Though New York City has long been home to a network of research centers, academic institutions and hospitals well suited for the life sciences industry, it has not typically been ranked at the top of life sciences powerhouse cities. This is, in large part, because of a scarcity of available real estate and old zoning laws that restrict lab and research spaces to certain limited areas.

New York, however, is a city known for reinvention, and the opportunities to expand its life sciences hub are now being realized.

Recent years have seen an intensified investment — public and private — in engineering a full ecosystem for life sciences to flourish. Additionally, the COVID-19 pandemic changed the demand for New York real estate and increased demand for cutting-edge medical research, which further identified the need for life sciences as a “sub-industry” in real estate.

This momentum has opened a world of opportunities for real estate investors to enter the market or to reinvent their existing facilities for housing the medical, pharmaceutical and other research-oriented sciences. Entering this market may prove challenging in many aspects, but there are multiple financial incentives and potential tax advantages as well.

A growing life sciences industry

Historically, New York City has had a difficult time attracting companies in the life sciences industry, in part, because of zoning laws that restricted lab use to manufacturing districts. In December 2016, various city agencies updated their interpretation of the zoning laws to allow lab-related work in zones outside the manufacturing districts. The express purpose of this initiative was to make life sciences a premier industry in New York City.

In the meantime, both the city and state began injecting funds into bolstering the industry in New York. In 2016, Mayor Bill de Blasio announced LifeSci NYC, a $500 million, 10-year plan led by the city’s Economic Development Corporation to grow New York City’s life sciences industry. On June 9, 2021, the mayor announced that he would dedicate another half-billion dollars toward lab space development and life sciences research, bringing the projected number of jobs generated to 40,000. In 2017, New York state announced its own $620 million life sciences initiative.

Venture capital is flowing into the city as well. In the first half of this year, funding reached record totals, at $537 million, which was 60 percent ahead of the previous year, according to a CBRE report.

Known names in the sector are showing confidence in the city also. Since the 2016 announcement, Johnson & Johnson has opened JLABS, an innovation hub in the city, and Bristol Myers Squibb became a founding sponsor of the BioLabs@NYULangone.

Changes in the real estate market related to the COVID-19 pandemic have increased the need and interest in life sciences, opening more real estate space and boosting the demand for life sciences research and development.

“New York City can do more than just fight back COVID-19. We can invest in fast-growing sectors like the life sciences to stop the next pandemic before it starts — and become the public health capital of the world,” said Mayor de Blasio in June. “This expansion will accelerate the growth of local researchers and businesses inventing the cures for whatever comes next. It’s the key to our economic and public health recovery, and it will produce more effective and more equitable health outcomes for New Yorkers across the five boroughs.”

What property owners and developers should know

Life sciences real estate may hold great possibility, but it is capital intensive. The cost to build the core and shell, as well as the cost for tenant improvements, is substantially higher than a traditional office building.

The spaces utilized by life sciences companies tend to be highly technical with various site-specific functionality. Life sciences spaces are typically divided between office and lab space at a roughly 60 percent to 40 percent ratio. Additional specifications may include wet and dry laboratories as well as temperature-specific rooms.

These site-specific functionalities require the majority of the work to be performed in the office or lab. That this work cannot be replicated in remote work environments is attractive to building owners as it increases the demand for the physical real estate space.

A life sciences building is very different from a typical office building, and a conversion from an existing building may prove to be difficult and costly. In many instances, electrical systems will need to be upgraded to address power requirements, and additional modifications may need to be made to the loading docks to accommodate the needs of life sciences tenants. Consideration should also be given to how chemical waste will be removed from the building. Based on a 2018 report by JLL’s Boston office, lab construction costs in that market can range from $350 to $1,325 per square foot.

Tax benefits to life sciences property owners

The investment in life sciences real estate has the potential to pay off with a multitude of benefits. For instance, the high costs for a life sciences project would suggest that landlords may expect longer lease terms and higher rents.

Certain capital-intensive costs, such as qualified improvements, may be eligible for an immediate tax deduction via bonus depreciation, a tax incentive that allows developers of qualified property to immediately deduct a portion of the qualified property’s cost. This immediate deduction can result in significant tax savings.

Qualified property is defined as property with a recovery period of 20 years or less and includes construction, renovations and acquisitions. Bonus depreciation for applicable assets is set at 100% if the property is placed-in-service by Dec. 31, 2021. After 2022, the bonus depreciation rates gradually decline through 2026 from 80 percent to 20 percent.

Based on Marks Paneth’s experience with our clients, there are many possible avenues to achieve higher deductions in the life sciences real estate industry by utilizing proper and timely tax planning related to depreciation of assets.

To maximize the benefits of bonus depreciation, it may be advisable for owners whose buildings are being converted to use as a life sciences building to consider undergoing a cost segregation study. These studies have proven to be a tax beneficial tool for the real estate industry, and even more so for the booming life sciences industry. A cost segregation is an engineering-based analysis in which fixed assets are segregated into various categories and potentially reclassified into shorter-lived tax categories.

Pursuant to a cost segregation study, many assets can be reclassed into recovery periods of 20 years or less, resulting in accelerated depreciation and increased cash flow. Shorter recovery periods can typically be obtained from drywall and ceiling upgrades in tenant spaces. However, in the life sciences industry, the exceptionally costly, but necessary, electrical and plumbing upgrades, as well as HVAC interior work, can yield generous tax deductions for building owners.

Before undertaking a large renovation, a deeper review may need to be performed of assets that are currently in place and may not be useful. Unfortunately, there may be some assets, such as the HVAC equipment, which is a large expense for any building, that may not be adequate for a life science building and thus would need to be abandoned. The abandonment of such assets, however, brings an additional deduction for the property owner, for the total value of abandonment.

Benefits specific to NYC

New York offers many benefits for property owners and developers who are creating new space for commercial life sciences tenants. The New York City Industrial Development Agency (NYCIDA) aims to lower the cost of capital investment to increase business growth. NYCIDA has a specific life sciences program dedicated to incentivizing life sciences companies and developers of related spaces through multiple tax benefits.

NYCIDA lists its program benefits as:

• Real estate tax reductions – Land and building taxes may be abated for a term determined by NYCIDA necessary to incentivize the development of life sciences space. A phase-out of the benefit begins four years prior to the last year of the term and increases by 20 percent until the taxes are increased to the full amounts.
• Mortgage recording tax reduction – Mortgage recording tax relating to the project’s financing may be reduced.
• Sales tax exemptions – The 8.875% sales tax on materials used to construct, renovate or equip facilities may be waived.

These benefits are available to companies that are “seeking to enter into long-term lease agreements and are planning to construct or renovate space for their own operations or to lease to third parties.”

These incentives have encouraged developers to invest in the life sciences real estate industry and undertake building conversion projects to fill the empty spaces that may have been left by the pandemic.

As the life sciences sector continues to grow in New York City, those who want to capitalize should consider the many advantages and challenges that are inherent to the sector and the city. Those who are ready to commit could play a role in the recovery and reinvention of the city.

Eduard Suleymanov, CPA, and Deana Wetzel, CPA, are partners in the real estate group at Marks Paneth, a premier accounting, tax and advisory firm headquartered in New York City. They can be reached at esuleymanov@markspaneth.com (or 212-710-1776) and dwetzel@markspaneth.com (or 515-992-5746).