When you own investment properties — and particularly if you have a large portfolio — any change to the tax code is something to be watched closely. As Congress worked to close the deal on their end-of-year overhaul to the nation’s tax code, property investors wondered what the potential impact would be. As it turns out, the 2017 changes to the federal tax code features some nice benefits for real estate investors.
2017 Changes to the Federal Tax Code — What You Need to Know
Changes for Pass-Through Organizations
One of the changes that most concerns individuals with real estate investment portfolios are those that affect pass-through organizations. These are organizations where rather than the entity paying taxes, they are “passed through” to the owner of the business. Pass-through organizations include S-corporations, sole proprietorships, partnerships, and limited liability corporations (LLCs). Because many real estate investors and landlords structure their businesses as LLCs, it was exciting news when Congressed announced that the new tax bill included a 20 percent deduction for all qualified pass-through businesses. Owners of pass-throughs can now deduct 20 percent of the business’s income, meaning that they’ll only be taxed for 80 percent. The deduction only applies to business profits, not to income earned by the owner of the business.
Of the pass-through income that gets taxed, the tax rate will now be 29.6 percent. This reflects a steep drop from the previous tax rate of 37 percent. The new tax code also contains a provision for people to deduct 20 percent of any income they receive as Real Estate Investment Trust dividends. It still allows 1031 exchanges that allow investors to sell one property, purchase another qualifying property, and defer payment of taxes on the gains from the property they sold.
Structuring as an LLC
The 2017 changes to the federal tax code has many landlords and real estate investors scrambling to organize their rental business an LLC. Even before the new tax benefits were introduced, this is a popular structure for investors to protect themselves and their assets.
First, an LLC limits the degree to which any individual is liable in any lawsuits that may be filed in regards to the property. This is particularly important with rental properties, where a tenant or guest could be injured and seek legal redress. If you own a property as an individual, you’ll be personally named in the suit and all of your personal assets could be at stake. If the property is LLC-owned, only its assets are exposed. The operators of LLCs also enjoy many other protections and benefits.
Business organizations structured this way function with much more flexibility than a partnership or corporation, for example. LLCs allow foreign investment and ownership in U.S. real estate properties – something that isn’t allowed under an S corporation. Another huge plus for real estate investors: owners of LLCs can transfer their real estate holdings by proactively giving their heirs the company’s membership interests every year. This allows investors to pass ownership of real estate holdings without worrying about recording new deeds or paying recording and transfer fees and taxes.
Get Legal Advice First
While operating as an LLC has a myriad of benefits for real estate investors, it’s always best to talk with an experienced legal professional before setting anything in stone in regards to your assets. You likely have very specific goals in terms of building long-term wealth and saving for retirement, and they’ll be able to advise you on how to structure your holdings to protect your wealth and empower your dreams.
Although the 2017 changes to the federal tax code make structuring your organization as a pass-through organization enticing, take your time and be sure this is the best plan for you and your portfolio before making any changes.