February 5, 2015
Obama FY 2016 Budget on REITs and Real Estate InvestmentOn February 2, 2015, the Obama Administration released its Fiscal Year (FY) 2016 budget proposal (the Budget). The President's budget reflects the Administration's priorities and is generally viewed as the opening bid in negotiations with the Congress, which is currently controlled by the Republican party. Exempt Foreign Pension Funds from FIRPTAUnder current law, gains of foreign investors from the disposition of U.S. real property interests are generally subject to U.S. tax under FIRPTA, except in the following cases: 1) portfolio investments of not more than 5% of a listed U.S. real estate corporation's stock, including that of a listed REIT; and, 2) sales of stock in a REIT if most of its shareholders are U.S. persons. Additionally, 2007 IRS guidance overturned long-standing policy that treated REIT liquidating distributions and redemptions as sales of stock rather than property distributions, thus making them subject to FIRPTA. On the other hand, gains of U.S. pension funds from the disposition of U.S. real property interests (including interests in real estate corporations such as REITs) are generally exempt from U.S. tax. Repeal of Preferential Dividend Rule for Publicly Offered REITsThe existing preferential dividend rule can lead to the loss of the dividends paid deduction, or even the loss of REIT status for a REIT's inadvertent error, or "foot fault," in distributing dividends. The Administration proposes to repeal the preferential dividend rule for both listed REITs and public non-listed REITs. The Treasury Department would also be given explicit authority to provide for cures of inadvertent violations of the preferential dividend rule when it continues in effect and, when appropriate, to require consistent treatment of shareholders. Limit Like Kind Exchange Rules for Real PropertyUnder section 1031 of the Internal Revenue Code, no gain or loss is recognized when business or investment property is exchanged for "like kind" business or investment property. President Obama’s FY 2015 Budget proposal included a provision that would have limited the deferral of gain from real property like kind exchanges to $1 million (indexed for inflation) per taxpayer per taxable year. In December 2014, NAREIT and a coalition of real estate industry groups had sent a letter to President Barack Obama requesting that his Administration’s FY 2016 Budget proposal omit the FY 2015 like kind exchange proposal. However, the FY 2016 Budget again includes the FY 2015 Budget’s like kind proposal regarding real estate exchanges. It also would eliminate like kind treatment for art and collectibles. This proposal would be effective for like kind exchanges completed after December 31, 2015. The provision is scored as raising $19.5 billion over 10 years. Impose Financial Fee on Large Bank and Non-bank Financial FirmsThe Budget would assess a financial fee of seven basis points on certain liabilities of banks, bank holding companies and "nonbanks," such as insurance companies, savings and loan holding companies, exchanges, asset managers, broker-dealers, specialty finance corporations and financial captives with worldwide consolidated assets of $50 billion or more. Although no legislative language is currently available, according to the Treasury Department, "[t]he financial fee is designed to reduce the incentive for large financial institutions to leverage, reducing the cost of externalities arising from financial firm default as a result of high leverage." It would be effective as of January 1, 2016 and is scored as raising $112 billion over 10 years. Impose 14% Tax on Accumulated Foreign Earnings and 19% on Future Foreign EarningsThe FY 2016 proposes a one-time 14% tax on accumulated foreign earnings of controlled foreign corporations that were not previously subject to U.S. tax. The proposal would be effective on the date of enactment and would apply to earnings accumulated for taxable years beginning before January 1, 2016. The tax would be payable ratably over five years. Require Mark-to-Market Accounting for Certain Derivative Contracts and Require Current Inclusion of Market DiscountThe FY 2016 Budget would require that gain or loss from a derivative contract be marked to market yearly. A derivative contract would include any contract the value of which is determined, directly or indirectly, in whole or in part, by the value of actively traded property. A derivative contract that is embedded in another financial instrument or contract would be subject to mark to market if the derivative by itself would be marked to market. Business hedging transactions would be exempt from the mark to market proposal. This proposal would raise approximately $19.8 billion over 10 years and would apply to contracts entered into after December 31, 2015. This proposal is a narrower version of a similar provision in H.R. 1 from the last Congress (the fundamental tax reform bill introduced by then-Chairman Dave Camp (R-MI)). It is not clear how this proposal would apply to many ordinary business transactions, such as "To Be Announced" contracts to purchase mortgage-backed securities issued by Fannie Mae, Freddie Mac, and Ginnie Mae in connection with the financing of single family homes. Impose Corporate Tax on Publicly Traded Partnerships Invested in Fossil FuelsPublicly traded partnerships (also known as "master limited partnerships," or PTPs) are generally subject to the corporate income tax. However, if they derive at least 90% of their gross income from depletable natural resources (including fossil fuels) or real estate or commodities, they are taxed as partnerships. ContactFor further information, please contact NAREIT's Senior Tax Counsel, Dara Bernstein, at dbernstein@nareit.com or NAREIT's Executive Vice President & General Counsel, Tony Edwards, at tedwards@nareit.com. |