Dear ICSC Member,
In the wee hours of this morning the U.S. Senate passed its version of a tax reform bill by a 51-49 margin along party lines. Senator Bob Corker (R-TN) was the only Republican to vote against it due to his concerns about adding to the budget deficit.
The only amendment on carried interest that was voted on was offered by Sen. Tammy Baldwin (D-WI). It was defeated.
Modifications approved overnight that potentially impact real estate include:
- A deduction up to $10,000 in property taxes paid to state and local governments (SALT). This provision reflects the treatment of property taxes in the House-passed bill.
- Increasing the deduction for small business owners' qualified business income from 17.4 percent in the underlying bill to 23 percent. However, the deduction won't be widely available to commercial real estate firms or partnerships that rely on "contractors" rather than "employees."
- Extending 100 percent expensing for qualified business property by four more years, gradually decreasing over time, adding to the five years included in the underlying bill. We believe most ICSC members would opt out of expensing to retain interest deduction.
There are two possible next steps: 1) Members of the House and Senate meet to reconcile their two different approaches. The final product that emerges is then voted upon by both chambers; 2) The House simply yields to the Senate version. This second option presents a quicker resolution, with only the House having to vote. We expect the reconciliation process to begin this coming week.
ICSC wants to thank you for responding to its various alerts to shape the outcome of tax reform. More than 7,000 emails were sent to the House and Senate during the past few weeks. Your emails and calls helped stave off attempts to make the carried interest and active loss limitations provisions more severe. There is nothing like hearing from constituents and your actions had a very beneficial effect!
Senior Vice President, Global Public Policy
@Joel Owens what does the bill say about the 1031 exchange, any changes?
I think they are keeping that intact but not 100% sure. The House has to agree as well and lots of other things have to happen.
@Carol Bloom Both the House and Senate tax reform bills include no proposed changes to 1031 exchanges of real property. They do, however, propose to repeal like-kind exchanges for personal property. Some examples of exchangeable personal property could be business assets, aircraft, artwork, coin collections, construction equipment, and fleets of autos or trucks.
@Edward Fernandez thanks for your comments. I know the bill isn't final yet, but good to hear the real estate portion of a 1031 is still intact.
Piggybacking off of @Joel Owens . Here are some additional modifications:
Both the Senate and House versions of the bill include matters important to our industry, including:
- Maintaining Section 1031 like-kind exchanges for real estate.
- Maintaining the deductibility of interest on debt for those involved in real property trades or businesses, including CRE development.
- Preserving capital gains tax treatment of carried interest for real estate practitioners, but requiring that assets be held for three years or more. Senate amendments that would have eliminated capital gains treatment for carried interests completely were defeated.
- Reducing corporate tax rates to 20 percent from the current 35 percent, not taking effect until 2019 in the Senate proposal.
- Doubling the estate and gift tax exemption levels (with inflation adjustments) from the current $5.49 million for individuals or $10.98 million for married couples. The Senate version would not completely repeal the estate tax; the House version phases it out entirely by 2024.
While the Senate amended its original version to bring it more in line with provisions included in the House bill, several important differences remain, including:
- Taxation of pass-through entities: While the House bill establishes a new pass-through rate of 25 percent, the Senate bill establishes a 23 percent deduction for most pass-through income (increased from 17.4 percent in the original bill). Unfortunately, the Senate bill limits the total deduction to half of the W-2 wages paid by the business. The House version is preferable, as the economic activity of many real estate businesses involve using contractors and outside services rather than direct employees.
- Historic Preservation Tax Credit: The House would completely eliminate the credit. In contrast, the Senate bill maintains the 20 percent tax credit for rehabilitation expenditures of certified structures but spreads it out over five years. The current 10 percent credit for non-certified structures would be eliminated. We support maintaining current law on the rehabilitation tax credit.
The Senate bill also reduces the depreciation schedules for commercial and residential real property (39 and 27.5 years respectively) to 25 years for both, while the House bill leaves them as is. That could have some significant cash flow implications!
The depreciation schedule in the senate bill is a massive change that combined with the new rental income taxation rates, could increase cash flow something like 12.6% for investors in the top bracket and non-residential commercial properties.
In low cap rate areas this could really produce some crazy high taxable losses for the top income earners. Such as NY City Sky Scrapers.
Multifamily does not benefit as much and I think there will start to be some action as it has been a quiet 12 months for most markets in that sector.
My personal thoughts, I like the senate bill much better but only for selfish reasons.
I have a feeling this is going to be like the start of 83. 3 good years of a juiced economy, brakes get stomped in 86 with the reform act and then I'm sure some you remember 87. I also think Trump is a 1 term president and nothing would delight him more than to claim 4 years of a prospering economy. After that, not his problem.
@Tom Wong the depreciation lives are being reduced, but keep your eye on what they do with Section 179 deductions. That could have a huge impact on small real estate owners.
What I find interesting in the bills is that for years clients have been told that S corps and Partnerships were the only route to go. These new plans might make C corps more attractive. Does anyone else think we'll see a whole bunch of businesses either converting or starting out as C corps?
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