1. PRESENTED BY: Don Warrant, CPA Dave Barrett, CPA
June 6, 2019
Update on the 2018 Tax Act & Opportunity Zones
PRESENTED BY: Don Warrant, CPA Dave Barrett, CPA

2. Don L. Warrant, CPA 30+ years of public accounting experience
Specializes in tax planning and incentives for the real estate industry
Tax specialty services practice leader
State and Local tax practice leader
Cost Segregation practice leader

3. David, R. Barrett, CPA 35+ years of public accounting experience
Director in Freed Maxick’s Tax Practice
Provides clients with specialized tax research, planning and representation services
Frequently quoted in local publications and has made numerous appearances on radio and television programs
Named in Money Magazine’s listing of the best tax practitioners in the country

4. Freed Maxick’s Real Estate Practice
Entity structuring and incentive planning (LIHTC, NMTC, HTC, State and local grants, abatements, exemptions, etc.)
Financial modeling and due diligence
Engineered tax services
Cost Segregation Studies
Repairs and Maintenance studies
Energy efficiency studies
Traditional assurance and tax services

5. AGENDA Depreciation and expensing
Qualified Business Income (QBI) deduction
Business loss limitations
Interest expense limitations
Qualified Opportunity Zones

6. Depreciation & Expensing

7. Qualified Improvement Property
Non-structural improvement to interior portions of nonresidential buildings placed in service after the date the building was first placed in service (COO date).
Excludes enlargement of a building, elevators or escalators, or the internal structural framework of a building.
Generally includes tenant improvements that are treated as real property.
Currently assigned to a 39-year property and not eligible for bonus depreciation, subject to technical corrections to treat as 15-year property and eligible for bonus depreciation.

8. Bonus Depreciation For property acquired before Sept. 28, 2017:
Qualified property is generally tangible property with a recovery period of 20 years or less, including computer software, the original use of which begins with the taxpayer.
Includes qualified improvement property (39-year recovery period)
50% of cost basis may be deducted in the year placed in service
Can election out class-by-class
Can create or increase a tax loss
Phases-out over 2-years starting in 2018 (50%, 40%)
Excludes property subject to the alternative depreciation system
Property is generally treated as acquired no later than the date a written binding contract for the property’s acquisition is first entered into.
Special rules determine the acquisition date of constructed property

9. Bonus Depreciation For property acquired after Sept. 27, 2017:
Adds used property (excludes any carry-over basis)
Excludes qualified improvement property (pending technical corrections)
Excludes the following businesses when average annual gross receipts exceed $25 million:
Businesses with floor-plan financing
Real property trades or business and farming businesses who elect out of the new limitation on business interest
100% deduction or upon election, 50% for first tax year ending after Sept. 27, 2017
Phases out over 4-years starting in 2023
Guidance provided in proposed regulations

10. Section 179 Expense Election
Property placed in service before Jan. 1, 2018:
Qualified property is generally tangible, depreciable, personal property, computer software, and “qualified real property”
Cannot create or increase a tax loss
$510,000 expense limitation
$2.030 million beginning of phase-out
Property placed in service after Dec. 31, 2017:
Eliminates qualified real property
Adds as eligible property:
Qualified improvement property;
The following improvements to non-residential real property: roofs, HVAC, fire protection and alarm systems, security systems
Tangible personal property used predominately in furnishing lodging
Beds, furniture, kitchen appliances, equipment
$1 million expense (inflation adjusted)

11. Cost Recovery Periods
Effective for property placed in service in taxable years beginning after Dec. 31, 2017, the TCJA made the following changes to recovery periods (in years):
Prior Law New Law
MACRS ADS MACRS ADS
Residential rental buildings
Qualified improvement property ** **
** The Act inadvertently omits language in section 168(e)(3)E and (g) providing a recovery period for QIP for cost recovery purposes.

12. QBI Deduction

13. QBI Deduction
The Act provides that for taxable years beginning after 2017 and before 2026, an individual taxpayer generally may deduct 20% of QBI from a partnership, S corporation, or sole proprietorship, as well as 20% of aggregate qualified REIT dividends and qualified PTP income, under new section 199A.
20% deduction based on the lesser of QBI or adjusted taxable income.
Effectively reduces the top individual tax rate from 37% to 29.6%
Limitations begin to apply when taxable income exceeds $157,500 ($315,000 for MFJ)
Greater of 50% of W-2 wages, or
25% of W-2 wages and 2.5% of the acquisition cost of qualified property.
Determined after applying other loss limitations (basis, at-risk, PAL rules)

14. Business Loss Limitations

15. Net Operating Loss
Losses incurred in tax years beginning after Dec. 31, 2017
Unlimited carry over
Limited to 80% of taxable income
Losses incurred in tax years ending after Dec. 31, 2017**
No carry back
**Technical corrections may change to tax years beginning after Dec. 31, 2017.

16. Excess Business Losses
The Act provides that, for any taxable year beginning after 2017 and before 2026, any excess business loss of a taxpayer other than a corporation is not allowed for the taxable year and excess business losses not allowed are carried forward and treated as part of the taxpayer’s net operating loss under the NOL rules.
Applies when the combined losses allowed from all business activities for the tax year exceed $250,000 ($500,000 for married couples filing jointly).
Example:
Single Taxpayer has $300,000 of investment income and $300,000 of business losses.
Before the TCJA, the taxpayer could offset the $300,000 of investment income by the $300,000 of business losses.
After the TCJA, the taxpayer owes tax on $50,000 of investment income and the $50,000 excess business loss carries forward as a business net operating loss.

17. Interest Expense Limitations

18. Business Interest Expense
Business interest expense is limited to the sum of
Business interest income,
30% of adjusted taxable income, and
Floor plan financing interest paid by certain vehicle dealers.
Addback depreciation, amortization and depletion before 2022
Unlimited carry forward
Small business exception. Average annual gross receipts are $25 million or less for the three-tax-year period ending with the preceding tax year and not a “syndicate”.
Electing real property trade or business exception. Businesses that develop, redevelop, construct, reconstruct, acquire, convert, rent, operate, manage, lease, and/or broker real property can elect out but must use the ADS method to depreciate their non-residential real property, residential rental property, and qualified improvement property.

19. Qualified Residence Interest
Principal residence and one other residence selected for the year
Includes a house, condominium, cooperative, mobile home, house trailer, or boat.
Home acquisition indebtedness
Indebtedness incurred to acquire, construct, or substantially improve a qualified residence that is secured by the residence.
Maximum indebtedness is $750,000 ($375,000 for single filers) for indebtedness incurred after Dec. 14, 2017.
Exceptions:
2017 binding contracts that closed by March 31, 2018
Refinancing indebtedness incurred before Dec. 15, 2017 up to the outstanding loan balance as of the time of refinance.

20. Qualified Home Equity Indebtedness
Indebtedness other than home acquisition indebtedness secured by a qualified residence.
No deduction for alternative minimum tax purposes
No deduction for tax years beginning after Dec. 31, 2017 and before Jan. 1, 2026 (previously, up to $100,000 of indebtedness could be treated as qualified home equity indebtedness).
Election to apply interest tracing rules
Reduces self-employment income, self-employment tax, and AGI
Election is made by reporting the interest on the appropriate line of the tax return. Reg. § T(o)(5)
Advisable to include an election statement with the return, but not required

21. Qualified Opportunity Zones

22. Overview
New tax incentive program to promote investment in certain low-income communities designated by the IRS as Qualified Opportunity Zones (QOZ)
Listed in IRS Notice
Three tax incentives:
Defer paying taxes on capital gain from the sale or exchange of appreciated assets by investing such gain in a Qualified Opportunity Fund (QOF) within 180 days following such sale or exchange. Such gain may be deferred until the earlier of (i) when the investment is sold or exchanged, or (ii) December 31, 2026.
Investors receive a step-up in basis equal to 10% of the original deferred gain if the QOF investments is held for at least 5-years, with an additional 5% basis step-up if the investment is held for 7-years. These basis step-ups can result in permanent exclusion from taxation of up to 15% of the originally deferred gain
If the investor holds the investment in a QOF for at least 10-years, an elective basis adjustment provides a permanent exclusion from taxation for any appreciation in excess of the deferred gain.

23. QOF
Any investment vehicle organized as a corporation or a partnership for the purpose of investing in QOZ property (other than another QOF) that holds at least 90% of its assets in QOZ property.
Self certification as a QOF
90% asset test
Determined by the average percentage of QOZ property on the last day of the first 6-month period of the taxable year of the fund, and the last day of the taxable year of the fund.
Monthly penalty for failing the 90% asset test
Based on the IRC Section 6621(a)(2) underpayment rate
Distributed to each partner when organized as a partnership
Penalty is waived upon showing of reasonable cause

24. QOZ Property
QOZ stock. Any stock in a domestic corporation that is acquired after Dec. 31, 2017, at original issue in exchange for cash, and either was a QOZ business or is being organized as a QOZ business.
QOZ partnership interest. Any capital or profits interest in a domestic partnership acquired after Dec. 31, 2017 solely in exchange for cash, and either the partnership was a QOZ business or is being organized as a QOZ business.
QOZ business property. Tangible property used in a trade or business of a QOF, acquired after Dec. 31, 2017 by purchase from an unrelated person, and either the original use originates with the QOF, or the QOF substantially improves the property over a self- selected 30-month period.

25. QOZ Business
At least 70% of all tangible property owned or leased is QOZ business property
At least 50% of the total gross income is derived from the active conduct of a trade or business
At least 40% of the intangible property is used in the active conduct of any such business
Less than 5% of the average unadjusted basis of property is attributable to nonqualified financial property
Stock, partnership interests, options, futures contracts, forward contracts, warrants, notional principal contracts, annuities, and other similar property
Excludes golf courses, country clubs, massage parlors, hot tub facilities, suntan facilities, racetracks, or other facilities used for gambling, or any store whose principal business activity is the sale of alcoholic beverages for consumption off premises

26. IRC Section 1031 Comparison
Description
IRC Section 1031
QOZ
Eligible property
Real property only, no P/S interests, stock, or personal property
QOZ business property (P/S interest, corporate stock, and tangible property)
Identification of replacement property
Required within 45 days
No requirement
Timing of investment
Within 180 days of sale
Reinvestment proceeds
Entire sale proceeds
Gain, or portion thereof
Deferred gain recognition
Upon sale of replacement property
Dec 31, 2026 or year investment is sold if earlier
Tax basis step-up
None
Upon meeting 5, 7, and 10-year holding periods for the QOF investment
Related party sales
No gain deferral unless a 2-year holding period is met
No gain deferral unless sale to unrelated party

27. EXAMPLE
OCT 1, Susie sells AAPL stock for $1,500,000 - Cost basis = $500,000, Gain = $1,000,000 WITHIN 180 DAYS - Susie invests the gain (i.e. $1,000,000) into an QOF OCT 1, $100,000 of Susie’s gain on the AAPL stock sale is “forgiven” OCT 1, An additional $50,000 of Susie’s gain is “forgiven” DEC 31, The remainder of Susie’s gain on the AAPL stock sale is (i.e. $850,000) “triggered” DEC 31, Susie sells her interest in the QOF for $2,500,000 - No federal income tax is owed on $1,500,000 of appreciation

28. EXAMPLE (cont.)
SUMMARY - Total gain realized = $2,500,000 - Amount subject to federal tax = $850,000 - Federal tax paid = $202,300 (23.8% x $850,000) - Federal tax avoided = $392,700 (23.8% x $1,650,000) NOTE If the FMV of the original $1,000,000 investment had decreased by $100,000 to $900,000 as of Dec 31, 2026, then tax is due on $900,000 minus Susie’s tax basis of $150,000 = $750,000. OBSERVATION If New York follows federal law, then the New York tax paid on Dec 31, 2026 = $74,970 (8.82% x $850,000) and the New York tax avoided = $145,530 (8.82% x $1,650,000). The combined federal and New York tax avoided = $538,230 ($392,700 + $145,530).

29. Illustrative QOZ Tax Deferral Timeline and Tax Benefits
Capital gains proceeds (2) For gains invested by 12/31/ (3) For gains invested by 12/31/ (4) Assumes long-term capital gains tax rate of 23.8%

30. Quantifying the OZ Program federal tax benefits
HYPOTHETICAL COMPARISON OF A FULLY TAXED INVESTMENT TO A QOF INVESTMENT
Assuming investor has realized capital gain of $1,000,000 and can reinvest it in QOF within 180 days.
Fully-Taxed Non-QOF Investment
QOF Investment
Duration 10 year hold
Pre-Tax IRR 12.0%
Federal Gains Tax Rate (1) 23.8%
Original Capital Gain $ 1,000,000
Tax Liability (23.8%) 238,000 Net Cash to Invest $ 762,000
Original Capital Gain $ 1,000,000 No Tax Payable - Net Cash to Invest $ 1,000,000
Value at Year 10 $ 2,366,656
Value at Year 10 $ 3,105,848
Tax on Appreciation (23.8%) 381,908
Tax on Deferred Original Capital Gain (23.8%) (2) 202,300
After Tax Funds Returned $ 1,984,748
No Tax on QOF Appreciation -
After Tax Funds Returned $ 2,903,548
After-Tax Gross IRR 7.1%
After-Tax Gross Equity Multiple 2x
Investable Proceeds $ 762,000
Peak Equity Outlay (incl tax payments) $ 1,000,000
Profit $ 984,748
Total Taxes Paid $ 619,908
After-Tax Gross IRR 11.2%
After-Tax Gross Equity Multiple 2.9x
Investable Proceeds $ 1,000,000
Peak Equity Outlay (incl. tax payments) $ 1,202,300
Profit $ 1,903,548
Total Taxes Paid $ 202,300
QOF INVESTMENT ECONOMIC ADVANTAGES:
IRR Increase: +4.1% | EM Increase: +0.9x | 93% increase in profit | 67% tax savings | $417,608 tax saved
Assuming 100% long-term capital gains at rate of 20% + 3.8% NIIT. Excludes state income tax. (2) $850,000 x 23.8%
(1) Blended rate assuming 50% long-term capital gains of 23.8% and 50% short term capital gains at 39.6%. Excludes state income tax and the additional 3.8% tax on net investment income; (2) At a 15% step-up in basis, paid 12/31/2026 per OZ tax legislation; (3) Gross after-tax return before QOF General Partner compensation and fund overhead

31. Thank You
This document contains general information, may be based on authorities that are subject to change, and is not a substitute for professional advice or services. This document does not constitute audit, tax, consulting, business, financial, investment, legal or other professional advice, and you should consult a qualified professional advisor before taking any action based on the information herein. Freed Maxick CPAS, P.C., its affiliates and related entities are not responsible for any loss resulting from or relating to reliance on this document by any person.