3 Changes To Tax Law CRE Pros Need To Know
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President Donald Trump’s tax plan brings sweeping changes, many beneficial, for CRE, and some people are questioning whether Trump’s own billion-dollar holdings motivated certain provisions.
Of all industries receiving breaks, CRE is expected to gain the most from benefits like reduced rates for corporations and individuals, eligibility of REIT dividends for the new 199A pass-through deduction, preservation of the 1031 exchange for real property, income tax deductions for pass-through businesses and more. On the residential side, individual homeowners whose assets do not generate rental income will be left to pick up some of the slack.
As implementation approaches, CRE pros are looking to tax professionals for advice on how to structure their deals and partnerships to capitalize on the new rules — and navigate some potential restrictions they will have to contend with.
1. Interest Expense Limitation
Interest expense under the new plan is limited to 30% of net income before interest expense, depreciation and amortization, Berdon LLP Tax Partner Meyer Mintz said. The excess interest expense must be carried forward to subsequent years.
“Real estate, including construction, management and development, will basically be exempt, but must opt out, and in doing so, subject themselves to stricter depreciation timetables,” Mintz said. “Non-real estate companies without this option will see more of an impact.”
CRE companies that elect to be exempt from the business-interest limitations may be unable to write off certain improvements using bonus depreciation.
2. Deductions For Non-Corporations
Earners of income from pass-through entities such as partnerships, S corporations and limited liability companies will see their taxes fall. Recipients of pass-through income from businesses not treated as C corporations will receive a 20% deduction that effectively reduces their overall rate from 37.5% to approximately 30%.
“This deduction is 20% of qualifying business income,” Mintz said. “But it is capped at the greater of either half of wages or 2.5% of the basis of depreciable assets plus one-quarter of the wages.”
Real estate companies can change the source of their employees’ salaries to maximize this deduction.
“If employees are paid by the management company, but the income is at the buildings, the cap may be half of zero,” Mintz said. “Even though they have basis in the property, if it is an older building that was bought a while ago, this may not be enough.”
3. Limits On Losses
Within the tax bill, there are two separate rules that govern losses, making them less valuable than they were under prior law. First, only $500K of losses from businesses can be used to offset non-business income. Disallowed losses get carried forward as part of the taxpayer’s net operating loss.
“If someone has an $800K loss from real estate, and $700K income from wages, interest or dividends, they will get to use $500K of the real estate losses to offset the $700K of income, meaning $200K will be taxed,” Mintz said.
The second rule limits the use of NOL deductions. NOL carryovers under the new plan can only be used against 80% of taxable income before the carryover and may not be carried back. But losses can now be carried forward indefinitely, while under prior law they could only be carried forward 20 years.
“The bill is broadly written, and as implementation approaches we expect to see guidance in some form, including regulations or technical corrections, that will clarify some of the current unknowns,” Mintz said. “Every practitioner I speak to has a different take on how the rules might be applied, and we see a lot of clients with questions on how to best prepare."
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