4 Considerations for Your 2020 Real Estate Tax Strategy
Real estate companies need to continually evolve their tax strategies to stay on top of changing tax laws and position themselves strategically for the future. With many of the beneficial tax laws for partnerships set to expire after 2025, time is of the essence to take advantage of these opportunities. The following are four important considerations for your tax strategy for 2020 and beyond.
Qualified Business Income Deduction under Section 199A
Internal Revenue Code (IRC) Section 199A is one of the most significant provisions of the tax reform law commonly known as the Tax Cuts and Jobs Act (TCJA). Section 199A introduced the qualified business income (QBI) deduction, which allows pass-through entity and individual owners to deduct up to 20% of their share of QBI, effectively reducing their effective tax rate by up to 7.4%. The IRS published final QBI regulations in January 2019 that clarified some of the more important application questions. The QBI deduction is among the provisions set to expire after 2025, so now is the time to maximize its benefits.
Besides the 199A deduction, the current bonus depreciation rules are very taxpayer friendly but begin to phase-out after 2022. A cost segregation study is a great way to maximize the current benefit of the bonus depreciation rules. Taxpayers may also utilize previous tangible personal business property de minimis rules to expense certain expenditures instead of capitalizing them.
Qualified Opportunity Zones
The IRS has issued final regulations on the Qualified Opportunity Zone (QOZ) program. Real estate groups may want to consider investing in this tax-advantaged investment vehicle. Although one of the benefits of the QOZ program for investors — an additional 5% basis adjustment for investments held at least seven years — is not available for QOZ investments after 2019, there are still major incentives for investors to contribute to the qualified opportunity fund (QOF) that supports a QOZ business. While the final regulations did not make huge changes to the rules, they did provide clarification and new favorable provisions. Gross IRC Section 1231 gains can now be invested immediately into a QOZ fund instead of netting them first with 1231 losses at the end of the year. The regulations also clarify how to invest installment sale gains.
Taxpayers can expect more IRS guidance in 2020. Final regulations for the Section 163(j) business interest limitations are imminent, which could significantly affect real estate owners. The Section 163(j) limitation, which caps the deduction for business interest expense at the amount of business interest income plus 30% of adjusted taxable income for a given year (essentially EBITDA until 2023), will clarify how the limitation applies to certain types of partnerships. Also expected are proposed regulations for the carried interest limitation, which will clarify the length of time certain partnership interests must be held before becoming subject to the more favorable long-term capital gains tax rate.
The TCJA contained several drafting errors that negatively impacted certain real estate owners. The “retail glitch” error mistakenly repealed the 15-year depreciable class life for qualified improvement, retail and restaurant property. A fix to this error was initially part of the December 2019 appropriation spending bill but was not included in the final bill signed into law. There is continued support in Congress to fix this error, as well as extending the favorable bonus depreciation rules. However, a divided Congress hasn’t been able to come together on how to address the reduction in tax revenues these measures would cause.
Preparing 2019 tax returns will be slightly less difficult than initially feared. The IRS recently delayed requirements for Schedule K-1 disclosures about certain capital account information. For 2019, partnerships should report partner capital accounts consistent with the reporting requirements for the 2018 Forms 1065 and Schedule K-1. It follows that partnerships may continue to report partner capital accounts using any method available in 2018 (e.g., tax basis, Section 704(b), GAAP, or any other method) unless there is a negative balance of tax basis in capital, in which case the tax basis capital data must be reported for 2019. Even with this delay, however, Schedule K-1 reporting will still be arduous, so real estate companies should start to analyze the effects the disclosures will have on their reporting processes.
Kenneth Tindall is a Tax Director in our Los Angeles office. Don’t hesitate to reach him directly with your questions (301.268.2045 or firstname.lastname@example.org) or contact your local CBIZ tax advisor.