Tax reform advances

Nareit
November 10, 2017

Senate Finance Committee Releases its Tax Reform Bill

House Ways and Means Committee approves its tax reform bill

Yesterday, the Senate Finance Committee released a detailed description of its tax reform bill, entitled the Tax Cuts and Jobs Act (Senate bill). As is typically the case, the Senate Finance Committee did not release legislative language and probably will not do so until after it approves the bill in concept. Accordingly, many details are unknown and a number of ambiguities exist. 

In addition, the House Committee on Ways and Means yesterday voted along party lines to approve its tax reform bill, H.R. 1, also entitled the Tax Cuts and Jobs Act (TCJA), as amended. The major provisions of H.R. 1, as passed by the committee, relevant to REITs and real estate investment are substantially unchanged from those described in the Nov. 2, 2017 Nareit Alert. A table comparing the current versions of the House and Senate bills appears at the end of this alert.

Major provisions of interest to REITs and real estate investment described in the Senate bill are as follows:

Individual Income Tax Rates and Brackets. The Senate bill proposes retaining seven tax rate brackets that generally would apply at higher thresholds; proposed rates would be 10%, 12%, 22.5% (down from 25%), 25%, 32.5% (down from 33%), 35%, and 38.5% (down from 39.6%) (all before ACA taxes). The proposal would be effective for taxable years beginning after Dec. 31, 2017.

Maximum Corporate Tax Rate Lowered to 20 Percent. The Senate bill proposes reducing the 35% maximum corporate tax rate to a maximum 20% corporate rate, effective in 2019.

Pass-Through Business Rate Lowered through Deduction. Under the Senate bill, individuals generally may deduct 17.4% of “domestic qualified business income” of a partnership, S corporation, or sole proprietorship. In addition, REIT dividends (other than capital gain dividends) are qualified items of income eligible for the deduction by the individual taxpayer. This deduction would be applicable for taxable years beginning after Dec. 31, 2017.

Limitations on Interest Deductibility; Real Property Trades or Businesses Excluded from Limit Unless Taxpayer Elects Shorter Cost Recovery Periods. The Senate bill proposes limiting a taxpayer’s net interest expense deduction to 30% of adjusted taxable income. The Senate bill would allow a real property trade or business to elect out of this interest limit so long as it uses a 40 year recovery period for real property and a 20 year recovery period for related improvements described below. The limit would apply to taxable years beginning after Dec. 31, 2017.

Expensing for Equipment, Reduced Cost Recovery Period Available for Buildings and Tenant Improvements. The Senate bill would allow taxpayers that do not use the real property trade or business exception to limits on the deduction of business interest to use a 25-year and 10-year straight-line cost recovery period for structures and tenant improvements, respectively. Also, the Senate bill would temporarily allow full expensing of tangible personal property for five years. The changes would apply, generally, to property placed in service in taxable years beginning after Dec. 31, 2017.

Like Kind Exchanges Retained for Real Property, but Eliminated for most Personal Property. The Senate bill would continue the deferral of gain from the like kind exchange of real property, but would tax the gain on the like kind exchange of most personal property, effective generally for exchanges completed after Dec. 31, 2017.

International Provisions. Like the Ways and Means-passed bill, the Senate bill proposes moving the United States from a worldwide to a territorial tax system, with provisions included to prevent corporate base erosion. In addition, deferred foreign income of controlled foreign corporations would be taxed at a 10% rate for earnings and profits (E&P) comprising cash or cash equivalents and at a 5% rate for remaining E&P. This provision is effective for the last taxable year of a controlled foreign corporation beginning before Jan. 1, 2018.

Other Provisions. The Senate bill would make many other significant changes to the tax code, such as eliminating the ability to offset dividend and interest income with partnership or S corporation net active business losses; doubling the estate tax exemption after 2017; ending the corporate and individual alternative minimum tax after 2017; nearly doubling an individual taxpayer’s standard deduction, while repealing many other itemized deductions, other than charitable contributions; retaining the interest deduction on existing mortgages and mortgages for a newly acquired principal and second residence up to $1 million of debt; and ending the deductibility of an individual’s state and local income and property taxes other than those paid in a trade or business.

Outlook. The Ways and Means-passed bill is expected to be considered by the full House next week, probably on Thursday. The Senate Finance Committee will begin the markup of its legislation on Monday, expected to conclude by Thursday.

Assuming passage in the House and by the Finance Committee next week, it is expected that the Senate bill will be considered on the Senate Floor at the end of the month. Overall, the goal is to complete tax reform by mid-December.

Nareit has been and will be actively engaged in the process and it will continue to keep you up-to-date on significant tax reform developments.

For more information, please contact: Nareit's EVP and General Counsel Tony Edwards, SVP, Policy & Politics Cathy Barré, or SVP and Tax Counsel Dara Bernstein
 

  TJCA (passed by House Ways and Means Committee) Senate Bill (based on description released by Senate Finance Committee)
Provision    
Individual income tax rates Would create four personal tax rates of 12%, 25%, 35%, and 39.6% that generally would kick in at higher thresholds than current law, effective in 2018; also includes a 9% rate for pass-through income up to $75,000 Would retain seven tax brackets: generally would apply at higher tax brackets, proposed brackets would be 10%, 12%, 22.5% (down from 25%), 25% (down from 28%), 32.5% (down from 33%), 35%, and 38.5% (down from 39.6%)
Maximum corporate tax rate Would reduce from 35% to 20%, effective in 2018 Would reduce to 20%, effective 2019
Pass-through business rate Would reduce to 25% the tax rate applied to business-related income from pass-through entities, such as partnerships, limited liability companies, S corporations and REITs, effective in 2018 Permits individuals to deduct 17.4% of qualified domestic business income, including REIT dividends, equating to a 31.8% maximum rate, effective in 2018.
Business interest deductibility Net business expense deduction retained for real property businesses, including REITs; otherwise limited to 30% of “adjusted taxable income” (similar to EBITDA) Generally limited to 30% of adjusted taxable income (more restrictive than House definition). Exception applies to REITs and other real estate trades or businesses that do not elect shorter cost recovery periods (see below)
Expensing 100% expensing for equipment; current law for structures 100% expensing for equipment; Cost recovery periods for structures reduced to 25 years and qualified tenant improvements reduced to 10 years, so long as the taxpayer does not use the real property business interest exception
Like kind exchanges Retained for “real property” Retained for “real property”
International provisions Territorial system with certain base erosion provisions. As amended, tax impose on certain U.S shareholders (including REITs) with respect to deferred foreign income of controlled foreign corporations would be taxed at a 7% rate for earnings and profits (E&P) comprising cash or cash equivalents and at a 14% rate for remaining E&P Territorial system with certain base erosion provisions. As amended, tax impose on certain U.S shareholders (including REITs) with respect to deferred foreign income of controlled foreign corporations would be taxed at a 5% rate for earnings and profits (E&P) comprising cash or cash equivalents and at a 10% rate for remaining E&P
Other provisions As amended, estate tax repeal delayed until 2025; eliminates individual state and local income tax deduction, but retains property tax deduction with cap to $10,000 Would stop the use of partnership or S corporation net active business losses against dividend and interest income; would retain estate tax but doubles exemption; would retain medical expense deduction, R&D tax credit, low income housing tax credit and certain education relief provisions while eliminating many other individual deductions (including state and local income/property taxes); would retain deduction for existing mortgages and mortgages on newly-purchased principal and second residences of up $1M
Outlook House floor expected to consider bill next week Senate Finance Committee expected to mark up bill next week

 

 
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