The dizzying pace of writing, discussing, reviewing, and passing the U.S. Tax Cuts and Jobs Act of 2017 has made it tougher to determine how its changes will affect the commercial real estate industry. Many of the 2017 tax act’s changes already started in 2018, but many issues will require further refinement to understand their idiosyncrasies. Many of the changes will sunset after 2025.
The 2017 tax act provisions apply to both individuals and organizations.
Under the new rules for individuals, those filing a single return making under $9,525, the rate on the taxable income is 10 percent. On the other hand, for those individuals with taxable income of more than $500,000, the reduced rate is set at 37 percent – slightly less than before.
For those filing joint returns, the 10 percent rate applies for a taxable income amount of under $19,050. The highest rate of 37 percent tax applies to those with taxable income of more than $600,000.
Beneficial Corporate Tax Rates
To address the issue of competitive tax rates for corporations, the 2017 tax act reduces the highest corporate rate from 35 percent to 21 percent, starting in 2018.
The expensing of capital expenditures and use of cost recovery has allowed a business taxpayer with qualified property to deduct the cost of most personal, nonresidential property, which was employed in business. Immediately before the 2017 tax act, this rule allowed taxpayers to deduct up to $500,000 of acquired, qualified, personal property rather than applying cost recovery to the property during a given number of years.
The 2017 tax act gives taxpayers even more immediate deductions. Under the provisions of the 2017 tax act, taxpayers may deduct up to $1 million for qualified property. The benefit of such current write-off is subject to limits, if the taxpayer acquired too much of the qualifying property. In such instance, the current deduction could be lost.
However, the phasing out of such property deductions was increased to $2.5 million under the 2017 tax act. If the $2.5 million amount is not exceeded, there is no reduction in the use of the current qualifying property write-off. For example, a taxpayer might place in service $800,000 and deduct the whole amount under the 2017 tax act.
Under Internal Revenue Code Section 179, most of the property is nonresidential, business (personal) property, and not real estate. However, exceptions exist where qualified retail, residential, and leasehold improvements may fall within IRC Section 179. Further, fire protection, air conditioning, and roof work also may fall within IRC Section 179.
Under an additional rule under IRC Section 168, qualified taxpayers can write off 100 percent of capital expenditures for qualified new and used property for the taxpayer’s business use.
IRC Section 1031 has existed since the 1920s. Fortunately, members of the U.S. Congress concluded, under the 2017 tax act, that Section 1031 would not be repealed for real estate. However, the 2017 tax act did repeal the Section 1031 rule for exchanging personal property.
In some instances, taxpayers have received carried interest in each project that they directed. In such cases, the taxpayers often claimed that any gain from the disposition of the interest was subject to tax at the long-term capital gain rate.
The 2017 tax act addressed this issue by holding that if the interest might otherwise be qualified for long-term capital gain, such interest would not be taxed as long-term capital gain unless the carried interest was held for a minimum of three years.
Alternative Minimum Tax
Ever since the passage of the Alternative Minimum Tax, many experts have asked why the AMT should exist. While the individual AMT was not repealed, Congress did repeal AMT for corporations, which is effective in 2018.
Similar to the 21 percent corporate tax rate, this change will make U.S. corporations more competitive globally, and more likely to want to undertake more business within the U.S.
Of course, there are many other changes under the 2017 tax act; commercial real estate professionals overall have plenty to celebrate. The new act will spawn new legislative proposals and refinements.