Like-kind Exchange and Fixed Asset Conference

Transcription

1 Like-kind Exchange and Fixed Asset Conference Legislative & Regulatory Update Andrew Prior Adam Handler

2 The views expressed in this presentation should not be relied on as accounting, auditing or tax advice. The outcome of any independent situation depends on the specific facts and circumstances in which the issue arises and on the interpretation of US GAAP, IFRS and other relevant literature in effect at the time. This document was not intended or written to be used, and it cannot be used, for the purpose of avoiding tax penalties that may be imposed on the taxpayer. Slide 2

3 Agenda Legislative Developments Status of pending federal tax legislation Outlook for post-election lame duck session Prospects for comprehensive tax reform Regulatory Developments 337(d) proposed regulations Temporary repairs regulations Judicial Decisions Crandall v. Commissioner Fort v. AML Reesink v. Commissioner IRS Rulings PLR Slide 3

4 Congressional balance of power House Senate Democrats * Republicans Vacant 3 * Includes 2 Independents (Sander and Lieberman) Slide 4

5 President s FY 2013 budget Selected business tax increase proposals Provision 10-Year Estimate ($ millions) Modify U.S. international tax system 168,252 Repeal LIFO inventory accounting method 66,872 Expand FUTA base 28,277 Eliminate fossil-fuel preferences 24,927 Reinstate Superfund taxes 19,747 Modify treatment of financial and insurance industry 17,091 Tax carried interest as ordinary income 16,847 Make 0.2% FUTA surtax permanent 14,739 Modify worker classification rules 7,571 Repeal special depreciation for general aviation passenger aircraft 3,235 Source: Joint Committee on Taxation, JCX (March 12, 2012) Slide 5

6 Mother of all lame ducks Employee payroll tax relief 2001/2003 individual tax cuts Individual AMT patch Expired & expiring tax provisions (tax extenders) Medicare physician payment rates ( doc fix ) Automatic spending cuts (sequestration) Statutory federal debt limit FY 2013 appropriations? Slide 6

7 Federal Budget Deficit / GDP Federal budget outlook 0% -1% -2% -3% 40-yr historical average = -3.0% CBO March 2012 Baseline Deficit: $2.9 trillion -4% -5% -6% -7% -8% -9% -10% 2011 Actual: -8.7% Alternative Projection: Assumes extension of all tax cuts and AMT indexing Discretionary spending grows with GDP and no BCA sequestration Medicare Doc Fix extended Phase-down of Iraq/Afghanistan spending Deficit: $12.2 trillion Source: Congressional Budget Office, January 2012 and March 2012, calculations. Note: CBO presents various options for constructing alternative projections to the CBO baseline. The alternative shown here represents one possible scenario. 7

8 Outlook for individual tax rates Wage Income Capital Gains Dividends 2012 top rate 36.45%* 15.0% 15.0% 2001/2003 tax cut expiration** +4.6% +5.0% +24.6% 2013 phase-out of itemized deductions +1.2% +1.2% +1.2% 2013 HI surtax +0.9% +3.8% +3.8% Total increase in rate +6.7% +10.0% +29.6% 2013 top rate 43.15% 25.0% 44.6% * Additional 1.45% current law employee/self-employed share of Medicare HI tax applies ** Assumes expiration of 2001/2003 tax cuts after

9 President s FY 2013 budget Tax increases on upper-income individuals Provision 10-Year Estimate ($ millions) Limit value of deductions and exclusions to 28% tax rate 520,036* Reinstate 36% and 39.6% ordinary income tax rate brackets 441,554 Tax qualified dividends as ordinary income 206,415 Reinstate overall limitation on itemized deduction ( Pease ) 122,985 Impose 30% minimum effective tax rate on income over $1 million 46,714* Reinstate personal exemption phase-out ( PEP ) 41,942 Increase capital gains tax rate from 15% to 20% 35,966 Source: Treasury Department * Joint Committee on Taxation, JCX (March 12, 2012) and JCX (April 16, 2012) 9

10 Traditional tax extenders 2011 expired tax provisions 100% bonus depreciation Research and experimentation tax credit 15-year cost recovery for leasehold/retail improvements Subpart F active financing exception CFC look-through treatment Work Opportunity Tax Credit (WOTC) 2012 expiring tax provisions 50% bonus depreciation Wind production tax credit 10

11 Bonus depreciation legislation President s FY 2013 budget submitted to Congress on February 13 Extend 100% bonus depreciation for 2012 ($5.2 billion/10 years) Payroll tax conference agreement (H.R. 3630) enacted on February 22 Bipartisan, bicameral support among conferees No extension of 100% bonus depreciation for 2012 H.R introduced by Representative Pat Tiberi (R-OH) on March 13 Ways & Means Select Revenue Measures Subcommittee Chairman 48 bipartisan co-sponsors, including 26 Ways & Means members S introduced by Senator Debbie Stabenow (D-MI) on March 27 Senate Finance Committee member Bipartisan support: Blunt (R-MO), Brown (D-OH), Roberts (R-KS) 11

12 Corporate tax rate comparison Combined corporate tax rates in 34 OECD countries, 2011 Ireland Slovak Republic Poland Hungary Czech Republic Chile Turkey Slovenia Iceland Greece Estonia Switzerland Israel Korea Denmark Austria Netherlands United Kingdom Finland Sweden Portugal Italy Canada Norway New Zealand Luxembourg Spain Mexico Australia Germany Belgium France United States Japan Non-US OECD avg = 25.1% (24.5% with proposed/scheduled changes) Post 2011 Proposed reductions Scheduled reductions Scheduled increases Source: OECD Tax Database and Worldwide Tax Summaries, Note: Estonia tax rate shown for distributed income (retained income is exempt). 12

13 What does corporate tax rate reduction cost? Each one percentage point reduction reduces revenues by $120 billion over 10 years (PERAB, 2010) Each one percentage point reduction reduces revenues by $102.5 billion over 10 years (JCT, 2011) 13

14 Business tax expenditures repeal 10-year revenue estimate ( ), in billions of dollars Provision Corporate Total Repeal MACRS and apply Alternative Depreciation System Repeal expensing of R&E expenditures Repeal section 199 domestic production activities deduction Repeal LIFO inventory accounting method Repeal credit for low-income housing Repeal deferral of gain on like-kind exchanges Repeal completed contract method Source: Joint Committee on Taxation letter to Rep. Levin (October 27, 2011) 14

15 President s framework for business tax reform Reduce top statutory corporate tax rate from 35% to 28% Eliminate business tax loopholes and expenditures Eliminate 5-year depreciation of non-commercial aircraft Reduce harmful distortions Address depreciation schedules Reduce bias toward debt financing Establish greater parity large corporations and non-corporations 15

16 President s framework for business tax reform Reduce effective tax rate on manufacturing to no more than 25% Reform international tax rules Establish a new minimum tax on foreign earnings Simplify and cut taxes for small business Allow small businesses to expense up to $1 million in investments Restore fiscal responsibility Fully offset cost of making business tax extenders permanent 16

17 Comparison of selected tax reform proposals Proposal Fiscal Commission Wyden Coats President Obama Mitt Romney Individuals 12%, 22%, and 28% Three brackets: 15%, 25%, and 35% 10%, 15%, 25%, 28%, 33%, 36%, and 39.6% 8%, 12%, 20%, 22.4%, 26.4% and 28% Corporations 28% top rate 24% top rate 28% top rate 25% top rate Capital gains and dividends Tax at ordinary income rates Tax at ordinary income rates with 35% exclusion 20% top rate (capital gains); ordinary rates (dividends) AMT Repeal Repeal Repeal Repeal Domestic production deduction Repeal Repeal Target and increase deduction to 10.7% (18% for advanced manufacturing) R&E 5-year amortization Present law Mark R&D credit permanent and increase ASC Cost recovery Repeal accelerated depreciation Expensing Address depreciation schedules International Territorial Repeal deferral Minimum ETR on foreign earnings 15% top rate and eliminate taxes for individuals with incomes below $200,000 To be determined To be determined To be determined Territorial 17

18 Other tax reform options President s Economic Recovery Advisory Board (August 2010) Limit or repeal section 1031 like-kind exchanges - Developed property/structures versus undeveloped land Increase incentives for new investment/direct expensing Eliminate or reduce accelerated depreciation - Repeal for corporations = 3 percentage point corporate rate cut - Complete repeal = 5 percent point corporate rate reduction CBO Deficit Reduction Options (March 2011) Extend the period for depreciating the cost of certain investments - Increase 3, 5, 7, 10, 15 & 20 years to 4, 8, 11, 20, 30 & 39 years - Estimated to raise $241 billion over 10 years ( ) 18

19 Other tax reform options Treasury Business Tax Reform Report (December 2007) Elimination of major business expenditures would offset: - 28% corporate tax rate, or - Immediate expensing of 35% of new business investment President s Advisory Panel on Federal Tax Reform (November 2005) Simplified Income Tax Plan - Large business: simplified accelerated depreciation - Small business: expensing (except land and buildings) Growth and Investment Tax Plan - Expensing for all new investment 19

20 Potential tax reform hurdles Current-law versus current-policy baseline Deficit reduction versus revenue-neutrality Domestic versus multinational companies Manufacturing versus other industries Corporations versus pass-through entities 20

21 LKE Specific Legislative Developments To date, we have not seen the introduction of legislation that would directly affect like-kind exchanges. The legislative season is still young, so stay alert. Corporate and individual tax reform could be problematic for like-kind exchanges if rate reductions are offset with the elimination of tax preferences and deductions. Bonus depreciation has an effect on personal property exchanges by reducing the net present value of the deferral benefit. 100% bonus expired 12/31/2011 (2012 for Long Prod. Per. Prop.) 50% bonus expires 12/31/2012 (2013 for LPPP) Senate bill introduced to extend 100% bonus - Not clear whether it will pass may get picked up in lame duck session 21

22 Regulatory developments Proposed regulations under 337(d) REG The IRS on April 13, 2012 issued proposed regulations under Section 337(d) providing guidance concerning certain transfers of property from a C corporation to a regulated investment company (RIC) or a real estate investment trust (REIT). Current regulations generally provide that if property of a C corporation becomes the property of a RIC or REIT in a conversion transaction, then (absent a deemed sale election) the RIC or REIT will be subject to tax on the net built-in gain in the converted property under the rules of Section 1374 and the underlying regulations as if the RIC or REIT were an S corporation. Practitioners have expressed concern that the general rule may inappropriately expose property transferred in like-kind exchanges and involuntary conversions to this treatment. 22

23 Regulatory developments Proposed regulations under 337(d) REG The proposed regulations provide an exception from the general rule of the current regulations for a transfer of property by a C corporation to a RIC or REIT to the extent that the transfer qualifies for nonrecognition treatment under either Section 1031 or In such a transaction, the C corporation transferor s basis in the property it receives is derived from its basis in the transferred property, and thus reflects the built-in gain. At the same time, the basis of the transferee RIC or REIT in the converted property has no relation to the C corporation transferor s basis therein. 23

24 Regulatory developments Proposed regulations under 337(d) REG The proposed regulations would generally apply to conversion transactions that occur on or after the date of their adoption as final regulations. However, taxpayers may apply the rules to conversion transactions that occurred before their adoption as final rules. The ability to apply the regulations retroactively is important since many taxpayers either did not know this was an issue (i.e., it was a trap for the wary) or assumed that it did not apply in this fashion. 24

25 Regulatory developments Temporary repairs regulations T.D On December 23, 2011, the IRS published T.D which contains guidance regarding deduction and capitalization of expenditures related to tangible property. It is a long complex set of regulations but contains a few rules of interest to LKE: Temp. Reg (i)-1T(e)(3)(v) provides rules for determining the basis of assets disposed of in a like-kind exchange (or involuntary conversion) when the assets were held in a general asset account. General asset accounts are provided for in IRC Section 168(i)(4) and Reg (i)-1 and are a mechanism for grouping similar assets together and depreciating them as a single asset. 25

26 Regulatory developments Temporary repairs regulations T.D Temp. Reg (a)-2T(f) provides that transaction costs to facilitate the acquisition of real or personal property must be capitalized. Temp. Reg (a)-2T(f)(2)(ii)(K) specifically includes services of a qualified intermediary or other facilitator of a like-kind exchange as costs to be capitalized. It is possible that: - Such amounts could be expensed in limited circumstances under the de minimis rule; or - Such amounts would have to be capitalized even if the replacement property is not acquired. 26

27 Regulatory developments Temporary repairs regulations T.D Two rules have been retained: - The rule that the costs to acquire replacement property are capitalized into basis, and - The rule that the costs to sell property are a reduction in the amount realized have been retained. This latter rule (see Temp. Reg (a)-1T(d)(2)) is useful where gain is recognized in the exchange as it reduces the gain realized. 27

28 Regulatory developments Temporary repairs regulations T.D There are a number of rules regarding when costs must be capitalized or expensed and what constitutes a separate unit of property for depreciation purposes. - These rules are extensive and complex. - They could have applicability in construction exchanges, particularly if improvements to existing property are involved. 28

29 Judicial decisions Crandall V. Commissioner T.C. Summary Opinion Facts: In Crandall v. Commissioner, the taxpayer, intending to do a like-kind exchange, sold investment property and had the proceeds from the sale placed in escrow. The taxpayer then purchased replacement investment property using the escrowed funds (plus additional cash that was placed in another escrow). There was no question regarding whether the properties were like-kind or that the timing requirements of section 1031(a)(3) were satisfied. However, there was no exchange agreement and the escrows did not restrict the taxpayer's ability to withdraw funds. 29

30 Judicial decisions Crandall V. Commissioner T.C. Summary Opinion Holding: The court held that the lack of express limitations in the escrow agreement resulted in the taxpayer being having constructively received the sale proceeds. Analysis: The court seemed more concerned with the lack of restrictions on the escrow that with the lack of an exchange agreement, perhaps because there was clear intent to do an exchange. In this regard, the court stated as follows: "The Court notes that the tax consequences are not what petitioners intended and the result may seem somewhat harsh. However, Congress enacted strict provisions under section 1031 with which taxpayers must comply." 30

31 Judicial decisions Fort Properties Inc. V. American Master Lease The United States Court of Appeals for the Federal Circuit has affirmed a decision from the District Court for the Central District of California invalidating a patent on a structure for owning and operating tenancy-incommon interests for use as replacement property in like-kind exchanges. This case is unlikely to have a significant effect on the tax consequences or structuring of TIC transactions as most deals were not structured in a manner covered by the patent. However, there has been a lot of activity by bar associations and Congress concerning patents on tax ideas and whether they are or should be valid. 31

32 Judicial decisions Reesink V. Commissioner T.C. Memo , April 23, 2012 Facts: The taxpayer acquired the replacement property in November, The taxpayer placed a "to rent" sign on the property and advertised the house in local flyers. Several people came by inquiring about renting the house. After a few months, the taxpayer determined that for liquidity reasons, they should sell their primary residence and move into the replacement property. The sale of their primary residence closed and they moved in in June, about 7 months after acquiring the property. 32

33 Judicial decisions Reesink v. Commissioner T.C. Memo , April 23, 2012 Holding: The tax court held that the taxpayer had established that they acquired the property with the intent to hold it primarily for rental and that their moving in and using it as their primary residence was the result of a change in plans. Analysis: The taxpayer s intent was contrasted with the situation in Goolsby v. Commissioner, T.C. Memo , where the taxpayer sold their primary residence prior to acquiring the replacement property, made minimal attempts to rent it and moved in within two months. As a result of these two decisions, taxpayers should have some clear guidance regarding the parameters for converting a rental property to personal use after acquiring the property in a like-kind exchange. 33

34 IRS rulings PLR January 9, 2012 This PLR confirmed some important rulings that we have seen in other recent PLRs. Rulings: The issues ruled upon (directly and indirectly) in this ruling are: 1. Disposition of relinquished property by a disregarded entity of a taxpayer is treated as if the taxpayer had disposed of the property. 2. Acquisition of a disregarded entity holding the replacement property is treated as the acquisition of the replacement property. 3. Disposition of a disregarded entity holding relinquished property is treated as the disposition of the relinquished property. 34

35 IRS rulings PLR January 9, 2012 Rulings: 4. A taxpayer may combine a reverse exchange under Rev. Proc with a deferred exchange under section 1031(a)(3) with respect to a single relinquished property so long as the requirements of each type of exchange are independently satisfied. 5. A taxpayer may acquire replacement property from a related person so long as the related person is also doing an exchange with respect to that property. This is also true if there is a chain of related persons doing exchanges. 6. A small amount of taxable boot in an exchange where the replacement property is acquired from a related person which is also doing an exchange will not disqualify the transaction. In this ruling it was represented that the amount of boot would not exceed 5% of the gain realized. 35

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