Investment Properties Site Blog
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 25 Tax Tips for Real Estate Developers and Investors… that can help you manage your tax burden.

By John Michel  Grant Thornton Real Estate Tax Services

1. Evaluate the form of any new business you begin.  How your business is organized can have a major impact on the amount of taxes you pay. The selection of the entity to own and operate the real estate is extremely important. Generally available are the S Corporation, C Corporation, partnership, limited liability company and REIT. Each has advantages and disadvantages as well as traps for the unwary.

2. Understand your partnership or LLC agreement.  Do you really understand your partnership or LLC operating agreement? Do you know if the allocations among members have “substantial economic effect”?  Do you know what a qualified income offset provision is? Do you understand minimum gain? In real estate matters, operating agreements typically address these and other important tax issues. Chances are your agreement is written with such issues in mind.

3. Understand the basis in your partnership.  If you have a deficit capital account in your partnership, you need to be sure that you have enough partnership liabilities to cover your deficit capital or you may have income. Have you considered the need to properly allocate debt to prevent income?

4. Consider the tax consequences of distributing appreciated property out of a partnership.  Property held for sale, that has substantially appreciated in value is a so-called “hot asset.” Ordinary gain can be triggered on the distribution; careful tax planning is needed prior to the distribution.

5. Watch out for a contribution followed by a distribution.  Have you made a tax-free contribution of property to a partnership and immediately, or shortly thereafter, received a distribution? If so, your tax-free contribution may be a taxable sale. Proper planning may avoid this result.

6. Consider the tax consequences of distributions from partnerships.  Generally distributions are tax-free. However, there are a number of exceptions to this rule. Are you aware of them?

7. Maintain three sets of partnership books.  If your entity is a partnership, are you maintaining three sets of books? If not, you may not be following the required tax rules and your allocations among partners may not be valid.

8. Determine if you are a dealer or an investor. Do you know if you are a dealer or an investor for tax purposes? Proper planning upfront will ensure the desired treatment upon disposition of the property.

9. Examine the tax treatment of the sale of residential lots. Is your company selling land/lots to be used in residential building? Is your company contractually liable for the common improvements on the land?  There is potential for the gain on the sale of the lots to be deferred for many years.

10. Obtain capital gain on property to be developed.  Do you own property that you intend to develop and sell? Normally the sale of developed land will result in ordinary income as opposed to capital gain.  However, there are methods that can be used to obtain significant capital gain for the investment land, while keeping the profits from the developed land.

11. Allocate land cost to your benefit.  To defer income upon the sale of parcels from a tract of land purchased, proper allocation of the cost among the various parcels must be done. The IRS requires that the cost be “equitably apportioned.” But how? There are several methods available.

12. Consider deferring gain through like-kind exchange.  Does your company sell and purchase property of similar use? Significant tax deferrals are possible with like-kind-exchanges. Consult your tax advisor.

13. Defer gain and cash out partners.  Your partnership may be able to accommodate partners who want a like-kind exchange and partners who want cash.

14. Exchange Undivided Interests.   Are you aware that if properly structured, it may be possible to exchange a fee interest in a whole property for an undivided interest in a larger property?

15. Exchange real estate for a “bond”.  Would you like to cash out of  real estate but defer your gain? Generally the only way to defer gain long-term is to exchange into more real estate. However, you may be able to exchange into more real estate that has the attributes of a bond.

16. Examine your capital asset depreciation methods and lives.  “Catch-up” deductions are possible on under-depreciated existing assets.  You may be able to write off 100 percent of the under-depreciated amount in the current year without amending past returns by filing an automatic change in accounting method.

17. Maximize depreciation. Has your company recently undertaken new construction projects, expansions or renovations? Substantial long-term savings could result from a cost classification study which categorizes your assets into the appropriate and most tax-advantaged depreciable lives.

18. Shift appreciation to shareholders.  Do you have real estate in your C Corporation that you wish were in the hands of the shareholders?  Generally, appreciated real estate cannot be distributed to shareholders of a C Corporation without tax cost because of the double tax. However, it may be possible to shift a substantial portion of the future appreciation to the shareholders with only one level of tax.

19. Review your lease agreement.  Certain rental agreements generally require that both the lessor and lessee report rental income and expenses on the accrual basis. Also, long-term leases are required to be reported on “constant or level rent” basis, using present value concepts. Are you doing this?

20. Review your passive losses.  Passive losses are only allowed to offset passive income; however did you know that you may be entitled to treat rental losses as ordinary losses?

21. Consider yourself a manufacturer.   As a real estate owner, do you consider yourself a manufacturer? Perhaps you should. The new regulations for the I.R.C. Section 199 - Domestic Production Activities Deduction apply to some activities within the real estate industry. There may be an unexpected benefit for you.

22. Determine if the New Markets Credit could benefit you.  Do you intend to invest in a low-income community? If so, you may qualify for a 39% credit spread over 7 years.

23. Consider the tax effects of transferring property to REITs.  REITs will often acquire property though a tax-free contribution to the partnership owned by the REIT, an UPREIT partnership. However, when the UPREIT disposes of the property, the built-in gain will be allocated to the contributing partner so you will want a “lock-up” period.

24. Reward key executives.  Do you have key executives that you would like to give a piece of the action as a member of your real estate partnership? This may be accomplished without immediate income to the executives if structured property.

25. Determine if related party rules have a tax effect on your transactions.  Before closing on any transaction, you need to be sure you are not covered under various related party rules. Related party rules can prevent the deduction for losses and covert capital gain to ordinary income.

John Michel

Real Estate Tax Services

T 888-299-7269 E CRH@gt.com

This document supports Grant e Code.