Key Takeaways
- The EBITDA approach under Section 163(j) to help increase allowable interest deductions has been restored under the OBBBA.
- The OBBBA permanently extends 100% bonus depreciation and adds qualified production property (QPP) as a new asset category.
- The increased asset threshold for taxable real estate investment trust (REIT) subsidiaries provides greater flexibility in meeting REIT asset test requirements.
What does the most sweeping tax legislation since 2017 mean for the real estate industry and its investors? With the passage of the One Big Beautiful Bill Act (OBBBA), the PKF O’Connor Davies Real Estate team takes a closer look at the key provisions reshaping the landscape.
Business Interest Deduction 163(j)
OBBBA makes the 163(j) adjusted taxable income (ATI) computation permanent with earnings before interest, taxes, depreciation and amortization (EBITDA) effective for taxable years beginning after December 31, 2024. The TCJA had previously included depreciation and amortization in the ATI computation for years ending before December 31, 2021; however, those were dropped for years beginning after December 31, 2021.
OBBBA also amended the definition of ATI for years beginning after December 31, 2025 to exclude Net CFC Tested Income (NCTI) formerly Global Intangible Low-Taxed Income (GILTI) subpart F income and Section 78 gross ups.
What it means for you: OBBBA reverts to the pre-December 31, 2021 computation of ATI, generally, increasing the basis for the interest expense limitation. This will allow businesses to take greater interest expense deductions for tax years 2025 onward.
Provision | Prior Law | New Law |
Business Interest Deduction 163(j)
| Business interest deduction computation under Internal Revenue Code (IRC) Section 163(j) was calculated using an earnings before interest and taxes (EBIT) approach – excluding depreciation and amortization deductions. | Restoration of business interest deduction computation under IRC Section 163(j) to include an add-back for depreciation and amortization expense (EBITDA approach). |
Bonus Depreciation
Under the 2017 TCJA, IRC Section 168(k) allowed additional first-year depreciation of 100% for property placed in service before January 1, 2023, with a 20% per year sunset through tax years ended December 31, 2026, eliminating the bonus depreciation provisions.
OBBBA makes permanent the 100% bonus depreciation provisions under Section 168(k), beginning with property placed in service after January 19, 2025. OBBBA also added a new section to the IRC, Section 168(n), which allows an election for 100% bonus depreciation on qualified production property (QPP). QPP is nonresidential real property that under prior tax law was not eligible for bonus depreciation.
In order to be considered QPP, the following criteria must be met:
- The property must be used by the taxpayer as an integral part of a qualified production activity (manufacturing, production or refining).
- It must be placed in service in the United States or any possession of the United States.
- The original use must commence with the taxpayer.
- The construction must begin after January 19, 2025, and before January 1, 2029.
- An election must be made under subsection 168(n).
- The property must be placed in service before January 1, 2031.
It should be noted that QPP bonus depreciation is only available to the taxpayer using the property; therefore, leased property that is owned by a lessor but used by a lessee does not qualify.
What it means for you: OBBBA provides great benefits for taxpayers, allowing for greater first-year depreciation deductions, creating a new class of bonus-eligible property, which allow taxpayers to match their deductions with cash outflows.
Provision | Prior Law | New Law |
Bonus Depreciation
| Bonus depreciation rate for 2025 is 40%, 2026 is 20% and full phase-out to 0% in 2027. | Permanently extends and modifies bonus depreciation to 100% for property placed in service on or after January 19, 2025. There is a limited transitional election available to apply pre-law phase down rates instead of 100%. New class of bonus-eligible property created. |
Taxable REIT Subsidiary (TRS) Asset Threshold
Real Estate Investment Trusts (REITs) must meet certain asset and income thresholds to retain their ability to be considered a REIT and not pay federal income tax. A common way that REITs can meet the income threshold is by structuring income that would otherwise be problematic to the REIT within a taxable REIT subsidiary (TRS). Under the TCJA, REITs could hold 20% of their assets through a TRS. The OBBBA increases that 20% threshold to 25% beginning after December 31, 2025.
What it means for you: The TRS threshold reverting back to pre-TCJA levels will allow taxpayers to structure more of their problematic income in TRSs, creating a larger safety net for REITs with less stringent asset testing requirements.
Provision | Prior Law | New Law |
TRS Asset Test | REITs can hold 20% of their assets via a TRS. | REITS can hold 25% of their assets via a TRS after December 31, 2025. |
Qualified Business Income Deduction
The qualified business income (QBI) deduction, Section 199A, which was introduced with the 2017 TCJA, allowed up to a 20% deduction, subject to limitations, on qualified business income from passthrough entities and sole proprietorships, as well as REIT dividends and publicly traded partnership (PTP) income. The limitations were based on W-2 wages and qualified property for taxpayers above $100,000 married filing jointly (MFJ)/$50,000 single/married filing separately (MFS) filers. The same threshold applied for the specified service trade or business limitation.
The OBBBA made the QBI deduction and REIT/PTP deductions permanent and adjusted the phase-in limitation from $100,000 to $150,000 for MFJ filers ($50,000 to $75,000 for single/MFS returns).
What it means for you: The QBI deduction made permanent will allow taxpayers to reduce their tax burden on QBI for the foreseeable future and the increase in phase-in limitations will allow more taxpayers to benefit from specified service trade or business (SSTB) income deductions as well as allow more QBI deductions for taxpayers who may have been previously limited by the wage and qualified property limitations.
Provision | Prior Law | New Law |
QBI Deduction | Qualified Business Income Deduction (IRC Section 199A) of 20% ending after 2025. | Qualified Business Income Deduction (IRC Section 199A) of 20% is permanent AND increases the deduction limit phase-in range to $75,000 ($150,000 for joint filers). In addition, the minimum QBI deduction is $400 if total active qualified trade or business income is at least $1,000. The minimum deduction and minimum business income thresholds are indexed annually for inflation. Effective for tax years beginning after December 31, 2025. |
Pass-Through Entity Taxes (PTETs)
As a workaround to the SALT cap put in place under TCJA, many states enacted pass-through entity tax (PTET) regimes. The IRS approved the deductibility of specified income tax payments with Notice 2020-75. Before the bill was finalized, it was anticipated that there would be some reduction or modification to the PTET regime. The OBBBA, however, does not contain provisions modifying the current treatment of PTETs, therefore, continuing to allow PTETs to be deducted from the pass-through entity’s income.
What it means for you: Taxpayers can continue to reduce their federal taxable income from passthrough entities for state taxes paid at the passthrough entity level, circumventing the elevated SALT cap of $40,000. This could allow for even greater deductions when combining both the increased SALT cap as well as the unchanged PTET regime.
Provision | Prior Law | New Law |
PTET Taxes | Pass-through entity level deduction for taxes paid on PTET regimes. | No change. |
Opportunity Zones
Qualified Opportunity Zones (QOZs) were temporarily put in place by the 2017 TCJA to spur investments into designated areas. QOZ investments allowed for three main tax benefits:
- Deferral of capital gains that were invested in QOZs until the earlier of the sale of the investment or December 31, 2026.
- A reduction of the gain if a QOZ was held for 5 (10%) or 7 (15%) years.
- Exclusion of future gains from the investment if held for 10 years.
The OBBBA made QOZs permanent and enhanced, allowing for a rolling 10-year QOZ designation beginning on January 1, 2027 and preserves the three main tax benefits with the exception of establishing a permanent 10% basis step-up (eliminating the previous seven-year, 15% step-up). The OBBBA also established a new form of QOZ, a qualified rural opportunity fund (QROF), which has enhanced benefits over the original QOZ, including a 30% step-up in basis after five years of holding a QROF.
What it means for you: Taxpayers should still prepare for their deferral of taxes from QOZ investments made through December 31, 2026. The new 10-year window, however, will allow for future capital gains to continue to be deferred. Taxpayers should note that QOZ designations will be stricter going forward and there may be specific forms to file when investing in a QOZ.
Provision | Prior Law | New Law |
Opportunity Zones
| Investment in OZs or low-income communities that provide investors with tax incentives for investing in Qualified Opportunity Zone Funds (QOFs). Investors were able to defer 10% of the gain if the QOF is held for five years and an additional 5% if held for seven years. The seven-year benefit period expired in 2019 and is no longer attainable. If investors hold the QOF for 10 years, they can elect to exclude 100% of the gain on the appreciation of the QOF investment itself. | Permanent OZ policy that builds off of current policy and creation of rolling 10-year OZ designations beginning January 1, 2027. Also preserves current OZ benefits and provides additional benefits such as the exclusion of 30% in capital gains for investments in rural OZs after a five-year holding period and the option to defer up to $10,000 of ordinary income by investing in QOFs. |
We Can Help
At PKF O’Connor Davies, our Real Estate Services team works closely with real estate businesses, funds and investors to navigate the changing tax environment. Additional guidance will be provided as the IRS refines the details around the OBBBA.
Contact Us
If you have any questions or would like assistance with reviewing your situation, please contact your PKF O’Connor Davies client service team or:
Darren Bushey, CPA
Partner
dbushey@pkfod.com
Director
jwarren@pkfod.com