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President-elect Joseph Biden has offered tax proposals that, if enacted, would substantially impact developers, operators, and managers of multifamily housing. Many of these proposals have been introduced in the House and/or Senate within the past six or so years–while others represent the aspirations of more “progressive” Democrats who are seeking to redress changes made in 2017 under the Tax Cuts and Jobs Act.
The President-elect is seeking to impose significant tax increases on income derived from investment and management of multifamily real estate, as well as diminish the ability of individuals to transfer assets to heirs on a tax-free basis. He is also seeking to significantly expand the Low-Income Housing Tax Credit and establish a renter’s tax credit
Potential State of Play
President-elect Biden’s tax proposals will certainly be in play this year, particularly now that Democrats will control both the House and Senate, but revenue-raising provisions could face obstacles to enactment.
Democrats will have the opportunity to control the agenda in both the House and Senate. They can also use the reconciliation process to move tax legislation through the floor of both chambers via a simple majority vote as opposed to the 60 votes typically required in the Senate. While there is speculation, Democrats will use the reconciliation process to enact further COVID-19 relief legislation, which may also include infrastructure provisions, it is unclear what tax provisions will be included beyond $2,000 relief checks. If infrastructure is on the table, lawmakers could look to tax provisions benefiting the multifamily industry, including those to further augment the Low-Income Housing Tax Credit.
Prospects for revenue-raising tax legislation are uncertain, and the continuing health pandemic could limit Congress’ appetite for tax increases. Assuming no Republican support for undoing their signature Tax Cuts and Jobs Act or otherwise raising taxes, a reconciliation bill carrying substantial tax increases would have to garner the vote of every Senate Democrat in addition to clearing a narrowly divided House. Moreover, the Biden Administration’s ambition for tax increases in the near term is not a certainty. In fact, Jared Bernstein, who President-elect Biden has nominated to serve on the Council of Economic Advisors and his chief economist during his vice presidency, has said that early tax increases are “going to be very dependent on economic conditions.” It is possible that proposals to raise taxes will have to wait for improved economic conditions and a potential second reconciliation bill later in 2021.
There are several provisions included in Biden’s tax proposal that could impact apartment firms. Use the drop-down menu below to learn more about the key provisions.
Tax Increases on Individuals
The multifamily industry closely watches tax laws applicable to individuals as it is dominated by “flow-through” entities (e.g., LLCs, partnerships, and S Corporations) instead of publicly held corporations. This means the company’s earnings are passed through to the equity owners who pay taxes on their share of the earnings on their individual tax returns. Biden is proposing several significant tax increases on individuals earning over $400,000:
- Marginal Tax Rates: Biden is proposing to restore tax rates in effect prior to the enactment of the Tax Cuts and Jobs Act. The top marginal income tax rate would increase to 39.6 percent from the 37 percent rate that is in effect through 2025. Also, the so-called Section 199A tax deduction would be phased out for taxpayers earning over $400,000. This 20 percent deduction, which is available through 2025 under current law, enables taxpayers to pay a top marginal rate of 29.6 percent on qualifying income.
- Payroll Taxes: Under current law, a 12.4 percent payroll tax (paid equally by employers and employees) is applicable to income up to $142,800 in 2021. Biden proposes to impose payroll taxes on earnings over $400,000. While the proposal would help address the solvency of Social Security, it would also represent a significant tax increase on higher-earning taxpayers.
- Itemized Deductions: Under current law, taxpayers may itemize deductions at the value of their marginal tax rate. Biden would cap itemized deductions at 28 percent. He would also restore the so-called Pease limitation, which is suspended through 2025, on taxpayers earning over $400,000 that further limits the value of itemized deductions.
Capital Gains Tax Increases
Multifamily taxpayers often face capital gains taxes when they sell properties. While the maximum capital gains tax rate for assets held over one year is currently 20 percent, Biden proposes to increase this rate to 39.6 percent for taxpayers earning over $1 million. In this manner, Biden would effectively tax carried interest at ordinary income rates as there would be no differential between capital gains rates and ordinary income rates.
Additionally, Biden proposes to tax unrealized capital gains at death and would eliminate stepped-up basis, but the mechanics of how this proposal would work are unspecified. It is unclear whether gains at death would be taxed immediately or whether the original basis would be carried over.
Eliminate Like-Kind Exchanges
Biden proposes to eliminate like-kind exchanges. Like-kind exchange rules play a crucial role in supporting the multifamily sector by encouraging investors to remain invested in real estate while still allowing them to balance their investments to shift resources to more productive properties, change geographic location, or diversify or consolidate holdings. Like-kind exchanges enable property owners to defer capital gains tax if, instead of selling their property, they exchange it for another comparable property. As long as the taxpayer remains invested in real estate, tax on any gain is deferred. When the taxpayer ultimately does sell the asset, the property tax is paid.
Affordable Housing Tax Incentives
Biden proposes to address affordable housing by expanding the Low-Income Housing Tax Credit (LIHTC) and establishing a renter’s tax credit. LIHTC would be expanded by $10 billion. Meanwhile, $5 billion per year would be allocated for a renter’s tax credit that would limit rent to 30 percent of income for qualifying taxpayers who earn too much money to qualify for Section 8.
Depreciation of Rental Real Estate
While there is no clear proposal, both the Committee for a Responsible Federal Budget and the Tax Policy Center of the Urban Institute & Brookings Institution indicates that Biden would increase the depreciation period applicable to multifamily buildings from the present 27.5 years or 30 years for taxpayers opting out of limits on the deductibility of business interest.