Agenda Summary

2007 Federal Taxation Committee
National Association of REALTORS®
Midyear Legislative Meetings & Trade Expo
Omni Shoreham
Ambassador Room, Lower Level
Wednesday, May 16, 2007
10:00 AM - 12:00 PM

Chair: Lance Lacy, TX
Vice Chair: Dennis Patillo
Committee Liaison: Gary Thomas
Committee Executive: Linda GooldI. Call To Order

II. Approval of Previous Meeting's Minutes

III.Unfinished Business

A. Small Business Tax PackageThree main areas of focus for REALTORS®:

Brownfield Deduction: The provision that allows a deduction for the cost ofcleaning up certain contaminants in the course of site preparation expires as of December 31, 2007. Thus, until the provision is renewed and extended, those costs must be capitalized into the basis of the land and may not be recovered until the land is sold.

Leasehold Improvements: A temporary rule permitting the cost of leasehold improvements to be recovered over 15 years has been in place since 2004 and is currently scheduled to expire as ofDecember 31, 2007. Prior to the enactment of this provision, these costs had to be recovered over the 39-year statutory life of the underlying property, even if the lease had a substantially shorter term. Legislation to extend the 15-year period beyond its current expiration date is an important priority.Small Business Expensing: The U.S. House Ways and Means Committee intends to craft a small business tax package in response to a Senate tax bill passed recently. The Senate's $8billion tax cut package was attached to legislation increasing the minimum wage. The House package is expected to provide tax cuts of about $1 billion. Of interest to REALTORS® is a provision extending and expanding the deduction that permits ownersof small businesses to deduct, rather than depreciate, the cost of up to $100,000 in new equipment. The provision would be expanded to a $125,000 allowance and would phase out when a business had $500,000 of income. Both the House and Senate packages would be revenue neutral.

B. Tax Gap. The Internal Revenue Service developed the concept of the tax gap as a way to gauge taxpayers’ compliance with their federal tax obligations. The tax gap measures the extent to which taxpayers do not file their tax returns and pay the correct tax on time.

The tax gap can be divided into three components: non-filing, underreporting and underpayment.Currently, Congress is pushing the IRS to close the “tax gap” in order to generate more revenue to cover the cost of programs.  This could mean more compliance rules being issued, which could prove to be a further burden on small businesses. 

C. Like-kind Exchange. The like-kind exchange provisions of Internal Revenue Code Section 1031 permits a taxpayer to defer taxation on capital gains if within 45 days of selling a "relinquished property," the taxpayer identifies a "replacement property" and closes on the acquisition of that property within 180 days of the sale of the “relinquished property”. The regulations for these rules provide a roadmap for securing the benefits of deferral and a well-established body of law governs these transactions.

If a real estate investor were to create a hierarchy of tax provisions based on their utility and the benefits provided, the like-kind exchange rules would be at or near the top of the list. Real estateinvestments are, by their nature liquid and they also require substantial investment of capital. The exchange rules permit an investor who can satisfy the criteria to preserve capital for ongoing real estate investment.

The exchange rules havenot been modified since about 1991. Two developments, however, have brought new scrutiny of the rules. The first of these is an effort to repeal the exchange rules that has been mounted by farmers located primarily in Iowa and Illinois. They believe thatthe exchange rules have the effect of driving up the price of farmland. A second development is the rise of the Tenant-in-Common (TIC) market since 2002.

In 2007, the Senate Finance Committee is likely to review several aspects of Section 1031. There are numerous areas they will examine, ranging from the basic to the more complicated of matters concerning 1031 exchanges.  The more basic issues to be examined are whether the IRS Form 8828, which is used to figure and report the recapture tax on a federal mortgage subsidy, should be made a mandatory filing; and examining how long a 1031 exchange must be held before a replacement property can be purchased.  They may also examine the issue of withholdings on boot.  Boot is any part of a 1031 exchange that is not like-kind property.  This can be other property or cash.  An example would be if you are selling a house for $500,000, but doing a 1031 exchange on ahouse that cost $400,000, and you are receiving $100,000 in cash, the $100,000 would be considered boot.  The boot must also be recognized as gain under current law.  More complicated issues that may be addressed are the deferral of fees and collection of fees involved in TIC properties.  The issue surrounding deferral amounts on TIC properties relates to fees. The fees associated with TICs are said to range as high as 25% of the acquisition cost. Congress may examine whether taxpayers engaged in exchanges should be permitted deferral treatment for these fees. Congress will also examine whether deferral treatment is appropriate for collectibles.

NAR will lobby to keep like-kindexchanges unchanged and retain the current laws.D. FIRPTA. Over the past several years as identity theft has become more of a concern for everyone, sellers have grown increasingly uneasy with providing their taxpayer identification numbers.  The concern has become so great that some sellers are refusing to provide the required affidavit to the buyer or are providing an affidavit without the seller’s taxpayer identification number.  This creates adilemma for buyer’s who may be liable for the sellers’ tax liability from the sale of the real property if they do not receive a fully completed sellers’ affidavit.  C.A.R. believes a seller should be able to provide the information required by FIRPTA to escrow or another settlement provider as an alternative to providing that information to the buyer. C.A.R. & NAR were able to get a FIRPTA amendment attached to H.R. 1677, The Taxpayer Protection Act of 2007.  On April 17, 2007 the House passed H.R. 1677 by a vote of 407-7.  C.A.R. will now continue to work with NAR to have a similar bill passed by the Senate which would also include this FIRPTA fix.

IV. New Business

A. Natural Disaster Tax-related Issues

B. Taxation of Non-US Retirees

C. Tax Challenges for the Self-employed

D. Mortgage Cancellation/Foreclosure. In today's market, some individuals are "upside down" on their mortgages (i.e., they owe more on the mortgage than the fair market value of the property). If they should sell the property and be unable to repay the full amount of any outstanding mortgage debt, the lender may forgive some or the entire shortfall. (This is known as a "short sale.") Similarly, in foreclosures a borrower might be forgiven some portion of a mortgage debt if the lender is not able to satisfy the mortgage liability from the sale proceeds. When some portion of a debt is forgiven, income tax is imposed on any amount that a lender forgives.Under current law, if a mortgage lender forgives or cancels a debt, the taxpayer/borrower is required to recognizeincome and pay tax on the amount of the canceled debt. Exceptions are provided to this rule in the case of bankrupt or insolvent taxpayers. Rules are also provided that defer taxation for relief of debt on loans for commercial and investment property, butthe tax laws have never extended relief to an individual who sells a personal residence for an amount that is less than the outstanding debt on the property.

Example: Assume that an individual purchased a home for $125,000. At the time of a subsequent sale, the outstanding mortgage balance might be $105,000. If the home sells for $100,000, the individual has incurred a non-recognizable capital loss of $25,000 and is short $5,000 to pay off the outstanding mortgage. If the lender forgives this$5,000 debt, then the homeowner must recognize the $5,000 as ordinary income and pay tax on it.

Currently the House has introduced, H.R. 1876, the Mortgage Cancellation Relief Act of 2007.  NAR will push to eitherpass H.R. 1876 or have its provisions included in any tax bill that moves in 2007.

The legislation (H.R. 1876) would assure that mortgage debt on a principal residence that is canceled or forgiven would not be treated as income ortaxed.NAR supports that there be no taxable event when a lender forgives some portion of a debt in a short sale, foreclosure or similar disposition. Such relief would be limited to principal residences.

E. Identification of Areas of Focus

V. Adjournment