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Notable Tax Law Changes Included in Recent Omnibus Spending Act
The Omnimbus Spending Act, known officially as the Consolidated Appropriations Act of 2018 (Act), was recently signed into law by the President. While the Act was not a tax bill per se, it did make some important income tax law changes, particularly in the areas of low income housing, partnerships and real estate investment trusts (REITs).
LIHTC Ceiling Increases
The Act provides that the annual section 42 low income housing tax credit ceiling is increased 12.5% for 2018 through 2021. This change increases the 2018 per capita allocation from $2.40 to $2.70. The small state minimum also is increased, from $2,760,000 to $3,105,000.
New Minimum Set Aside
There is a new minimum set aside election in addition to the 40-60 and 20-50 elections. The new election allows a property owner to select an income limit for each unit in a building up to 80 percent of the Area Median Income (AMI), if the average of the income limitations selected do not exceed 60 percent of AMI. This new average income election is effective for elections made after the date of enactment of the spending Act.
This means that owners who have not yet filed IRS Form 8609 (Low-Income Housing Credit Allocation and Certification) with their tax return for allocations made in 2015, 2016 or 2017 may be able to make this election.
The 8609 form will need to be revised by the IRS to accommodate this additional election.
The practical implication of this average income minimum set aside is that an owner may allow a broader range of incomes, which may make some deals more feasible. The challenge for owners will be to track the averages on a building-by-building basis to make sure that the 60 percent average is maintained.
Similar to pass-through entities, REIT shareholders are eligible for the 20% deduction on qualified REIT dividends. Qualified REIT dividends do not include any portion of a dividend received from a REIT that is a capital gain dividend, which will continue to be taxed at 20% for individuals. However, unlike pass-through entity income, qualified REIT dividends do not have the limitation based either on wages paid or wages paid plus a capital element. According to the National Association of Real Estate Investment Trusts (NAREIT), individual REIT shareholders, who in 2017 paid the top income tax rate of 39.6% on dividends received, would see the rate drop to 29.6% as a result of the 20% deduction on qualified REIT dividends. The 20% deduction does not apply for purposes of the net investment income tax.
For purposes of the REIT 75% asset test, the newly adopted Act clarifies that ancillary personal property is now considered real estate to the extent that rents attributable to such ancillary personal property are treated as rents from real property. For purposes of the REIT income tests, gain from the sale of ancillary personal property is treated as gain from the sale of real estate, and gain from the sale of certain obligations secured by mortgage (on both real and personal property) is treated as gain from the sale of real property.
The Act also clarifies that for spinoffs of taxable REIT subsidiaries, the definition of control of a partnership is at least 80% of profits interests and at least 80% of capital interests rather than exactly 80%.
These new provisions will make investing in REITs more appealing to individual investors. While REITs have generally always been an attractive vehicle for real estate investors now they are even more attractive with the 20 percent deduction. Investors who earn rental income outside a REIT could be subject to taxes at a 37% tax rate versus investing through a REIT which would be taxable at a maximum 29.6% tax rate.
The Act makes many important changes to partnership audit rules applicable to taxable years beginning after 2017.
Under the new partnership audit rules, the partnership itself may be required to pay an “imputed underpayment” amount relating to any adjustments. The Act clarifies how items of a different character (capital and ordinary gain for example) are netted in determining the underpayment. In general, items that must be separately reported to the partners under section 702(a) must be netted separately.
Favorable adjustments that may be subject to partner level limitations, such as passive losses, are not considered unless the IRS provides otherwise.
The Act also clarifies that the partnership audit rules apply not just to items appearing on the partnership return, but to any items or amounts “with respect to the partnership,” including, for example, items relating to any transaction with, basis in, or liability of, the partnership. While the rules apply only to income tax (and not to taxes on self-employment income, net investment income or to withholding taxes), any adjustments to partnership income are considered in assessing such taxes to the extent relevant.
A partnership may seek modifications to the amount of its imputed underpayment to reflect partner attributes and adjustments that are already reflected on amended returns filed by the affected partners and the Act clarifies requirements for filing such amended returns. To qualify for imputed underpayment modification, partners must file amended returns for the year of the adjustment and for any other year affected by the adjustment, must consider all adjustments and the effect on tax attributes, and must pay any tax due, plus applicable penalties and interest. The Act also provides for new “pull-in” procedures as an alternative to partners filing amended returns. Under these procedures, affected partners may pay the tax that would be due with an amended return without having to file.
Neither the procedures for filing amended returns nor the pull-in procedures require the participation of all partners.
A partnership under audit may also elect to “push-out” adjustments to affected partners rather than to pay the imputed underpayment itself. The Act clarifies the operation of this election in the case of partners that are themselves partnerships or S-corporations, generally allowing such partners to either push the adjustments out to their members or to pay the imputed underpayment themselves. In addition, the Act clarifies that in determining the liabilities of push-out partners, decreases as well as increases in the partner’s tax are considered.
Other Partnership Tax Law Changes
The Act makes numerous other administrative changes, including adjustments to the statute of limitations on assessments, deficiency procedures, and the making of deposits to suspend the running of interest on imputed underpayments.
The passage of these partnership audit technical corrections follow a more general debate about comprehensive technical fixes to the Tax Cut & Jobs Act passed in December 2017. While technical corrections are anticipated sometime following the mid-term 2018 elections, the new law contained in the current Act adds much needed certainty to congressional intent. Since 2015, this lack of certainty had caused much taxpayer confusion.
Contact Beth Mullen at Beth.Mullen@CohnReznick.com or 916-930-5750 for additional information on these and other matters concerning affordable housing.
Contact David Patch at David.Patch@CohnReznick.com or 301-280-3566 for partnership related questions.
Contact Rony Rodriguez at Rony.Rodriguez@CohnReznick.com or 310-966-2303 for REIT related questions.
Any advice contained in this communication, including attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues. Nor is it sufficient to avoid tax-related penalties. This has been prepared for information purposes and general guidance only and does not constitute legal or professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice specific to, among other things, your individual facts, circumstances and jurisdiction. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and CohnReznick LLP, its partners, employees and agents accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.