One of the provisions contained in the Tax Act that impacts real estate is one that limits the deductibility of interest expense. The provision generally disallows a deduction for net interest expense that exceeds 30 percent of the business’s adjusted taxable income (basically EBITDA before 2022, depreciation and amortization deducted thereafter).
It is important to note that a “real property trade or business” (those entities involved in real property development, redevelopment, reconstruction, acquisition, conversion, rental and some select other areas) may elect out of the limit, but the election is irrevocable and, if made, ADS depreciable life must be used for real property and qualified improvement property. Additionally;
- Any interest expense not currently deductible may be carried forward indefinitely.
- Taxpayers with average gross receipts of less than $25 million are generally exempt from the new provision.
- For a partnership, the interest limitation is determined at the partnership level, not at the partner level.
There are numerous issues related to the provision which need clarification, among them…
- The treatment of entities that participate in both real estate and other activities.
- How will a parent Co.’s borrowing for an investment held in a subsidiary be treated?
- What is the risk that positions taken on 2018 tax returns may later prove to be detrimental when final guidance is issued?
These interest(ing) provisions may have negative implications for entities which are highly leveraged and those using debt to fund growth. SquarMilner is well positioned to ensure that your entities’ structuring and borrowings are optimized to minimize the impact of the new interest provision. Additionally, considerations such as the state tax implications, new depreciation provisions and the new international tax provisions must be considered as part of the tax planning or modeling process. We can help ensure that your company maintains maximum profitability with minimum tax impact in a time of significant tax change.
Please call Tom Ohlgren at 818.981.2600 to discuss strategies to minimize the effects of the changes to interest deductions.