The tax reform bill — now the Tax Cuts and Jobs Act (TCJA) — that President Trump signed last December has run its course for a full year now. As data previously presented in ‘14 Tax Reform Changes That Could Impact Your Real Estate Finances’ shows, real estate investors came out ahead.
Nevertheless, taxes related to real estate can balloon considerably. And, this adversely affects the bottom line of even the most established real estate players. This is why it is important for real estate companies to identify ways to reduce their tax bill.
Fortunately, there are tax breaks available for large-scale property owners to reduce their tax bill. Here are five of these tax breaks to consider:
Bonus Depreciation Deduction
One of the provisions of the TCJA, as noted by Forbes, is a 100% first-year bonus depreciation deduction for both investors and property buyers for qualified properties. This particular tax break is retroactive for 2017 tax filings, though the full 100% deduction won’t be available in perpetuity. Starting in 2022, the deduction will be reduced by 20% every year, until it is ultimately phased out. This means the deduction will be 80% in 2022; 60% in 2023; 40% in 2024; 20% in 2025; with no deduction in 2026. This tax break is an excellent tax-saving mechanism for businesses as it allows for an immediate first-year deduction on business-related properties. Plus, it helps in spreading out the cost of long-term assets. This encourages entrepreneurs to invest more in capital assets as they can qualify for this particular tax break.
The Internal Revenue Code (Section 1031) explicitly lays out the rules for usage of the 1031 Exchange. This section “allows real estate owners to trade up or diversify their investment portfolios without taking any immediate tax hit” even with the TCJA. In other words, restructuring a real estate portfolio can reduce tax exposure. This equates to a reduction in taxes as well. An added benefit is years of compounding gains and double-digit tax savings. This particular tax break had been in danger of being scrapped with the TCJA but was ultimately retained.
Section 179, Doubled
Pre-TCJA, Section 179 already allowed business owners to take advantage of tax deductions for properties (e.g., a building or a lot) and equipment (e.g., cars, machines, etc.) used for business purposes. Now, that benefit has been doubled post-TCJA. Effective January 1, 2018, businesses could deduct right away up to $1 million for capital property purchased. Even better, it encompasses improvements done on real property such as expansion or the installation of elevators and/or escalators.
199A Pass-Through Deduction
The 199A pass-through deduction as pointed out by US News is “one of the most significant provisions of the tax bill affecting real estate investors.” This tax break, according to wealth planning expert Chris Pegg, “will allow many individuals at the highest tax brackets to effectively reduce their tax rate from 37% to 29.6%.” But what exactly is it? Simply, the 199A pass-through deduction is a tax break that allows real estate owners that use pass-through entities to deduct 20% off of their net rental income. There is, however, a caveat to taking advantage of the 199A: It can get quite complex.
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A Break from Transfer Tax
The transfer tax, as the name already suggests, is a tax imposed upon the transfer of property from the owner to the buyer. For a single one-off transaction, this may not be as burdensome. However, with multiple transactions, the complexities can very well pile up, especially for the seller, who according to the Yoreevo transfer tax guide is mandated to pay this tax. That
Similarly, transactions where beneficial ownership remains the same, are also exempt from transfer tax. Maryland, on the other hand, offers what is essentially a first-time buyer’s exemption where the transfer tax, or at least a portion of it, is waived for first-time property buyers. Notably, transfer taxes don’t exist in Mississippi, Missouri, New Mexico, North Dakota, and Wyoming.
Yes, Benjamin Franklin was right. Life and taxes really are the only things certain in life. But at least there are tax breaks, which can somehow, someway reduce the final tax tab of real estate investors.
Did you find some of these strategies useful? What other strategies are you implementing to reduce your tax burden. Contact STRATAFOLIO for support in managing your commercial real estate portfolio.