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Condotelworlde/Walters/1The Setai Condominium Hotel South BeachCONDOTELWORLDEBYDAVID ARTHUR WALTERSSeptember 2006 Miami BeachWelcome to the wonderful world of condominium hotels. Condominium hotelshave been around since the 1980s on a small scale, particularly in resort areas such as skitowns. Condo-hotel unit owners were certain to have a place to stay during the season, andthey could otherwise rent their units out, in which case they could, as landlords, deduct
 
Condotelworlde/Walters/2relevant expenses against the income realized. Furthermore, condo-hotel ownership offeredcertain tax advantages that made real property ownership appealing as a hedge againstinflation and an opportunity to realize capital gains at a low tax rate relative to the tax onordinary income. But condo hotels lost their tax-deduction luster after the passage of the1986 Tax Reform Act, which, among other things, prevented condo hotel investors fromdeducting “passive” net losses from their “active” ordinary income.Fully furnished, so-called transient condominium apartments have been rented outon a short-term basis to tourists for many years. In Hawaii, for instance, real estatemanagement companies do a brisk business in short-term condo rentals on behalf of unitowners.Obviously, the thing to do for efficiency’s sake was to place a condominiumcomplex under central hotel ownership. Existing hotels could be converted to that end or new ones built. Only recently has condo-hotel ownership become the rage, particularly inFlorida, a state where wheeling and dealing in real estate and other much less tangiblethings is the traditional pastime for people on the make and take. In fact, Florida led thecondo hotel activity twenty years ago, and now it leads the resurgence: a fourth of thecondo hotels recently planned for the United States were in FloridaThe recent mini-boom in condo hotels rose from the ashes of the World TradeCenter. Tourism tanked after the terrorist attacks. Traditional lenders were not interested inrisking money on hotels. Hotel owners needed cash to cover operating expenses or wantedto bail out altogether. Why not convert the hotel rooms to condominiums and sell themdirectly to the public? At least there would be no loan payments to make during the firstfew years; ninety-percent of the value of the project could be financed by condo hotel
 
Condotelworlde/Walters/3investors. Happily for developers, it is much easier to sell equity under the guise of hotel-room usage to small investors, who are relatively uninformed and tend to buy on whims,rather than raise loans from traditional lenders, who tend to be more knowledgeable andcautious when taking risks. If the original hotel owners and operators did not want out of the hotel business, they could use the condo-hotel investors’ money to revamp the premisesand take a management contract to retain control over marketing and operations.The concept took off and money poured in from small investors. If they so chose,they could live in their respective rooms year around; but that was highly unlikely, for notmany people would want to reside indefinitely in a hotel room surrounded by tourists. Most buyers would rather invest in the condo-hotel hospitality industry, putting their rooms inthe rental pool in order to get a percentage of the gross revenue on their rooms, lessrelevant expenses. Of course if the hospitality business they invested in went south, their revenue would fall yet their condominium fees would remain the same, and their rising passive losses from the investment units would not be deductible from their ordinaryincome elsewhere.Why not build brand new condo hotels? And why not mix things up a bit anddevote enough units in a hotel to condominiums to fund development of the entire hotel?Those investments should raise the forty percent needed to secure debt financing for newconstruction. Soon, around seventy-five percent of hotel developments would have acondo-hotel component. After all, the condo hotel offers optimists the best of all possibleworlds. Never mind the pessimists – fortunes are made by repetition of positive publicitywhile ignoring naysayers during good times. During bad times, vacations are cancelled,second homes if not third homes are unwanted burdens; and condo-hotel investors, who
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