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Multifamily developers generally borrow, in many cases as much as two-thirds of total cost, to finance apartment development. Curtailing the current deduction for business interest expenses would greatly increase the cost of debt financing for projects and inhibit development activity when the nation is suffering from a shortage of apartment homes. While 2017 tax reform legislation generally imposed limits on the deductibility of business interest, it exempted certain multifamily small businesses with average annual gross receipts of $29 million or less in the previous three years. Multifamily real estate firms may also elect out of limitations on interest deductibility so long as they agree to depreciate real property over longer periods.
NMHC Urges Congress to Extend Business Interest Deductibility Standard
NMHC on December 12 joined a letter to congressional taxwriters requesting that they extend the Earnings Before Interest, Tax, Depreciation, and Amortization (EBITDA) standard for business interest deductibility through at least 2025.
- What This Means: Prior to 2022, a taxpayer’s business interest deduction was generally limited to 30 percent of earnings before interest, tax, depreciation, and amortization, or EBITDA. Beginning in 2022, interest deductions are limited to 30 percent of earnings before interest and tax, or EBIT. For multifamily firms, preserving an EBITDA standard will make it easier to adhere to limits on interest deductibility and retain 27.5-year depreciation on apartment properties.
Notably, multifamily firms with interest expense that exceeds either 30 percent of EBITDA or EBIT are still able to make an election to fully deduct interest expense. However, if they do so, multifamily properties must be depreciated over 30 years as opposed to 27.5 years.
- Industry Impact: With rising interest rates, retaining EBITDA is essential in enabling more companies to make the election to fully deduct interest expense and, thereby, a longer depreciation period.
- NMHC's Viewpoint: Treasury should work to ensure these longstanding, bipartisan and successful current-law tax policies for spurring community development are protected for the long-term. NMHC joined a powerful industry coalition to weigh in with Treasury via a comment letter to underscore this important point.
Learn More: Read NMHC’s recently submitted comment letter to learn more about our viewpoint >>>
IRS Issues Final Business Interest Deductibility Regulations Favorable to Multifamily
The Treasury Department and Internal Revenue Service (IRS) on July 28 issued final business interest deductibility regulations that favorably address issues NMHC and NAA raised in March 2019 comments (see below).
- What This Means: The final regulations address this issue by providing that interest allocable to partners of entities that are either small businesses or that elect out of interest deductibility limits as real property trades or businesses is excluded from any limitation at the partner level. Additionally, the final regulations enable real property trades or businesses to elect out of limits on interest deductibility even if they are small businesses.
Learn more: Click through to access the IRS’ FAQs on this issue: https://www.irs.gov/newsroom/faqs-regarding-the-aggregation-rules-under-section-448c2-that-apply-to-the-section-163j-small-business-exemption
NMHC Calls on Treasury to Revisit Interest Deductibility Regulations
NMHC and NAA called on the Treasury Department and IRS to revisit proposed interest deductibility regulations that could harm developers of multifamily housing through a letter sent on March 18.
- What This Means: As currently drafted, the regulations could deny certain developers the ability to fully deduct their business interest. The Tax Cuts and Jobs Act generally limits the amount of business interest firms may deduct. Small businesses (i.e., firms with average annual gross receipts of $25 million in the previous three years) are exempt, and real property trades or businesses, which are not small businesses, may elect out of the limitation.
- Industry Impact: The inability of a small business to elect out of the interest deductibility limits could harm developers who own multiple small business real estate partnerships. While small businesses are exempt from limits on interest deductibility at the entity level, if such small business is a partnership or an S corporation, business interest expense flows through to the partners or shareholders for purposes of determining whether they are subject to limits on interest deductibility at the partner or shareholder level. Thus, a partner or shareholder who does not meet the small business definition may be subject to interest disallowance from interest flowing from an interest in a small business (even if that business could otherwise be an electing real property trade or business).
- NMHC's Viewpoint: NMHC and NAA requested that Treasury modify the proposed regulations in one of the following ways:
- provide that business interest expense of a partnership or S corporation that qualifies as a small business does not flow-through to partners or shareholders for purposes of determining any business interest limitation of the partners or shareholders;
- allow a small business to elect to be an electing real property trade or business if it so qualifies; or
- allow partners and shareholders who receive business interest expense from a small business to make the real estate trade or business election for such items at the partner or shareholder level.
Learn More: Read NMHC and NAA’s submitted comment letter for more information on industry implications and what we are requesting >>>
