On July 27, Treasury issued final regulations on the interest deduction limitation. Nursing homes and other residential care facilities were specifically granted a carve out from the application of a part of the rules which would have been catastrophic to the industry.
Section 163(j) of the Internal Revenue Code, enacted as part of the TCJA, limited the amount of interest a company could deduct to an amount equal to 30% of its EBITDA. (The CARES ACT subsequently increased the amount to 50% for non-LLC/partnerships for 2019 and to 50% for all taxpayers in 2020).
Companies conducting a rental real estate activity could elect out of the 30% deduction limitation in exchange for slowing down some depreciation deductions (the Election). However, the Proposed Regulations issued by the IRS in late 2018 contained a rule that a real estate company (Propco) which leases to a related party operator (Opco) is prohibited from making the Election.
A special Carve out For Long Term Care Facilities
On July 27, Treasury released final regulations and Notice 2020-59. The final regulations did not change the related party prohibition. However, Notice 2020-59 issued simultaneously with the regulations contains a special carve out for long term care facilities. According to that notice, if the average period of resident stay at the Opco is 90 days or more, then the Propco is allowed to file the Election.
This is a win for the industry and is a reflection of the efforts of the community to reach out to Washington and explain the hardship which the proposed rule would have created. In the explanation to the final regulations, Treasury goes so far as to use the terms Opco and Propco.
For Those Who did NOT File the Election
For people who were advised to not make the election and therefore reported higher income, the final regulations give permission to make a late election and amend 2018, 2019, and 2020 tax returns.
One Last Complete Out
The final regulations acknowledge that a triple net lease might not rise to the level of a trade or business. Therefore, the interest limitation and the election would not apply at all. The final regulations do not list any criteria by which this should be assessed.
The final regulations did say that a company engaged in triple net leasing activities can opt to file the Election.
People should consider taking the position that a property acquired before September 27, 2017 subject to a triple net lease is not a trade or business and therefore is not subject to the interest election (The MF exception). And, filing the election for the companies where the real estate was acquired after September 27, 2017. Since filing the election is done on a company by company basis, doing it one way or the other on different returns is not inconsistent.