Flattening Yield Curve Signals Single Remaining Rate Hike in 2018
ATLANTA–Expect the Federal Reserve to raise interest rates in September, then hold firm until long-term interest rates inch up, Rajeev Dhawan of the Economic Forecasting Center at Georgia State University’s J. Mack Robinson College of Business says.
“In his July testimony, Fed Chairman Jay Powell pretty much sealed September’s rate hike,” Dhawan wrote in his ‘Forecast of the Nation,’ released Wednesday, Aug. 29,. “The only justification for delay would be a calamitous drop in financial markets in the next 30 days.”
Foreign currency crises in Argentina and Turkey, as well as the weakening yuan (China), real (Brazil) and ruble (Russia), could raise caution at the Fed. Another cause for concern among economists and the financial press is the tightening U.S. yield curve, which shows interest rates for Treasurys with maturities from one to 30 years.
“Some flatness is to be expected as the Fed raises the short end of the yield curve,” Dhawan wrote. “The problem is the long end o has barely budged, even as the short end has risen by 100 basis points.”
Dhawan pointed to the 20-odd basis point spread between two-year and 10-year Treasurys as the reason for only one more rate hike in 2018. If the ongoing emerging market currency crisis intensifies further and affects U.S. financial markets, especially investors flocking to Treasurys for safety, it could wipe out the remaining spread and jeopardize the September rate hike.
“For future rate hikes, the Fed will wait for long bond yields to inch up,” Dhawan said. “When the Treasury Department goes to market to finance more debt, I anticipate the long bond yield will rise.”
Look for the Federal Reserve to take a pause from raising rates in December and restart in 2019, resuming their watchful course of raising rates, he said.
“The Fed always watches inflation, which measures the heat of the economy. But inflation is well within the target range of two percent and current economic growth is running at just about 3.0 percent,” Dhawan said. “To sustain this growth we will need to see the currently good investment numbers get even stronger, and investment will need to grow at a high double-digit clip, as it did in the late ’90s, for the U.S. economic supertanker to speed ahead at more than four percent growth.”
Intensifying trade spats with the nation’s major trading partners are creating uncertainty for future growth, he said.
“The first round effect of trade spats is postponement of domestic investment expenditures,” Dhawan said. “But the real damage occurs when retaliation by allies results in upheaval in the Treasury bond market. This does not appear likely yet, but the game is still young.”
Highlights from the Economic Forecasting Center’s National Report
- Following robust GDP growth of 4.1 percent in the second quarter of 2018, the economy will expand at 2.8 percent in 2018, 2.4 percent in 2019 and 2 percent in 2020.
- Business investment grew 7.3 percent in 2018’s second quarter. Expect growth to finish at 7.4 percent in 2018, 5.8 percent in 2019 and 4.9 percent in 2020. Jobs will grow by a monthly rate of 205,000 in 2018, 142,600 in 2019 and 125,700 in 2020.
- Housing starts will average 1.283 million units in 2018, fall slightly to 1.258 in 2019 and rise to 1.300 in 2020. Expect auto sales of 16.8 million units in 2018, 16 million in 2019 and 15.8 in 2020.
- The 10-year bond rate will average 3.1 percent in 2018, 3.9 percent in 2019 and 4 percent in 2020.
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Domestic-Demand Sectors Drive Georgia Job Growth
ATLANTA–Georgia’s job creation in the first six months of 2018 primarily arose from domestically driven sectors, according to Rajeev Dhawan of the Economic Forecasting Center at Georgia State University’s J. Mack Robinson College of Business.
The state created 36,300 jobs in the first half of the year, lower than the last half of 2017 and opposite the U.S. trend of slight acceleration in job growth.
“In the first half of 2018, domestically driven sectors, chiefly hospitality, education, healthcare, construction and retail trade, created 40,000 jobs,” Dhawan wrote in his quarterly “Forecast of Georgia and Atlanta” released Wednesday, Aug. 29. “Meanwhile, globally connected sectors (such as manufacturing, corporate, information and transportation) lost 3,700 jobs.”
Trade uncertainty and a strong dollar resulted in weaker job growth in manufacturing, but the primary cause of the deviation from the national trend was a drop in corporate employment.
“Surprisingly, corporate sector employment dropped by 6,000 positions in the first half of 2018,” Dhawan wrote. “These two Peach State trends, weak gains in manufacturing and job losses in the corporate sector, are not evident in national figures.”
Despite the recent lack of job growth in the large corporate sector, job losses from this sector have not spilled over into the rest of the economy. As evidence, Dhawan points to his triangle of money concept, which looks at tax collections to form a complete picture of job quality and purchasing power.
“Georgia’s state tax revenues, such as gross sales receipts, are not showing any weakness,” Dhawan says. “Thus, the moderation in the corporate sector job growth is likely an aberration in the data and will get sorted out in next year’s benchmarking release.”
Corporate expansions in Atlanta, Brunswick, Demorest and Carrolton, along with decisions by healthcare technology companies to locate in Atlanta, are leading to job growth in healthcare and construction, buoying overall job growth and reflecting an underlying growth trend.
Medium- and small-sized businesses also are trending positively.
“The news of expansion and headquarter relocations, especially for medium-sized firms, is reassuring,” Dhawan said. “Due to steadily climbing consumer confidence, the prognosis also is good for small businesses that mostly depend on domestic demand.
Domestic demand also has positively affected the hospitality sector, which experienced strong gains in the first half of 2018 through a 20 percent increase in rooms booked over the last six months of 2017.
Dhawan anticipates the negatives of global pressures on catalyst sectors will be offset in 2018 by the positives of recent tax cuts and rising confidence among consumers and small businesses, driving domestic demand sectors and resulting in a continuation of 2017’s job growth trend.
Highlights from the Economic Forecasting Center’s Report for Georgia and Atlanta
- Georgia will add 78,400 jobs (12,500 premium jobs) in 2018, 61,700 jobs (11,800 premium) in 2019 and 54,800 (10,800 premium) in 2020.
- Nominal personal income will rise 4.4 percent in 2018, 5.2 percent in 2019 and 5.2 percent in 2020.
- Atlanta will add 53,600 jobs (9,400 premium jobs) in 2018, 42,900 jobs (9,100 premium) in 2019 and 39,500 jobs (8,400 premium) in 2020.
- Atlanta permitting activity in 2018 will rise 11.7 percent, fall 1.3 percent in 2019 and rise 0.7 percent in 2020.
All About Qualified Opportunity Funds – New Tax Tool Available To Defer and Possibly Eliminate Gains
Effective January 1, 2018 the Tax Cuts and Jobs Act established Federal Qualified Opportunity Zones (QOZs) with the goal of allowing large amounts of capital to flow into economically distressed area across the country. To promote capital investment in these Qualified Opportunity Zones, legislators included three favorable tax provisions that benefit qualifying taxpayers. First, the ability to defer paying tax on capital gains until December 31, 2026. Second, basis increases which reduce deferred gains and lower the eventual capital gain tax to be paid by December 31, 2026 on deferred gains. Third, zero tax on new capital gains derived from capital appreciation in Qualified Opportunity Fund (QOF) investments held for at least 10 years.
Wait, what are Qualified Opportunity Zones?
The new tax law authorized the creation of Qualified Opportunity Zones (QOZ) which are defined as census tracts in low income communities and specifically designated as QOZs. The QOZs, now finalized by Treasury, were identified and nominated by the governor of each state or territory in which the zone is located. Governors were directed to select zones that were the focus of economic development and areas which had recently experienced significant layoffs due to business closures and relocations.
The Treasury Department has already reviewed and approved the list of opportunity zones. To view Federal Qualified Opportunity Zones visit this link, and follow the direction for using the map.
How Qualified Opportunity Funds (QOFs) Correspond to Qualified Opportunity Zones (QOZs)
A Qualified Opportunity Fund (QOF) is an investment vehicle created for investing in eligible property located in a Qualified Opportunity Zone. Investments in these funds provide for the three tax benefits listed in the first paragraph of this article. To qualify as a Qualified Opportunity Fund, 90% of the assets held by the Fund must be Qualified Opportunity Zone Property (QOZ Property). QOZ Property is property that was acquired after December 31, 2017 located in a Qualified Opportunity Zone, and is described in more detail below.
One of the largest opportunities that our firm sees with these types of investments pertain to investments in existing real estate needing significant improvements, new real estate development projects located in Qualified Opportunity Zones, and investments in businesses requiring significant amounts of tangible assets to operate. However, the details of all the types of property that qualify are summarized here as well. QOZ Property is defined as Qualified Opportunity Zone Stock (QOZ Stock), Qualified Opportunity Zone Partnership Interest (QOZ Partnership Interest), or Qualified Opportunity Zone Business Property (QOZ Business Property).
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- Qualified Opportunity Zone Stock: The QOF can buy stock of almost any business except for “sin” business such as tanning salons, liquor stores, adult entertainment, casinos, racetracks, etc. The stock must be acquired after 12.31.17 at its original issue in exchange for cash; at the time the corporation was formed the business was a QOZ Business (defined below) or for a new corporation, it was formed to be a QOZ Business; and during substantially all of the QOF’s holding period of the stock, the corporation was a QOZ Business.
- Qualified Opportunity Zone Partnership Interest: A QOF can invest in a partnership capital or profits interest which meets the following requirements: 1) the interest is acquired by the Qualified Opportunity Fund after December 31, 2017, from the partnership, solely in exchange for cash; at the time the interest was acquired, the partnership, was a QOZ Business (defined below) or for a new partnership, it was formed for purposes of being a QOZ Business; and during substantially all the QOFs holding period of the interest, the partnership was a QOZ Business.
- Qualified Opportunity Zone Business Property: this property is tangible property used in a trade or business of the Qualified Opportunity Fund (QOF) and meets all of the following requirements: the property was acquired by the QOF by purchase from an unrelated party in accordance with Section 179(d)(2); the original use of the property located in the Qualified Opportunity Zone begins with the QOF or the QOF substantially improves the property; and the business is not a private or commercial golf course, country club, massage parlor, hot tub facility, suntan facility, racetrack or other facility used for gambling, or any store the principal business of which is the sale of alcoholic beverages for consumption off premises (“sin” businesses). Substantial improvement of a property is defined as occurring if the original basis of the property at its date of acquisition is at least doubled over a 30 month period beginning on the date of acquisition. For example, if a QOF purchased existing real estate located in a Qualified Opportunity Zone, it must substantially improve (defined as doubling the cost basis of the property over 30 months) for the property be qualified.
As mentioned in “1” and “2” above, QOZ Stock and QOZ Partnership Interests must relate to Qualified Opportunity Fund Businesses (QOZ Business). A QOZ Business is a trade or business that meets the following requirements
- At least 50% of the total gross income of the QOZ Business is derived from an active trade or business;
- A substantial portion of any intangible property is used in an active trade or business;
- Less than 5% of the average of the aggregate unadjusted bases of the property of the entity is attributable to nonqualified financial property (debt, stock, partnership interests, options, forward or futures contracts, notional principal contracts, annuities, etc.), and the business is not a “sin” business (mentioned above).
Tax Reporting as a Qualified Opportunity Fund
A taxpayer can designate its entity as a Qualified Opportunity Fund (QOF) via a one page self-certification Form still in process of being drafted by the IRS and attaching this to their tax return. A Qualified Opportunity Fund will file the typical Corporate or Partnership business tax returns, but must meet certain testing hurdles several times throughout the year to insure compliance with the 90% of assets held in Qualified Opportunity Zone Property is met. Failure to maintain a 90% investment in Qualified Opportunity Zone assets will result in a tax penalty to the fund equal to the shortfall under 90% times the existing IRS Underpayment Rate.
Now, why should you care about all of this – what’s in it for taxpayers?
There are three tax benefits available depending on how long an investor holds the QOF interest. In considering the below, remember that investors do not need to live or work in the Qualified Opportunity Zone to gain tax benefits from the investment.
- Tax Deferral until December 31, 2026
An investor who has or is about to realize capital gains from an investment (stocks, real estate, sale of a business, etc.) can elect to invest the amount of that gain into a QOF and the capital gain will be deferred until the earlier of two dates: when the interest in the QOF is sold or Dec. 31, 2026. The taxpayer has 180 days from the date of sale to roll the gain into a QOF and a “qualified intermediary” is not required to hold the capital during that time. In addition, unlike “like-kind exchange”, only gain need be invested in a QOF – not the original principal. - Tax Reduction on Deferred Amounts (basis increases)
A taxpayer’s initial investment in a QOF will have zero basis since gain is being deferred into the fund. If a taxpayer holds the QOF investment at least 5 years before December 31, 2026 the investor receives a 10% step up in basis on the amount deferred. If held for 7 years before December 31, 2026 an additional 5% step up in basis is received. For example, if you had 2018 gains of $100,000 that you invested in a QOF and held the investment for 5 years before disposition the gain you would pay tax on when sold would only be $90,000 as you would receive a $10,000 basis step up (10%) for holding the asset at least 5 years. If you held it another two years, for a total of 7 years before disposition, you would only pay tax on $85,000 of the original deferred gain. Please note, to receive the full 15% step up for holding property for 7 years the QOF investment must be made by December 31, 2019 as gains can only be deferred until December 31, 2026 no matter which year your investment was made. - Zero Tax on New Capital Gains
If the investor holds its’ interest in the QOF for 10 years there is no resulting tax on new gains derived inside of the QOF because the taxpayer receives a basis step up equal to the fair market value when sold. For example, suppose you had a $1,000,000 long term capital gain on the sale of Amazon stock in 2018 and elected to defer that gain until December 31, 2026 by investing all $1 Million into the XYZ Qualified Opportunity Fund in 2018. Further, suppose your original $1 million investment into the XYZ Qualified Opportunity Fund grew to $3.5 Million by December 31, 2028 at which time you disposed of your investment in the XYZ Qualified Opportunity Fund for $3.5 Million. Your additional $2.5 Million of gain ($3.5 Million – $1 Million) derived from the increase in value in the XYZ Qualified Opportunity Fund is tax free due to a 100% basis step up in that amount. Please note, on December 31, 2026 the original deferred gain would have been triggered resulting in your paying tax on $850,000 of your original $1 Million of deferred gain (15% basis step up for holding in the QOF 7 years).
How Can Frazier & Deeter Help?
Involve Frazier & Deeter early in either your decision to create a Qualified Opportunity Fund or in your decision to defer gains by investing in a Qualified Opportunity Fund. The IRS is still in the process of issuing Regulations regarding this new area of tax law. We have contacts throughout the industry, including contacts with different Opportunity Funds, and attorneys who can help create and structure these funds. As CPAs, we are simply facilitators and advisors and are not influenced by any sort of commission. If you have questions regarding Qualified Opportunity Fund creation or investment or both or need help with any other tax planning strategies or tools feel free to give me a call at 404.573.4336 or email me at Andrew.Moore@FrazierDeeter.com.
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Maintaining Confidentiality Throughout the Sale Process
There are two key ingredients when it comes to selling a business: professionalism and confidentiality. If either of these two ingredients are lacking, then you’ll most likely run into problems. Sadly, many sellers see their deals fall apart due to a breach of confidentiality. You certainly don’t want to be among their ranks.
The simple fact is that a breach in confidentiality can negatively impact everyone from suppliers and vendors to creditors. For example, vendors could change their terms and this, in turn, could have a major, negative impact on cash flow. There can be a chain reaction of events that spirals out of control.
The potential negative outcomes of a breach in confidentiality are quite numerous, for example, employees and customers alike could begin to worry about the future of the business. Employees could begin to worry about the safety of their jobs and begin looking for a new position. Dangerously, this situation could lead to changes in management and the loss of key employees. Likewise, customers, fearing instability with the business, could also decide to take the business elsewhere, leading to revenue problems.
Yet another complicating factor comes in the form of the competition. If the competition hears that your business is up for sale, they could sense blood in the water and look to steal your customers.
Ultimately, a breach could give potential buyers cold feet. At this point, it should be very clear that protecting confidentiality is a must. One of the single best ways to ensure that confidentiality is maintained is to opt for an experienced and proven business broker. Business brokers understand the simply tremendous value of keeping things under wraps.
It may be tempting to try and sell your business on your own, but it is vital to understand that doing so can damage your businesses’ reputation. A good business broker knows how to shield your business from breaches of confidentiality. By working with a business broker, not only are confidentiality agreements signed and taken seriously, but also you’ll know that prospective buyers are vetted and fully pre-qualified. According to an article on Inc.com, broker feedback has revealed 9 out of 10 interested parties who respond to “business for sale” ads are not qualified to make the purchase. Why would you want to risk giving away key details to these parties?
In short, you’ll have a much better idea of who you are dealing with and how serious they are about buying your business. At the end of the day, there is no replacement for maintaining confidentiality.
Copyright: Business Brokerage Press, Inc.
Read MoreBuying a Business That Isn’t For Sale
By Peter Siegel
If you want to become your own boss, but are having trouble finding the right business to buy, there’s another option. Find an enterprise to buy that appealed to him, but was not openly being offered for sale.
Peter Siegel, the Founder & Senior Advisor at California’s BizBen.com, described the experience of Steve, who was retiring from his accounting job and wanting to leverage his retirement savings into an income so that he and his wife could maintain their standard of living.
He decided to buy a small business but was concerned that responding to ads might take several months to a few years to produce results.
So how DO you buy a business that isn’t openly for sale.
Steve started by looking at the companies with which he did business, which led him to his oil-change franchise. The company looked successful and efficiently run and the owner appeared to be about ten years older than Steve. Those were good signs.
Here’s what Steve did to clinch the deal.
Gather Information on the Business
He learned from the franchisor that there were no other franchises that could be opened or purchased in his immediate area. And he got some basic information about the franchise company’s stores-typical gross sales, basic cost factors as a percent of gross, what the owners expect to earn, and an idea about the rules of thumb used for pricing the businesses. Next, he offered to save the time and trouble for friends and neighbors who needed to have their cars serviced. He would do it for them, always bringing the cars to the company he had targeted, and the car owners would reimburse him afterward for the cost of the oil, filters and service.
Contact the Owner
Then, with the business owner now recognizing him as a good customer (and curious why he showed up so frequently and always with a different car), Steve invited the man to lunch.
After assuring the owner that their discussion would be treated with complete confidentiality, Steve explained what he had in mind and learned that the owner had been thinking about selling, but had been so busy he hadn’t gotten around to doing anything about it. Steve presented document he’d prepared, called his “buyer’s resume.” It listed the money Steve had available, the assets on which he could borrow and it detailed his business experience.
The owner was immediately put at ease. He liked Steve’s professional approach and was impressed that this prospective buyer had done his homework and had some understanding of what was involved in running the company. Clearly, Steve was not there to waste his time.
The two met a few times afterward, and then sat down with their lawyers to start a negotiating and contracting procedure that culminated weeks later, in a successfully completed campaign for Steve, the new owner of the oil-change franchise.
There were buyer candidates who’d put their name on the list for a local franchise with the parent (franchise) company. And there were buyers asking their business brokers if there were any automotive service companies in the area that had been newly listed. In other words, Steve had competition among others who wanted what he wanted. But he wound up with the business.
And the way he went about it can be instructive for anyone wanting to purchase a good company and impatient because nothing appropriate has yet been found.
Prepare a Buyer’s Resume
Steve’s buyer’s resume is a very useful tool, not only to show to brokers and to prospective sellers selling a business who’ve been formally introduced by an intermediary, but also to business owners who are being directly approached about selling. It shows that the prospective buyer is serious, up-front and business like. And it lets the seller know what the buyer can and cannot do-a time saver for everyone involved.
Learning about a business of interest is another way the buyer demonstrates that he or she is being professional. That’s what Steve did by obtaining and studying the franchisor’s literature. And it also saves time, since the prospective seller does not need to go over the basics of the industry. The smart buyer-candidate can discover plenty of information that will help him or her be prepared, by contacting local business groups such as the Better Business Bureau or Chamber of Commerce, the associations representing the business’s industry, and by conducting a key word search on the Internet. And, of course, if the targeted company is a franchise, the interested buyer can find out from the franchisor much of what’s needed to know for initial discussions.
Confidentiality
The smart buyer also is prepared by knowing the importance of exploring this idea with prospective sellers in a way that is private, respecting an owner’s usual need for confidentiality. Even if a business owner is interested in speaking with people who might want to purchase the company, anyone approaching that owner in a way that might expose the topic of conversation to others, is bound to get a negative response. Very few prospective sellers want customers, employees or vendors to learn that they are considering the idea of getting out of the business. If any outsiders hear someone ask a business owner “Do you want to sell?” they most likely will hear this answer: “No.” Even if that’s not the case.
NETWORKING
Steve’s experience makes this process sound easy-a lot easier than it is in most cases. Of course his idea of checking out companies with which he did business is just one of many strategies a buyer can employ to find an appropriate business with a willing seller that isn’t officially for sale. A productive part of the network involves vendors in any industry of interest-people who know all of the owners in the market area for the businesses they sell to.
Furniture, gift and housewares wholesalers may know of customers-owners in the retail end of their business– who seem ready to retire. Commercial washer equipment sales people know all the owners of coin laundries in their territories, and may even want to encourage a less active owner to sell out to someone who may be more involved in the operation, particularly if the new owner is likely to purchase new equipment from that sales person. Similarly, route drivers calling on food and liquor stores have a pretty good idea about what’s going on with their customers. If someone is getting ready to sell out-perhaps because the next generation in the family doesn’t want to take over the business from aging parents-the guy, or gal, who makes deliveries to that business several times a month, is probably pretty well informed about the situation.
Speaking with these people is an excellent way to get tips about an owner who is getting in the mood to sell, before that owner contacts a business broker or posts a for-sale notice. The offer of a finder’s fee to people in a network might encourage them to pass along valuable information about likely sellers in their industry. They might even be willing to arrange the introduction, telling an owner about someone who might be a prospective buyer for the business, if the owner is so inclined.
Part of the network, of course, are the social, community and religious groups in which a buyer is involved. While visiting with other parents at a PTA meeting, or enjoying beers with fellow players on the local amateur soccer team, or chatting in the locker room at the gym or yoga center, a person who wants to find a small business to buy can put that fact into the “grapevine” in hopes the word will reach someone, who knows someone, who is getting ready to sell a good business. And the professionals who advise small business owners-lawyers, accountants and insurance brokers-represent a productive network. These people often are the first to learn when a client is planning a life change that involves selling a business. The buyer wanting to take advantage of this network should make sure to distribute a “buyer’s resume” with a carefully worded cover letter to some of these professionals. Days or weeks later, that information may come out of the counselor’s desk or file drawer to be shown to a client who begins expressing an interest in retiring or moving on to another enterprise.
Hiring a Business Broker
An effective strategy followed by some prospective buyers is to hire a business broker to approach specific business owners, or all business owners in a particular industry and market area. The arrangement between buyer and broker can vary, but usually is based on the understanding that the broker represents the buyer-the reverse of the typical circumstances-and the buyer pays the broker a specified fee-or percentage of the purchase price-upon completion of a successful transaction. Business Brokers will also know of businesses in your area that are for sale.
Once a buyer identifies an interesting business headed by a cooperative seller, and negotiations begin, it is useful if that buyer has planned out the steps that will lead to a completed transaction. What if the seller resists the offered price, expressing the idea that the business might command more money if exposed, through a listing broker, to the full marketplace of potential buyers? One intelligent response to that objection is to remind the seller that dealing here and now, with a ready, willing and able buyer, eliminates both the need for the seller to pay a broker’s commission, and the risk that the seller’s confidentiality will be compromised.
Most buyers are not likely to adopt the strategies suggested here-not when there are many brokers willing to help in the search, and a number of resources that list businesses for sale. But for the more impatient buyers, these comments suggest actions they can take today.
About This Contributor: Peter Siegel, MBAis the Founder & Senior Advisor (ProBuy & ProSell Programs) at BizBen.com (established 1994, 8000+ California businesses for sale, 500 new & refreshed postings/posts daily) works with business buyers, sellers, business brokers, agents). Reach him direct at 866-270-6278 to discuss strategies regarding buying a California business.
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