All Forum Posts by: Kory Reynolds

Keep it simple.

With real estate it almost never makes sense to acquire LLC units over acquiring the assets.

When you acquire LLC units, you are also acquiring any unlisted liabilities of that LLC - say someone had a trip and fall 3 weeks before you bought it, and then they sue the LLC a week after you close on the purchase... now it's your problem. There are some states (like NH) with some unique issues as well about the step up in basis of the underlying asses - where you could end up inheriting their state tax liability. You may also be acquiring leases that you don't want to be stuck in.

Generally if you acquire LLC units, you will be able to at least get a federal basis step up in the underlying assets.

Also generally when you acquire LLC units, most states still trigger real estate transfer taxes. State pending, this could also trigger the re-assessment anyways.

So if you want to get creative, make sure you hire some competent attorneys to advise you. My recommendation is unless there is a REALLY good reason for doing LLC units instead...just buy the assets.

I agree with @Michael Plaks - having them provide financial and tax strategy together is not necessarily a good thing.

Interesting to note - all of the largest asset management / financial advisory firms I work with...none of them do tax work, they all coordinate with a tax firm to address those needs.

There are true "fee only" financial advisors out there.  Depending on their level of certification / registration, they have a true fiduciary duty that they are required to disclose to you exactly how they are getting compensated - including if they are getting commissions on any of the products.  In my own personal finances, I do work with a fee only advisor - I pay him a fixed fee out of my pocket based on net worth, and he doesn't collect anything for investment in particular funds, particular brokerages, financial products, etc. He has his preferred vendors, but you can continue to use your own brokerage with no connection to him if you are so inclined.  This is one of the reasons I hired him - it helps cut down the incentives to push towards any particular products/plans/goals because of their own financial gain.

That said, $6k a year is really in the ballpark of what our firm would be at for our minimum fees, which would be tax strategy and compliance filings - so that fee may or may not be reasonable depending on what they are doing and where you are located.

 Exactly on the first point - in total the shareholder recognizes $1m of gain after selling the property for $1m in my example - $900k from the property deemed sale, and another $100k from distributions in excess of basis.

I didn't discuss 1245 - I discussed 1239, very different.  You can either go read 1239, or check out the plain english description of this exact issue in the article below under the last heading.  If the property is depreciable in the hands of the related acquirer, the gain on the deemed disposition between the related parties is ordinary.   It overrides the 1231 treatment you are arriving at.  If the property is not depreciable (IE the allocation of the purchase price to land), then it can escape ordinary treatment, but it also isn't depreciable.

https://www.thetaxadviser.com/issues/2011/apr/casestudy-apr2...

If you find  a cost seg provider that legitimately carves out 60% of the purchase price of a building to short life property, let me know who it is  My experience is more like 20-30% on average of the building basis from an architect based study unless it is something like a Hotel/Motel or Mobile Home / RV Park.

Three things to be HIGHLY aware of if one pursues this route.

One - he did note he has $0 of tax basis in the S-Corp.  Assuming the building has land basis, there would be a gain on distribution in excess of basis.  IE $1m real estate value,, $100k of land basis - $900k gain.  $900k gain increases $0 of S-Corp stock basis to $900k.  Then distributes $1m of proceeds - recognizes $1m gain on distribution in excess of basis.

Second - IRC 1239.  When property is distributed from an S-Corporation, and is depreciable in the hands of the acquirer, that gain is (very likely) going to be ORDINARY - ouch!  No 1231 treatment.

Third, with the cost seg study, you only get bonus depreciation if you didn't previously have an interest in the property.  I've only dealt with this directly for partnerships, but it doesn't seem like a far leap that this also would apply to distributions from an S-Corp.  If my initial guess is right (someone else feel free to research), no bonus depreciation would be allowed.  In my example of a $1m building, the taxpayer recognizes $1m of gain, much of that ordinary, and then maybe gets a $100k depreciation adjustment on the outside....so they are getting nailed with $900k of mostly ordinary income.

Exactly it - it is that process of moving the property from a corporation to a pass through entity that will trigger that gain, and it is NOT the conversion of that entity for state law purposes to an LLC that triggers the gain.

While you might think of this wholly owned S-Corp as "just you", for tax purposes it is entirely separate from you.   

As you surmise, there is no way to avoid the deemed gain on transferring it out of the Federal corporate structure, into a pass through structure.

There are potential ways to to transfer out the future appreciation while leaving the bulk of the 'old' appreciation in the S-Corp, but no way to get that 'old' appreciation out of the corp without triggering a gain.

I agree fully with Andrew.

You are confusing the legal laws under which an organization is structured, which is nearly always dictated by a given state, with the federal tax structure that the entity is operating under, which is dictated under the Feds.

For income tax purposes an LLC is most often either a disregarded entity (wholly owned), or a Partnership (multiple owners).  That said, an LLC could elect to be treated for US Tax purposes as an S-Corporation or a Corporation.  An LLC is not a federal tax structure, it is a State derived structure to limit liability.

It is not the change of being an "Inc" to an "LLC" that is triggering the deemed gain that we are warning you of. It is the change in tax structure from an S-Corporation to a disregarded entity (what an LLC wholly owned by you would be for tax purposes). It is the removal of the assets within the Corporate Tax Structure to a Non Corporate Tax Structure.

The article you cited is entirely about changing the state legal structure, the article does not discuss any of the ramifications of also changing the federal tax structure.

 Ha! I wish I had a few more!

I had also held this same opinion until at least 3/4 years ago, I was taking a CPE that I was pretty sure I would know everything.  Then the presenter (I believe it was Greg White CPA, on CCH), dropped this nugget, and I spent the next too many hours verifying it for myself.  So I wish I could take credit for finding it, but kudos to Greg.

You are correct that if you sell it in the S-Corp, or sell it outside of the S-Corp, your tax will generally be the same. Potential asterisk on pulling that money out of the S-Corporation.

The benefit of not having real property in an S-Corporation is flexibility (don't have the same deemed gain rules if pulling it out of a partnership), basis in the debt (in your case you don't have any debt).

You could still end up with some double tax on this.  Example - say the S-Corp basis in this property is $100k, and it is worth $1m.  Your basis in the S-Corporation is $0.  lf you sell the property for $1m, the S-Corp passes through the $900k gain to you - your basis is now $900k.  Then, you distribute the $1m of proceeds - you have distributed $100k more than you have basis ($900k less the $1m) - you recognize $100k of capital gain for distributions in excess of basis.  So you end up paying tax on a full $1m, even though the gain on the sale of the property was only $900k.

The benefit of you moving it out of the S-Corp, or at least the future appreciation out of the S-Corp, is that as structured, when you pass, your heirs will have a basis step up in the S-Corporation, NOT the property - so if they sell the property, they will need to liquidate the S-Corporation in that same year to not recognize a large gain on the property sale / to realize that basis step up that occurred in the S-Corp stock.

The answer...you can't.  

Removing any appreciated property from an S-Corporation triggers a deemed gain on those assets by the S-Corporation (hence also by you) - it's as though you sold it at fair market value, so you get the joy of paying the taxes on the appreciation while receiving no cash.  The other joy you can have is that if you have a very low basis in your S-Corporation given it was previously a C-Corp for decades, you could end up up with a distribution in excess of your stock basis, thus triggering a gain there as well.  The icing on top of these joys - to the extent the property is depreciable in the hands of the recipient - it is an ORDINARY gain, and not a capital gain.  Even better...you can't take bonus depreciation on your newly acquired asset to help offset gain since it was acquired from a related party.

There is a way to effectively transfer out the future appreciation, but your historical appreciation is stuck in the Corporation - you can't get that out without triggering that gain.  Still depending on your estate planning, going through these jumps to save your historical appreciation (thus also a step up in the real estate upon death) could be worth it.

As long as you are not a "material participant" in the activity, then it will be considered Passive. To do that, as long as you don't hit any of the standard tests (just google "material participation tests" to find the 7 tests), you are passive, and you can offset that income with your other passive losses.

It will all come down to the nature of your involvement.  If you are truly just writing a funding check, and collecting a check at the end, most likely you'll be considered Passive.