The commercial real estate industry, in which many online marketplace investors participate, remained largely unscathed by the recent House proposal of changes to the Internal Revenue Code. Investors may actually benefit from some of the proposals, and changes to the individual mortgage interest deduction and other changes may end up benefitting the market for value-add multifamily projects that such online marketplaces often feature.
No Changes to 1031 Like-Kind Exchange Tax Deferrals for Real Estate
Investors that re-invest the sales proceeds from investment properties into replacement investment properties have long benefitted from the tax deferrals on gains that qualify for “like-kind” exchanges under Section 1031 of the tax code. While the House proposal eliminates such tax deferrals for personal property, it leaves the tax provision unchanged for real estate investments.
Limitations on Sponsor Business Interest Deductions Are Also Avoided
The original GOP House blueprint for tax reform proposed eliminating the corporate interest deduction in exchange for allowing companies to expense capital expenditures right away. Because property loans make up a significant portion of a real estate project’s overall capitalization, such a deduction elimination could have been very problematic for real estate companies.
Under the revised proposal, most business will still be able to deduct interest, but the deduction would be limited to 30 percent of their earnings before interest, taxes, depreciation, and amortization (EBITDA). But that limit will not apply to commercial real estate.
No Changes to Carried Interest Taxation
Real estate developers make much of their money from taking a “promote” interest in their projects – a portion of the profits beyond those otherwise attributable to their invested capital – which is treated similarly under the tax code as “carried interest,” a similar compensation mechanism used by hedge fund and private equity managers. This compensation has typically been taxed at a lower rate than ordinary income, and some observers (including, earlier, President Trump) had called for the elimination of that disparity.
The House proposal does not address carried interest. The issue may become moot anyway if the proposed new tax rate for pass-through business income (discussed below) is enacted.
Look for part 2 on Saturday, November 11, 2017.
Neither RealtyShares, Inc. nor North Capital Private Securities Corporation, as institutions, advise on any personal income tax requirements or issues. Use of any information from this article is for general information only and does not represent personal tax advice, either express or implied. Readers are encouraged to seek professional tax advice for personal income tax questions and assistance.