With every tax bill there are winners and losers. Given the complexity of any major tax overhaul, it can take months or even years to figure out who those winners and losers actually are. Yet there is one indisputable winner we can point to immediately: commercial real estate investment.
Pass-Through Entities Get a Special Pass
Pass-through entities such as partnerships and limited liability companies are set to benefit greatly from the new law. These are companies that do not pay direct corporate tax, but instead “pass through” their gains and losses to the individual members of the company or partnership. Under the new law, investors in pass-through entities will benefit from a new 20% deduction.
Many businesses from an array of sectors are set to benefit from the deduction, since many use pass-through structures. Real estate investment is almost always conducted through such entities, so it will be a sector to benefit richly after the late-stage inclusion of property investment under the provisions of the bill.
Expanding Options for Expensing
Some commercial real estate, especially non-residential, will benefit from the new law’s expanded coverage and scale of Section 179 of the United States Internal Revenue Code, which covers certain kinds of depreciation deductions. Specifically, Section 179 states that a taxpayer may choose to deduct the cost of certain types of property as expenses, rather than capitalizing the cost of the property. The new tax law will double the current dollar limitation on the amount that can be expensed each year from $500,000 to $1 million.
None of this would matter to most property investors, since Section 179 is currently extremely restrictive on the types of real property that qualify for the special expensing deduction. Yet the new law widens the definition enough to present significant opportunities to investors. Alistair Nevius, writing in the Journal of Accountancy on December 18th, summed up the changes explained that the new law will “expand the definition of Sec. 179 property to include certain depreciable tangible personal property used predominantly to furnish lodging or in connection with furnishing lodging.” He also pointed out that the expanded definition covers a range of improvements to non-residential real property, including “roofs; heating, ventilation, and air-conditioning property; fire protection and alarm systems; and security systems.”
The impact of the changes to Section 179 will depend on the strategy and sectoral exposure of the particular real estate investor. Already the most popular strategy among private real estate investors, value-add strategies will undoubtedly get even more attention, especially non-residential value-add scenarios.
Appreciation for Shortened Depreciation Schedules
Property investors of all stripes are no doubt rejoicing at the shortened depreciation schedules for buildings. Both residential and non-residential properties have had their depreciation schedules reduced to 25 years, from 27.5 years and 39 years, respectively.
The change is significant for residential property, but massive for non-residential real estate. It will allow investors to realize the tax benefits of the capital expenditure on property acquisitions more quickly.
View the original article at Seeking Alpha