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CARES Act Provides Valuable Tax Breaks for Real Estate

August 13, 2020

Congress is working on legislation that could possibly offer additional relief to real estate investors and developers. Here are the details.

The COVID-19 pandemic has led to challenging economic circumstances for the commercial real estate industry, from halted construction to significant cash flow disruptions. Congress tried to stem some of the financial repercussions with the Coronavirus Aid, Relief and Economic Security (CARES) Act, which was enacted in March.

Now, Congress is working on follow-up legislation that could possibly offer additional relief to real estate investors and developers. In the meantime, here are some tax law changes in the CARES Act that you may already be eligible for today.

Retroactive Bonus Depreciation on QIP

Congress originally intended for qualified improvement property (QIP) that was placed in service after 2017 to qualify for 100% first-year bonus depreciation. Unfortunately, a drafting error in the Tax Cuts and Jobs Act (TCJA) prevented that favorable treatment.

The CARES Act includes a technical correction to the so-called “retail glitch.” As a result, if you made qualified improvements in 2018 or 2019, you can claim an immediate tax refund for the missed bonus depreciation. You also generally can claim bonus depreciation going forward, but, beware, the amount of bonus depreciation begins to phase out starting in 2023.

Expanded Business Interest Deductions

For tax years beginning after 2017, the TCJA generally limited the deduction for business interest expense to 30% of adjusted taxable income (ATI). The TCJA allows some exceptions, though, including one for businesses that make the real property trade or business (RPTB) election.

Such businesses must use the alternative depreciation system for certain property used in the business. They also can’t claim bonus depreciation for affected property, and the opt-out election is irrevocable.

For those that didn’t make the election, the CARES Act allows a business interest deduction of up to 50% of ATI for 2019 and 2020. (Different rules apply for partnerships for 2019.) The CARES Act also allows taxpayers to use their 2019 ATI for purposes of their 2020 business interest deduction, which will mean a higher deduction for businesses that have suffered losses due to the pandemic, particularly if they’ve also increased their debt.

You’re not out of luck if you made the RPTB election in 2018 or 2019, however. Revenue Procedure 2020-22 allows you to revoke the election. In light of the changes to the treatment of QIP, you should reconsider your election analysis, which was conducted when QIP wasn’t eligible for bonus depreciation. It might prove more advantageous to revoke the election so you can claim bonus depreciation on QIP, even with the newly applicable business interest limit.

More Useful NOLs

The TCJA also has curbed the value of net operating losses (NOLs). Under that law, businesses can’t carry back NOLs, which previously could be carried back two years. And the TCJA limits the NOL deduction to 80% of taxable income.

The CARES Act includes retroactive relief from these restrictions, providing an incentive to maximize your losses this year. The provision permits you to carry back NOLs arising in 2018, 2019 or 2020 for five years to offset losses incurred in prior years. It also removes the taxable income limit for years beginning before 2021. As a result, NOLs can entirely offset income in those years. (Note: Real estate investment trusts can’t carry back NOLs, however.)

Although NOLs can be carried forward indefinitely, you may find it preferable to carry them back to generate immediate cash flow. In addition, the temporary five-year carryback period includes pre-TCJA years, when the tax rates generally were higher, making NOLs even more valuable.

The CARES Act also provides retroactive relief related to excess business losses sustained by pass-through entities. This provision could produce additional NOLs you can carry back to earlier years.

Back to the Future

The CARES Act offers several opportunities for commercial real estate businesses to generate tax refunds for prior years and reduce tax obligations for 2020 and beyond. Our real estate specialists can help you amend your prior returns and strategize for future tax years to take advantage of all the relevant provisions of the CARES Act. Contact us for more information.

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