Defeat the Rental Loss Paradigm

[Snaggletooth]

A couple owns rental property and has AGI of around $170,000. So they can't take the rental loss.

However, they also own an LLC choosing to file as a C Corp. We are considering transferring the ownership of the rental property to the CCorpLLC.

Filing as a partnership will still single out the rental loss to appear on their personal return, so their plight is no better. Likewise for an S Corp.

The C Corp (by itself) will not affect their personal return, and we believe will allow the rental loss. What say ye? I've researched TTB Chapter on C Corps and can't find anything definitive, nor can I find anything which would deny this plan.

Will this work? I know there are downsides, for example if the property is sold, the C Corp cannot take Capital Gains. Also the benefit of an eventual sale will deprive the owners of "catching up" on the suspended losses.

[JON]

There is no capital gain rate for corporations when profitable or sale, right now the Corporate rate is 21%, but there have been talks of changing that rate. I do not know for sure, but how do you get to carryforward losses transferred into the Corp on a 351? I do not remember, but on what form do you report a rental activity on and does it remain passive??

[Snaggletooth]

Jon, thank you for responding. We know if we sell the property we will have to forego capital gain treatment, so part of the decision must rest on how long they plan to keep the property.

I don't think a C Corp classifies rent as a special income item - we would just simply report revenue and expenses at the 1120 level. We don't worry about NOL since there would be enough profit in the C corp to cover it.

I can't think of any other downsides other than those mentioned.

Thanks for your response and the points you have raised.

[kathyc2]

I can't think of any other downsides other than those mentioned.

If C assumes mortgage it's taxable.

Double taxation.

No step up.

Possible transfer fees.

Fully taxable if later taken out of C.

If C is bankrupt, no asset protection for property.

[Snaggletooth]

Kathy thanks for responding. More potential downsides, some of which I had not considered.

Yes, there is double taxation, for which we allowed for when the C corp was elected.

Stepped Up basis in the event of the passing of a shareholder? I believe we are entitled to stepped up basis, if we can jump through the hoops. If this were a publicly traded corporation, the selling price of the stock shares would determine the amount of the step-up. However, not being publicly traded raises question marks about the value of the shares. I do know that some of these non-public corporations have to hire an appraisal when offering stock options, but that's about the extent of my exposure. And this is an LLC electing C Corp treatment, and not a real C corp as recognized by the state.

Taking the property out of the corporation is definitely a huge problem, as you say.. And this portends huge implications in the event of divorce - this couple appears to be stable, but we never really know what's behind closed doors.

Transfer fees? I dunno, more of a lawyer question, but the possibility is there for imposing a new debtor and ownership of property.

And of course if there is no 8582 pent-up losses, the explosive benefit when sold will never benefit the taxpayers.

Lots of things to consider and I appreciate your response.

[kathyc2]

And of course if there is no 8582 pent-up losses, the explosive benefit when sold will never benefit the taxpayers.

That statement is not true. If the property is sold, the suspended losses are released. Your client did not sell, but rather converted the property to personal use. Because there was not an actual loss, no deduction at this time.

If they had held the property in C, when they changed it to personal use it would be treated as a distribution and C would pay gain at FMW same as if it was sold.

[Snaggletooth]

Kathy, I made a poor choice of wording. If the property remains in the C Corp your analysis is correct.

What the taxpayer will miss in the event of a sale is the release of disallowed losses that would have been the case if the property belonged to the individual taxpayer instead of the C Corp.

I was the source of the confusion. Thanks.

[kathyc2]

I can't imagine that over the long term there would be less tax by having a rental property in a C. Before you try to convince client that it would be a good idea, read this or other similar articles.

https://www.therealestatecpa.com/blog/rental-real-estate-never-corporation

[spanel]

How much in rental losses per year?

How much are you going to charge them for a C-corp?

Going rate around here is $1000 +/-

Thats ALOT of rental losses to offset just the tax prep fees each year.

Chris

[Snaggletooth]

Chris, some $12-$15 K rental losses per year.

A mistake to reveal my total fees, but already am doing the C Corp and personal return. Will charge more for the C Corp and less for the personal return (without Sch E). Net increase maybe $150.

The linked article supplied by Kathy is the best reading material and concludes NEVER put real estate into a C Corp. When the client decides, I'll let them read the article.

Thanks for your response....