It’s in every article, in every conversation, and on everybody’s mind—tax reform. The Tax Cuts and Jobs Act (TCJA) is a historic piece of U.S. legislation that may transform the way commercial real estate owners do business. This article takes a closer look at the some of the most relevant TCJA provisions, and CREW Network experts weigh in on how this legislation may impact our industry. Highlights include:
Bonus depreciation boosted to 100% through 2022, with acquisitions now eligible
Elimination of property categories QLI, QRI, and QRIP
Expansion of assets eligible for Section 179, accompanied by increased dollar limitation
Establishment of Section 199A deduction for certain “pass-through” entities
Let’s start with great news—the TCJA comes bearing the gift of bonus depreciation, a tax incentive that allows a business to immediately deduct a large percentage of the purchase price of eligible business assets. Bonus depreciation was established at 50% for TY 2017 under the Protecting Americans from Tax Hikes Act of 2015 (the PATH Act), which was created to protect taxpayers against fraud and permanently extend many expiring tax laws. However, the TCJA increases bonus depreciation to 100% for properties acquired and placed-in-service after September 27, 2017, all the way through 2022, with a subsequent gradual decline. Furthermore, the TJCA eliminates the requirement that property must be new to be bonus-eligible.
In a tremendous boon to real estate owners, acquisitions are now eligible for bonus treatment as well. This boosts the potential of a cost segregation study on an acquired property, and many clients have chosen to revisit these opportunities, increasing their first-year tax savings by over 500%. September 27, 2017 is very significant in determining proper application of bonus rules, and taxpayers do need to be aware of the written binding contract rules as well as what constitutes “substantial” construction.
Angela Parziale, CPA, MST, and a shareholder at accounting firm Walter & Shuffain, states, “We see great benefit from the expanded bonus depreciation deductions for our commercial developer and owner clients. However, the TCJA has also inserted a business interest limitation that has the potential to limit a taxpayer’s ability to take bonus depreciation. For businesses with average annual gross receipts greater than $25 million, interest deduction will be limited to 30% of their adjusted taxable income. Any limited interest would be carried forward to future years. If the interest deduction is significant to a taxpayer, the business can forego the interest limitation by electing to use Alternative Depreciation System (ADS) depreciation lives.”
Parziale, a CREW Boston member, warns, “While guidance is still pending, this may eliminate the availability to take bonus depreciation on qualified improvements. We are working with our largest clients to analyze which entities are affected, and which deductions have more benefit in order to make decisions. We are also waiting for IRS guidance on whether aggregation rules apply in determining the gross receipts exposure at the entity level.”
In another promising development, the TCJA has streamlined the treatment of certain real property, eliminating the property categories of Qualified Leasehold Improvements (QLI), Qualified Restaurant Property (QRP), and Qualified Retail Improvements (QRIP) with all their associated restrictions. The TCJA established a “new” Qualified Improvement Property (QIP) that encompasses and replaces the other property categories, and Congress intends to assign the “new” QIP a 15-year Modified Accelerated Cost Recovery System (MACRS) class life (technical correction anticipated). This should be another win for property owners—the “new” QIP boasts a shorter recovery period with no associated limitations, allowing taxpayers to depreciate more assets more quickly than ever.
However, the application of the matter is not straightforward, as Lisa Keane, past president of CREW Philadelphia and director of private business services at accounting firm EisnerAmper, elaborates.
“While this is intended to be a significant benefit for businesses, its application currently remains unclear. In the Joint Explanatory Statement released in conjunction with the TCJA, the Conference Committee stated that QIP placed in service after Dec. 31, 2017 would be eligible for 15-year MACRS depreciation. However, the actual bill itself does not contain the reference necessary to include QIP among the property eligible to use either the 15-year MACRS cost recovery, or the 20-year ADS class life. This omission has consequences for businesses making QIP improvements to real property, because it eliminates QIP from eligibility for 100% bonus depreciation and requires it to be depreciated over a 39-year class life.”
Keane goes on to caution, “Until we know if and when there will be a technical correction, this uncertainty affects anyone in a real property or trade business (RPTB) with average annual gross receipts in excess of $25 million over the prior three years because of the interplay between 100% bonus depreciation and the new rules limiting business interest.”
In other news, the TCJA has significantly expanded Section 179 Expensing, creating yet another valuable strategy for the thoughtful property owner. Effective Jan. 1, 2018, the TCJA expands the eligible assets to include the following improvements to nonresidential building systems placed-in-service after the building was placed-in-service:
In another boost, the TCJA increases the dollar limitation of the election from $510,000 to $1 million beginning in TY 2018. Furthermore, the exclusion of tangible personal property used in connection with lodging facilities has been eliminated, meaning that assets used in hotels, motels, and dormitories may now be eligible for expensing under Section 179. Linda Guendelsberger, CPA, managing partner of accounting firm LG Legacy Group, explains that “Section 179 does have the newly increased investment ceiling of $2.5 million for 2018 and will include the real estate spend for the above mentioned real property items when Section 179 is elected on them.”
Guendelsberger, a CREW Philadelphia member, notes that the business income limitation on Section 179 is still in play, and points out that the overall taxable income for the year will have to be considered when deciding between Section 179 expense over 100% bonus.
Believe it or not, the TCJA has even more to offer property owners. The new “pass-through” deduction (Section 199A) is a real gift in its own right, and even more lucrative when used in tandem with other strategies. Section 199A allows pass-through entities engaged in a specified trade or business—real estate LLCs or Partnerships, for example—to deduct up to 20% of Qualified Business Income. Though the deduction is capped at 2.5% of the property’s unadjusted acquisition price (basis), the savings could be very significant, and this is yet another potential strategy the TCJA brings to the table.
The Tax Cuts and Jobs Act has opened up tremendous opportunity and has made cost segregation and related studies more impactful than ever before. Having a trusted partner is more crucial now than ever, and CRE professionals are encouraged to consult with tax professionals to ensure that all possible opportunities are being fully leveraged.
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Terri S. Johnson is the co-founder and managing partner of Capstan Tax Services, a professional services firm that helps commercial real estate owners and their representatives navigate tangible property and fixed asset regulations and maximize the tax benefits of real estate holdings. After 23 years in the world of commercial real estate and over a decade spent building and managing a cost segregation affiliate, she established an extensive network of clients and collaborators who trusted her implicitly. Wanting to further develop and nurture these relationships, Johnson chose to launch an independent firm devoted to offering creative and customized client solutions. She is a past president of CREW Philadelphia and a former CREW Network board member.