Archive for the ‘Real Estate’ Category

New Federal and California Developments on Cancellation of Indebtedness from Short Sales

January 15, 2014

On September 19, 2013, the IRS issued a Chief Council Letter where it stated that the short sale of a California principal residence converts the mortgage to a nonrecourse loan and is treated as a sale, not Cancellation of Indebtedness.  Under California law, when agreeing to a short sale, the bank may not go after the borrower for any shortfall on the debt.  The letter stated that, under the anti-deficiency provision of Code of Civ. Proc. §580e, the debt would be a nonrecourse obligation, and for federal income tax purposes the homeowner will not have COD income. Instead, the full amount of the nonrecourse indebtedness is treated as the sales price.

The California Franchise Tax Board has just updated their website to include information about mortgage debt relief for taxpayers who sold their principal residences through a short sale in 2013.  The FTB guidance confirms that California will follow this treatment.  The FTB clearly states that the IRS guidance is limited to California short sales only, and that the IRS guidance did not specifically address other types of real estate transactions, such as non-judicial foreclosures and mortgage loan modifications.

The information posted by the FTB can be found here.


Grouping Passive Activities

January 6, 2014

By Darren Morrow

If you own rental properties or have other similar passive activities that generate a loss each year and you want to be able to utilize that loss, then grouping activities may be a good option for you.

Grouping activities is the process of treating one or more passive trade or business activities, or rental activities, as a single activity, including rental real estate. This can only be done if those activities form an appropriate economic unit for measuring gain or loss under the passive activity rules. The simple definition of an economic unit is activities that are similar in nature, industry, and control. See IRS publication 925 for specific criteria regarding what constitutes and economic unit.

Grouping is important for a number of reasons. If two activities are grouped into one larger activity, you need only show that you materially participate in the activity as a whole. But if the two activities are separate, you must show that you materially participate in each one of the activities individually. This is especially beneficial if you own multiple rental properties and are trying to qualify for the material participation test or active participation test. Qualifying for these tests may allow you to potentially recognize all of the losses in the year incurred (materially participating real estate professional) or up to $25k of losses in the year incurred (active participation test). Grouping can also be important in determining whether you qualify for the 10% ownership requirement for actively participating in a rental real estate activity .

One of the downsides to look out for when grouping your activities is if you plan on disposing of one of your activities that accumulated suspended passive losses before it was grouped with other activities.  If you group two activities into one larger activity and you dispose of only one of the two activities, then you are considered to have disposed of only part of your entire interest in the activity. In this case, you are not allowed le to recognize the previously suspended passive losses of the disposed of activity since it is now considered part of the one larger activity. But if the two activities are separate and you dispose of one of them, then you are considered to have disposed of your entire interest in that activity and are able to recognize the suspended passive losses associated with the disposed of activity.

To group an activity all you need to do is file a written statement with your original income tax return for the first tax year in which two or more activities are originally grouped into a single activity. The statement must provide the names, addresses, and employer identification numbers (EIN), if applicable, for the activities being grouped as a single activity. In addition, the statement must contain a declaration that the grouped activities make up an appropriate economic unit for the measurement of gain or loss under the passive activity rules.

Certain activities are restricted from being be grouped. They are listed below:
– Motion picture films
– Farming
– Leasing 1245 property
– Oil and Gas resources
– Geothermal deposits.

For more information about grouping passive activities and material participation please contact us at or contact our offices at (714) 836-8300.

Installment Sale Basics

August 20, 2013

By Darren Morrow, CPA

Ever heard of an installment sale?  This article will help you understand the basics of installment sales, including what you need to know to help you make the best decisions when selling property.

An installment sale is the sale of a property where both parties have agreed to terms where the payments will be made over a number of years instead of receiving the entire purchase price at the time of sale. For instance, a person may choose to sell their home to someone and receive payments over a ten year period. The technical definition of an installment sale for tax purposes requires that payments must be made in at least two separate tax years.

Calculating the taxable income to be recognized under an installment sale is quite simple. The first step is to calculate the gain on sale as you normally would (sales price less tax basis). Then a percentage is calculated taking the principal portion of payments received in the current year divided that by the total sales price.  Taxable income for the current year must include this percentage of the overall gain on the sale of the property.


There are some benefits to taxation under the installment sale rules.  One of the most obvious benefits is the deferral of capital gains taxes. Since you are only recognizing a portion of the gain in the current year you are only taxed on that amount.  The additional tax due from the sale is deferred to future years. Another benefit that is not quite as obvious is that you could possibly be in a lower tax bracket each year since you are not recognizing a large amount of income in one year. Additionally, an often overlooked benefit of the transaction is the additional interest income that can be structured into the sale. Generally sellers will receive a higher rate of interest on the deferred funds than can be realized elsewhere, and the note receivable is secured by the real property. 

Installment sales are not always an option for every transaction. Installment sales cannot be used (for tax calculation purposes) if your sale results in a loss (sales price exceeds your basis), or if it is a sale of inventory, stocks, or securities traded on an established securities market. Additionally, if you choose to do an installment sale and defer your capital gains into future years and the tax rate on capital gains goes up, you could potentially pay a higher amount of tax in the future.

Knowing how installment sales work and how to use them to your advantage is a great tool when negotiating a sale. It will let you have more control over your income and may even earn you a little extra interest income along the way. For more information about installment sales please contact us at or contact our office at (714) 836-8300.

Out of State Taxpayer Sues California FTB on LLC Doing Business Issue

July 22, 2013

Via Spidell Publishing

An out-of-state corporate taxpayer has filed suit against the California Franchise Tax Board (FTB) to recover taxes, penalties, and interest assessed by the FTB for being a passive member in a California LLC. (Swart Enterprises Inc. v. Franchise Tax Board, filed July 9, 2013, Case No. 13CECG02171)

This case makes public the FTB’s position that a taxpayer’s passive interest in a California LLC is sufficient to determine that the taxpayer is “doing business in California”, and trigger the minimum franchise tax under R&TC §23153.

In Swart, the corporation’s principal place of business is in Iowa. The corporation did no business in California but owned a 0.02% interest in a California LLC that acquired, held, leased, and disposed of capital equipment and interest in capital equipment in various states.

This case will be of great interest to our clients with out-of-state investors and with out-of-state investments.  Especially real estate development and investment partnerships.  We will continue to monitor this case.

California Imposes New Information Return Requirement for Out of State Like-Kind Exchanges

June 21, 2013

Beginning January 1, 2014, taxpayers who complete a like-kind exchange of California property for property located out of state will be required to file an information return with the FTB.

The information return must be filed for the year in which the exchange is completed and each subsequent year that the gain or loss is deferred. If the taxpayer fails to file an information return, and a required tax return is not filed, the FTB may estimate net income and assess tax, interest, and penalties.

Real Estate Investment “Promoters” Could Face an Unintended Drastic Tax Increase from the “Carried Interest” Provisions of the President’s 2014 Budget Proposal

May 21, 2013

Over the past years there have been many discussions in Washington of taxing Carried Interests at ordinary tax rates, and we at Nienow & Tierney, LLP have been consistently monitoring this issue facing our real estate clients.  The President’s 2014 budget blueprint issued in April includes such a provision.

Carried interests can loosely be defined as interests in partnerships and funds held by the investment organizer based on their efforts to put the venture together. These arrangements are often referred to as “promote interests” as well.  The Internal Revenue Code contains provisions that tax “carried interests” at the more favorable capital gain tax rates when the underlying assets are disposed of for a profit.

In an effort to target large investment fund managers that utilize this provision, the President’s latest budget proposal aims to treat the income from the eventual success of the venture as compensation for services, taxed at ordinary tax rates.  The result is a potential tax rate increase from 20% to 39.6% on such income, or approximately twice the tax they pay now.

Many of our clients are Southern California real estate investment “promoters”, that engage in the business of finding poorly operated and undervalued commercial real estate properties that they feel they can bring value to.  Typically they will raise capital through private investment (so called “friends and family equity”), or institutional investors, and share in the profits generated in excess of a preferred return to the investors.  It appears that the President’s budget proposal would (unintentionally?) lump these ventures in with the multi-billion dollar Wall Street investment funds he hopes to raise revenue from.

Because this is an important issue to our clients in the real estate industry, we will continue to monitor these legislative developments, and we will contact our clients to help proactively plan should this legislation become law.

Real Estate Development Costs: Capitalize or Expense?

January 30, 2013

In the real estate development industry the question of capitalization as always been a tricky subject. Many questions come up such as what expenses get capitalized, when do these items get capitalized, and what items can be expensed.  In this article we hope to provide a basic understanding of the concepts of capitalizing certain carrying costs.

During the development of a project, the developer will incur certain carrying costs related to the property.  Many costs can be considered carrying costs, but typically these include property taxes, insurance and interest.  Generally, these types of costs are considered period costs that are expensed as incurred, but during development, these costs must be accumulated as part of the cost of the asset being developed.

The basic rule related to carrying costs is that they should be capitalized as part of the cost of the asset being developed, and not expensed, during the capitalization period.  The capitalization period has been defined as the period in which the property is “undergoing activities necessary to get it ready for its intended use”.

The term activities has been construed broadly, and encompasses more than just physical construction, but includes all steps necessary to prepare the asset for its intended use, such as developing plans or obtaining permits before construction.

During development, projects may experience interruptions.  Generally, the capitalization period should continue, and carrying costs should be capitalized during brief interruptions.  However, if the entity suspends substantially all activities related to the development of the asset, capitalization of carrying costs should cease.

The capitalization period ends when the asset is substantially complete and ready for its intended use.  The end of the capitalization period generally coincides with the ceasing of all development activities, physical completion of the project or obtaining of a certification of completion or certificate of occupancy.

Economic Forecast – 2013

January 29, 2013


This morning, several members of Nienow & Tierney, LLP had the opportunity to attend the 14th Annual Economic Forecast Breakfast sponsored by the OC Chapter of California Society of CPA’s.  The speaker for the morning was Dr. Esmael Adibi from the Anderson Center for Economic Research at Chapman University.

Dr. Adibi presented a forecast of cautious and slow growth for 2013.  He expects the GDP for the United States to increase by 2.1% in 2013.  This was following a 2.4% increase in 2012.

Dr Adibi also indicated that he expects consumer spending to increase by 1.8% in the United States for 2013.

In California, Dr. Adibi projects about 225,000 new jobs being produced and with 25,000 of those occurring in Orange County.   He also estimated that housing prices will increase by 6.8% in California.

It was a pleasure to hear Dr. Adibi’s forecast and we hope for an above average increase to our clients in 2013.

IRS Delays Effective Date of New Repair Regulations

January 4, 2013

As it had promised in a Nov. 20 notice, the Internal Revenue Service has amended the temporary regulations governing tangible property expenses to delay their effective date. The regulations will now apply to tax years beginning on or after Jan. 1, 2014, instead of Jan. 1, 2012, although taxpayers can elect to apply them to years beginning after Jan. 1, 2012.

Effects of Proposition 30

December 7, 2012

The Californian’s have spoken and they have decided on higher taxes. Proposition 30 has officially passed and higher taxes are on the way. What most people do not know about proposition 30 is that most of the laws do not start in 2013 but are actually retroactive to begin January 1, 2012.

Proposition 30 increased state taxes in 2 ways. The first increase is the 0.25% increase in the state sales tax rate. This state sales tax rate is effective for four years beginning January 1 ,2013. The second increase is in the income tax rate on taxpayers making more than $250,000 a year. This increase is retroactive to January 1, 2012. See the table below for the new rates.

10.3% (1% increase) on income of:
$250,001–$300,000 for Single
$340,001–$408,000 for Head of Household
$500,001–$600,000 for Married Filing Joint

11.3% (2% increase) on income of:
$300,001–$500,000 for Single
$408,001–$680,000 for Head of Household
$600,001–$1,000,000 for Married Filing Joint

12.3% (3% increase) on income of:
More than $500,000 for Single
More than $680,000 for Head of Household
More than $1,000,000 for Married Filing Joint

These rates do not include the income in excess of $1 million that is subject to an additional 1% mental health surcharge.

This raises the question of estimated tax payments. Many taxpayers have made their estimated state tax payments according the their estimated liability at the old taxes rates for 2012. Now that the law is retroactive to January 1, 2012 are they are worried that they are going to get penalized for an underpayment penalty. Fortunately proposition 30 provides that affected taxpayers who are underpaid will be held harmless from the underpayment penalty (California Constitution, Article XIII, Section 36(f)(2)(C)(i)). To obtain relief, taxpayers must pay any balance due by April 15, 2013 (calendar-year taxpayers), and complete form FTB 5805, "Underpayment of Estimated Tax by Individuals and Fiduciaries." The FTB will not provide automatic penalty relief.