Chapter 4 Federal Income Taxation and Chapter 5 Forms of Ownership COMBINED Real Estate Exam 2 4 classes of real property for federal tax purposes 1 Personal residence 250 500 2 Dealer property held for sale to others 3 Trade or business property 4 Investment property Forms of ownership Sole proprietorships Partnerships no double taxation General partnership not good unlimited severe liability Limited partnership only lose what you invest must have at least one general partner and one limited partner Corporations can only lose your share Real Estate Investment Trusts REITs NOT double taxed Can have as many shareholders as wanted Must have at least 100 shareholders More than 90 of the REIT s taxable income must be distributed to the shareholders each year More than 75 of the assets must be real estate assets cash and government securities More than 75 of the gross income must be derived from real estate Limited Liability Company most popular type Has members instead of shareholders C Corporations Chapter C shareholders have annual meeting to vote for BOD S Corporation sub chapter S must file from 2533 can only sell 100 shares no doubled taxed limited liability to shareholders more Also no double taxation Types of Income 1 Active Income earned from salaries wages commissions fees and bonuses This income taxed at the ordinary tax rate and is the income that investors have traditionally attempted to shelter 2 Portfolio Income includes interest and dividends and capital gains from stock bond and other financial security investments 3 Passive Activity Income generated from trade and business activity in which the taxpayer does not materially participate Ex real estate rental activities Forecasting Taxable Income from Operations Personal property is any tangible property not permanently attached to the building structure It may be depreciated over shorter periods Cost recovery straight line rate formula deduction If it is commercial income property that is being calculated the rate is always 39 years 1 Recovery period in years depreciation Random things to know Tax Credits are allowances that are deductible directly from the taxes owed What is a tax shelter Occurs when the cash received is not taxed due primarily to mortgage interest and depreciation deductions A partial shelter occurs when the taxable income is less than the before tax cash flow All recognized gains and losses must eventually be classified as either capital or ordinary Capital gains for 2015 are subject to a maximum 25 rate however ordinary is 39 6 Q The dividends distributed to investors in a REIT are classified as portfolio income Q Under current federal income tax law for property obtained after 1994 the allowable cost recovery period for owner occupied single family residential income property is none of the above owner occupied residential property is not depreciable Q If a sole owner is an active participant passive tax losses from the investment may in some cases be used to offset All of the above wages and salary dividend income portfolio income T F Raw land purchased by an investor looking to develop a residential subdivision in the future can be depreciated T F Residential Income property purchased today is depreciated over a 29 5 year period FALSE land is not depreciable FALSE 27 5 years is correct Previous terms further defined S Corporation corporate ownership structure which provides limited liability however it is not a separate taxable entity Income and losses may flow through to each stockholder REIT a corporate ownership structure which provides limited liability More than 75 of its gross income must be derived from real estate Limited Partnership a partnership in which at least one party assumes unlimited liability while the other parties liability is limited Sole Proprietorship ownership structure where all cash flow and income tax consequences flow through directly to a single individual s income tax return General partnership an ownership form characterized by multiple owners unlimited liability for each equity holder and flow through taxation of both income and losses Chapter 7 Management of the Space and Assets Portfolio managers generally advise owners of investment portfolios about the types of investments needed to achieve the portfolio s risk return objective Often handle and advise the owner about Asset acquisition renovation and sale decisions Asset managers analyze investment opportunities assist in acquiring assets assure that the assets remain productive during ownership and assist in the disposition of assets Often handle and advise the owner about asset acquisition renovation and sale decisions property investment values or expected returns property conditions and maintenance problems the hiring of a property manager Property managers oversee the day to day operations of the asset rent collection physical maintenance and tenant relations Often handle and advise the owner about rent collection marketing and tenant administration property maintenance and insurance accounting operations Creating cash flow managers must understand the target market in order to effectively enhance cash flow and maximize occupancy and rent levels Provisions in Residential leases As assignment transfers the lessees rights to new lessees The original tenants remain liable under lease assignments unless released by the landlords A sublet involves the sale of part of the lessees rights The original lessees become lessors and the parties now have a sandwich leasehold Commercial leases Most commercial leases have terms of 3 to 50 years or longer Commercial leases can be classified by o Extent to which the lessor pays operating expenses o Basis for determining rent payment and timing o Terms of the leases In a gross lease lessors pay all operating expenses In a net or net net lease the lessees pay some or all operating expenses typically the first net obligates them to pay property taxes the second net obligates them to pay insurance In an absolutely net net net net or triple net lease lessees pay all operating expenses These include property tax insurance and repairs maintenance Note the third net stands for repairs maintenance Other specific types of leases include Shopping center leases most complex lease Ground leases leases of vacant land or of the land portion of an improved parcel generally run for terms of 20 99 years and usually are triple net leases Random thing to know for test Statute Rights between