Key Tax Considerations for Real Estate Investors in 2024

Amid the backdrop of market realignment, higher interest rates, and shifting workplace habits, investors remain cautiously optimistic about their real estate allocations heading into 2024.

 

After an overall slower acquisition pace in 2023, market uncertainties prompted investors to adopt a wait-and-see approach, hoping for property values and interest rates to reconcile. Those who returned profitability in their real estate deals last year did so by strategically leveraging available incentives. Tax credits, opportunity zone programs, energy credits, municipal grants, and TIF subsidies were a boon to their bottom line, helping to mitigate the impact of broader market pressures.

 

As the real estate market works to reset in 2024, we believe opportunity lies in tax optimization strategies, sustainability, and technological innovation. Following, we’ll cover key tax legislation that is under consideration and opportunities for investors to strategically position their real estate investments. 

 

Current and Proposed State of Cost Recovery

 

The constant undercurrent of shifting tax regulations requires investors to stay informed and adapt strategies accordingly.

 

In a welcomed bipartisan vote, the House passed the Tax Relief for American Workers and Families Act on Jan. 31, 2024. However, the bill currently sits in the Senate awaiting further action. Should the bill become law, it will reinstate several business-friendly provisions that had previously expired.

 

Outlined below are the highlights on the current and proposed state of cost recovery.

 

R&D Expensing

 

The proposed bill would temporarily restore and retroactively apply the full expensing for domestic research and development (R&D) activities for the 2022 and 2023 tax years and continue until the end of 2025. Prior to 2022, companies could deduct the full cost of R&D in the year it was incurred.

 

Under current law stemming from the Tax Cuts and Jobs Act of 2017 (TCJA), companies must follow a five-year amortization period for domestic expenses and a 15-year amortization period for foreign expenses.

 

Bonus Depreciation

 

In a similar effort, the proposed legislation seeks to reinstate 100% bonus depreciation for new and used qualifying property. This would retroactively apply full expensing for capital assets placed in service starting in 2023 and extending it through the end of 2025, when most provisions born out of the TCJA expire.

 

Currently, companies can only deduct 60% of qualifying property placed in service before the end of 2024. Unless the bill makes its way through Congress, the allowable deduction will continue to be reduced by 20 percent each year until completely phased out on Jan. 1, 2027.

 

While the proposed tax bill is a step in the right direction, more permanent improvements to cost recovery would fuel significant economic growth over the long term. However, merely reinstating a temporary policy sacrifices the opportunity for sustained growth without permanent solutions.

 

Net Interest Limitation – Section 163(j)

 

The proposed legislation also aims to provide businesses with a more favorable calculation of adjusted taxable income (ATI) for the limit on interest expense deductions under Section 163(j). The bill would retroactively restore a business’s ability to deduct interest expense of up to 30% ATI using the EBITDA calculation (earnings before interest, taxes, depreciation, and amortization) for tax years 2024 and 2025, with an election to use it for tax years 2022 and 2023.

 

Since 2022, current law requires businesses to calculate ATI using EBIT (earnings after the deduction for depreciation and amortization), which generally lowers ATI and triggers the limit sooner.

 

Creating Value through Sustainability

 

Opportunities continue to emerge in sustainability, a key driver of value creation for real estate stakeholders. By capitalizing on these tailwinds and implementing sustainable initiatives, investors stand to benefit from reduced operating expenses, increased competitive advantage, higher property valuation, and attractive tax incentives.

 

Energy-Related Tax Credits

 

In an effort to accelerate the use of clean energy and sustainable living, the Inflation Reduction Act of 2022 (the Act) implemented widespread incentives to encourage taxpayers to invest in energy-efficient home improvement projects. Within the scope of the Act, the expanded Section 45L tax credit rewards developers of energy-efficient homes by providing a wide-range of tax savings for builders of qualified projects.

 

Eligible contractors of single family and multifamily residences can receive between $500 and $5,000 in tax credits for homes acquired on or after Jan. 1, 2023 through Dec. 31, 2032. To receive the maximum credit amount of $5,000 per dwelling unit, contractors must now comply with strict criteria, including 1) Energy Star requirements 2) Zero Energy Ready Home (ZERH) requirements, and 3) prevailing wage requirements for multifamily dwelling units.

 

These new energy-efficient credits greatly incentivize green building in real estate, encouraging investors to dive deeper into more sustainable development.

 

The Impact of the Corporate Transparency Act on Real Estate

 

Although the Corporate Transparency Act (CTA) is creating a significant regulatory burden in nearly every industry, it has a disproportionate impact on the commercial real estate due to its complex ownership structures that are often used to operate, develop, and hold real estate assets.

 

In an effort to increase transparency of true ownership behind anonymous entity structures, owners will be required to file a Beneficial Ownership Information Report with the U.S. Department of Treasury’s Financial Crimes Enforcement Network (FinCEN). Because real estate holdings regularly involve multiple tiered entities, it is likely that these structures will face reporting requirements under the new CTA.

 

Entities formed prior to January 1, 2024 have one year to comply with the new requirements and must file by January 1, 2025. Entities formed after the effective date of January 1, 2024 will be obligated to file a report within 30 days of formation.

 

Please note: The assessment and application of many of the new reporting requirements may necessitate legal guidance and direction.

 

Stay Informed with Bartlett, Pringle & Wolf, LLP

 

As the real estate market realigns and tax legislation makes its way through the Senate, stay informed of planning opportunities and effective tax strategies to optimize your investments and avoid costly oversights.

 

Call our office at (805) 963-7811 to speak with an expert in the firm’s real estate practice.