S Corporations Subject to Extended Three Year Holding Period
The Tax Cuts and Jobs Act, which was passed late last year, extended the holding period for carried partnership interests to three years. Carried interests are ownership interests in partnerships that allow the holder to share in the partnership’s net profits. These interests often result in the holder receiving capital gains that are taxable at a lower rate rather than the rate at which ordinary income is taxed. The rule applies to tax years beginning after December 31, 2017, although neither the Treasury, nor the IRS has yet issued regulations concerning the changes. However, the IRS did recently clarify that taxpayers cannot circumvent this three year rule by establishing S corporations, as they are also subject to the three year holding period. Although the IRS has taken steps to help explain the recent holding period changes and regulations are allegedly forthcoming, it can still be difficult to understand how the new amendments affect individual taxpayers, so if you have questions about calculating your capital gains tax, you should speak with an experienced tax attorney who can walk you through the recent changes.
Changes to Long-Term Capital Gains
Prior to the enactment of the recent tax reform law, long-term capital gains were defined as gains made on assets held by taxpayers for over a year. Short-term capital gains, on the other hand, were said to come from assets that have been held for a year or less. This is a former distinction because the former are taxed at different rates depending on the taxpayer’s tax bracket, while short-term gains are taxed as ordinary income.
Under the recent changes, the one year deadline has been changed to three years for long-term capital gains interests, so the IRS will only recognize assets earned from a carried interest in an investment partnership as long-term capital gain if the asset from which the capital gain was derived has been held for more than three years. Carried interests that cannot be attributed to three year property will generally be taxable instead as short-term capital gain for federal income tax purposes and will be calculated at the ordinary income rate.
Applicable Partnership Interests
The Tax Cuts and Jobs Act makes clear that the extended holding period applies to applicable partnership interests, which are further defined as any partnership that is transferred to or held by a taxpayer in connection with the performance of substantial services in any trade or business. While this definition does not include any interests in a partnership that are directly or indirectly held by a corporation, the IRS recently clarified that S corporations are subject to the extended three year holding period for applicable partnership interests.
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If you have questions about the new tax reform law and how it applies to you, please call dedicated Florida tax attorney Ronald Cutler, P.A. You can reach a member of our legal team by calling 386-490-9949 or by sending us an online message.