Tax changes for commercial brokers

Illinois REALTOR® Magazine | April 2013

Commercial Corner

Tax graphic2013 Tax Changes that Could Affect Your Clients and Your Own Bottom Line

By Theresa Grimaldi Olsen

A number of tax-law changes could make 2013 a challenging year for commercial REALTORS® and others who are in upper-income tax brackets.

“These are probably the most significant tax law changes in my career,” said Chris Bird, a former IRS agent turned trainer who conducts more than 125 seminars a year for real estate and tax professionals nationwide.

Two federal mandates have created this new business environment:  The American Tax Relief Act of 2012 and The Affordable Care Act of 2010 otherwise known as the federal health care bill. “Fiscal Cliff” negotiations have also added uncertainty and relief to the mix.

First, there is good news, Bird said. For commercial REALTORS®, several tax breaks that could directly affect their clients have been extended through the end of 2013. However, there is no guarantee they will continue past this year. They include:

  • The 15-year write off of depreciation for qualified leasehold improvements, restaurant buildings and retail improvements. If it had been allowed to expire, the write off would have gone to 39 years.
  • The deduction for up to $250,000 of qualified leasehold improvements under Internal Revenue Code (IRC) 179.
  • The deduction of $500,000 for first-year expensing of equipment and certain items in commercial real estate such as carpeting. Without the extension it was to drop to $130,000 in 2012 and $25,000 in 2013.
  • The tax credit of $2,000 for builders of high-energy efficient homes.
  • The 50 percent bonus depreciation deduction for new equipment.

Then, there are the disappointments - tax changes that could reduce the profit margin for commercial practitioners or upper-income earners. They include:

  • Tax rate increases to 39.6 percent from 35 percent for singles earning more than $400,000 and married couples with incomes over $450,000.  The tax rate for those earning less remains the same.
  • Long-term capital gains and dividend taxes increase to 20 percent for taxpayers with incomes greater than the above thresholds (a 33 percent increase).  For all others, the capital gain and dividend tax remains at 15 percent.
  • An additional 3.8 percent tax for unearned income as part of the Medicare Contribution Tax from the Affordable Care Act. (This addition makes the long-term capital gain and dividend tax rate 23.8 percent for higher income people.)  Note:  This 3.8 percent tax has been mistakenly called a sales tax on all real estate sales beginning in 2013. In reality, the 3.8 percent tax in commercial real estate would be on the taxable gain that exceeds a threshold of $200,000 of adjusted gross income for singles and $250,000 of adjusted gross income for married couples.
  • A loss of some itemized deductions for singles with adjusted gross incomes above $250,000 and $300,000 for married couples.

REALTOR® John Rutledge, CRE, an asset management consultant from Wheaton, said there are options for people to avoid paying 23.8 percent in capital gains taxes — they don’t have to sell.

Some property owners may find it more beneficial to include the property in estate planning or utilize the 1031 Exchange as an alternative, he said.

Chris Bird also said an installment sale of property could eliminate or reduce the higher capital gains taxes and the 3.8 percent Medicare surcharge.  In an installment sale, the seller can accept payment over a period of years instead of all at once.

The 1031 Exchange allows owners of business and investment real estate to sell their property and buy “like kind” property without paying the capital gains tax, according to the Society of Exchange Counselors.

“The 1031 Exchange is now very much back in style,”  said William L. Exeter, president and chief executive officer of Exeter 1031 Exchange Services, LLC, in San Diego.  “Paying taxes is just too expensive.  Activity is up. We are about halfway back to the transaction volume that we had before the recession.”

Exeter said the question on everyone’s mind is whether the 3.8 percent Medicare surcharge could be deferred through a 1031 Exchange transaction. The Department of the Treasury just ruled that investors can defer this new tax using a 1031 Exchange provided the investor acquires like-kind replacement property that is equal or greater in value than what the investor sold.

Bird said the new tax changes are complex and property owners should consult their tax preparers. “Nobody should be doing this on their own,” he said.  

 

Theresa Grimaldi Olsen is a freelance writer based in Springfield.

 

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April 2013

April 2013 cover

“These are probably the most significant tax law changes in my career” - Chris Bird