes are lower since Congress lowered the maximum tax rate last year from 70 percent to 50 percent. Second, many investors apparently believe inflation is a phenomenon of the past.
So instead of looking solely at Wall Street's deals from a tax standpoint, he says, investors are looking at them from an economic standpoint. In short they are asking, ''Can this investment stand on its own without tax benefits?''
Although investors may be ignoring some shelters, particularly those managed by companies specializing in oil and gas programs, Wall Street has not been totally frozen out of the business, notes John Tommasini, a vice-president at E. F. Hutton.
''This has been a plus for Wall Street firms who have offered programs with sound economics first and tax avoidance second,'' Mr. Tommasini commented. Hutton's limited-partnership program is the largest on Wall Street and is up 10 percent so far this year, he says. Its goal is to reach $1 billion in sales this year, compared with $725 million last year.
Some of the tax shelter deals Hutton has done this year involve fast-food chains, hotels, apartments, condominiums, office parks, energy exploratory programs, and equipment leasing. It recently completed a timber partnership and just started selling a unique deal in which investors become part owners of an ethanol plant in South Bend, Ind. The plant, which is 38 percent owned by United Brands, will have equity of $37 million and will borrow $140 million. The US government will guarantee 90 percent of the borrowed amount.
Still, most observers expect Wall Street to have an off-year selling the shelters. John Steffens, senior vice-president and director of marketing at Merrill Lynch, says, ''I expect 1982 will be down compared to 1981.'' But he adds, ''We expect business will pick up once people understand their tax problems.''
It will be a rough year for brokers if investors continue to shun the shelters. The brokers selling a tax deal usually receive up-front fees of 7 to 12 percent, making it a particularly attractive source of income.
The downturn in this market has not gone unnoticed by companies trying to tap into it. For example, Marriott Corporation, the hotel chain, is involved in an $ 18 million limited-partnership deal with Warburg Paribas Becker, the investment banking firm. Warburg Paribas will sell to the limited partners ownership of 11 Marriott Hotels, representing the newest 10 percent of the chain's rooms. Marriott will manage the hotels.
John Dasberg, an attorney with Marriott, says his company was aware people were saying the shelter market was coming down, and it worked that into how the deal was structured.
According to Martin Cohen, a Warburg Paribas vice-president, the Marriott deal, which is called Potomac Hotel Limited Partnership, was sweetened for investors by making the price more attractive.
For the most part, however, the Marriott deal is a shelter. The limited partners will put up $18 million and then borrow $365 million to finance construction of the 11 hotels. The investors will pay Marriott a fee to manage the hotels and will eventually share in the profits. Investors in the 50 percent tax bracket, making a $10,000 investment, can expect a complete payback of their funds by the third year, because of the benefits of an investment tax credit and deductions for interest costs and depreciation. Actual cash distributions won't be made until 1986, and it is not until later years that the limited partners will receive 75 percent of the operating profits.
One aspect of the deal that may help protect investors against the effects of inflation, Mr. Cohen points out, is the fact that room rates at hotels have traditionally kept pace with inflation. Unfortunately, one negative feature of the deal is that interest rates are now high and inflation is low. Thus, room rates -- and hotel profits -- will remain flat while interest expenses are high. To keep the limited partners' capital from being swallowed up by high interest and high operating costs, Marriott has arranged for a line of credit of about $ 136 million to help get the hotels through any rough spots.
And, as investors reading the prospectus will note, the deal has even interested three members of the Marriott family, who presumably have tax problems.
Probably the Marriotts won't be the only investors who decide that a tax shelter is for them this year. As Forbes magazine said recently, ''As long as there are taxes, there will be tax shelters.'' But the magazine warned its readers, ''Some make sense for some people but many make sense only for the sponsors and the salespeople.'' Caveat emptor.
The prospect of lower interest rates helped stimulate some buying interest on Wall Street last week. The Dow Jones industrial average closed the week with a gain of 20.84, closing at 869.20. Traders expected a big drop in the money supply this week, which would pave the way for some easing by the Federal Reserve Board. Oil stocks were active last week and were steady, as some analysts said they expected oil prices to start rising again this summer.