2020 Year-End Tax Guide

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THE MARCUM 2020 YEAR-END TAX GUIDE

Property, Pandemic and Politics: “PPP” for the Real Estate Industry

These three temporary modifications may be helpful to many real estate ventures, allowing them to take advantage of higher interest expense deductions. These deductions could prove especially beneficial for those businesses operating with higher leverage. With the drop in interest rates due to the pandemic, many deal organizers are looking to restructure debt, with lower interest costs. EXCESS BUSINESS LOSSES AND NET OPERATING LOSSES (NOLs) The TCJA limited a non-corporate taxpayer’s ability to deduct “excess business losses” for tax years beginning after December 31, 2017, and before January 1, 2026. Excess business losses are the amount by which the total deductions attributable to all of a taxpayer’s trades or businesses exceed such taxpayer’s total gross income and gains attributable to those trades or businesses, plus $250,000 (or $500,000 in the case of a joint return). The rules effectively limit a taxpayer’s ability to use business deductions to offset nonbusiness income. Disallowed losses are carried forward as NOLs. The CARES Act retroactively delays this limitation to tax years starting on January 1, 2021, or later. As a result, excess business losses that would otherwise be disallowed for taxable years 2018 through 2020 will be permitted. This provision may enable taxpayers to claim significant tax refunds for 2018 and 2019 to the extent that these losses were not included on federal income tax returns. Under the TCJA, corporate NOLs arising in 2018 or subsequent years were not permitted to be carried back to offset prior years’ taxable income, and corporate NOL carryforwards may be used to offset no more than 80 percent of taxable income. The CARES Act postpones the 80 percent carryforward limitation to taxable years beginning before January 1, 2021, and allows taxpayers to carryback NOLs arising in tax years beginning after December 31, 2017, and before January 1, 2021, over a five-year period. Certain exceptions and special rules may apply (e.g., consistent with prior law, real estate investment trusts, or REITs, cannot carryback NOLs to non-REIT years).

Special care is required to make sure these tax attributes are effectively utilized. Taxpayers should understand what their 5-year projected income will be, the possibility of increased tax rates, and the known value of what the carried back losses could generate. For example, it might not be prudent to carryback losses to recover capital gain income taxes paid, versus carrying forward the losses to offset a possible cancellation of debt scenario with a property that is underwater due to the pandemic. WHAT TO WATCH FOR IN 2021 The economics of the pandemic are of concern to many taxpayers, especially in the real estate industry. The CARES Act was instrumental in infusing needed capital and liquidity into the economy, benefiting the real estate industry. What will happen once the forbearance agreements and stimulus payments, or hopes of future stimulus payments, cease to exist? Will there be a need for debt restructuring with lenders? What will be the consequences? The principal tax concern in connection with a debt restructuring is cancellation of indebtedness (COD) income or loss of valuable tax attributes. Whether or not a debt modification results in COD income depends on the terms of the modification, which requires an analysis of all of the features of the modified obligation when compared with the original obligation. If the debtor is insolvent at the time that the COD income is recognized then some or all of the COD can be excluded from income. If the debtor is in bankruptcy, then all of the COD income is excluded. Any amount of COD excluded from income under the bankruptcy or insolvency exceptions will reduce tax attributes; for example, any NOLs remaining after those losses are used in the current year, and tax basis in assets. In the case of partnerships, the bankruptcy and insolvency exceptions are applied at the partner, rather than the partnership, level. Thus, COD income arising from a partnership in bankruptcy will only be excluded if the partner is also is in bankruptcy.

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