In an information letter,[1] the IRS has informally addressed an issue that has existed since the passage of the Tax Cuts and Jobs Act—does the $10,000 state and local tax deduction cap apply to the special deduction under IRC §216 to a shareholder’s portion of taxes paid by a housing cooperative?

In February 2019[2] we published an article looking at the interaction of the limitation on personal state and local taxes found at IRC §164(b)(6) and the deduction allowed for owners of shares in a real estate cooperative under IRC §216. A real estate cooperative is an alternative to the use of a condominium structure to have an individual purchase a segment (or unit) in a particular building.  The cooperative is a corporation that owns the building, with each shareholder normally having the right to occupy a particular unit.

Since the property tax would be imposed on the corporation as owner of the building rather than the shareholder, IRC §216 provides a method for the shareholder to claim his/her share of the taxes paid by the corporation. 

As was described in the article, it appeared the language of the Tax Cuts and Jobs Act added at §164(b)(6) to limit itemized deductions for state and local taxes other than for business or investment properties failed to specifically limit taxes for which the deduction was allowed under IRC §216.  As was noted, the Blue Book indicated that it was Congress’s intent to have the limit applied, but the Blue Book text also contained the footnote reference that a technical correction might be necessary to achieve that result—that is, the text of the law might not be drafted properly to achieve the intended result.

Congressman Jerrold Nadler’s office made an inquiry to the IRS about whether, in fact, this limitation applied and, in a letter dated July 29, 2020 but formally released on the IRS website later, the IRS addressed the issue.

The IRS letter takes the position that the limitation does apply to these taxes under IRC §216:

The SALT limitation under section 164(b)(6) applies to the deduction taken into account by a tenant-stockholder under section 216 for the tenant-stockholder’s proportionate share of the real estate taxes paid or incurred by a cooperative housing corporation.[3]

The letter provides the following analysis in support of this position:

Section 164 generally allows an itemized deduction for certain taxes, including state and local real property tax, state and local personal property tax, and state and local income tax or state and local sales tax, for the taxable year in which paid Section 164(b)(6), which was added by the Tax Cut and Jobs Act of 2017, limits an individual’s deduction for the taxable year to an aggregate amount of the state and local taxes taken into account during the taxable year to $10,000 (or $5,000 in the case of a married individual filing a separate return) for taxable years beginning after December 31, 2017, and before January 1, 2026.

Section 216(a) allows a deduction by a tenant-stockholder for the tenant-stockholder’s proportionate share of the real estate taxes allowable as a deduction to the cooperative housing corporation under section 164. The legislative history to section 216 states that “[t]he general purpose of this provision is to place the tenant stockholders of a cooperative apartment in the same position as the owner of a dwelling house so far as deductions for interest and taxes is concerned.” S. Rep. No. 1621, 77th Cong., 2d Sess. 51 (1942). Further, regarding the SALT limitation, the Joint Committee on Taxation states that “[i]t is intended that the limitation apply to the deduction for amounts paid or accrued to a cooperative housing corporation by a tenant-stockholder under section 216(a)(1) (relating to real estate taxes) in the same manner as the limitation applies to real estate taxes under section 164.” Joint Committee on Taxation Staff, General Explanation of Public Law 115-97, JCS-1-18 p. 68 (December 2018).[4]

The analysis is interesting in that it relies entirely on statements of Congressional intent and steers clear of analyzing the actual text of the section in question.  As well, while quoting the Blue Book (the General Explanation of Public Law 115-97), the letter avoids mentioning the footnote that was tied to the passage quoted that indicates a law change might be necessary to achieve this result.

So where does this leave taxpayers and advisers? First, advisers should include the fact that, as informal as these letters are, the IRS is on record as deciding the limit applies when advising taxpayers on the matter.  Even if the IRS position is improper, there would be costs incurred to defend the position if it is challenged on exam, costs that would be avoided if the taxpayer simply applies the cap.  That is, the full deduction might be justified, but the costs of carrying the issue could be greater ultimately than the taxes saved.

But, as well, it’s important to note that the IRS is issuing this guidance in a format that carries little or no authority beyond the persuasive nature of the legal analysis—and analysis that, conveniently, ignores the language found in the relevant provisions.  Generally, Congressional intent only matters when attempting to resolve ambiguity in the law—but the IRS does not attempt to first show the existence of such ambiguity in the positions in question.  If the law itself can only reasonably be read to lead to one result, that is the result that matters regardless of intent.

And, frankly, the IRS has applied that very standard to other TCJA provisions. Although clearly Congress intended for qualified improvement property to have a 15-year life and be eligible for bonus depreciation treatment when the TCJA was passed, the IRS took the position that the law itself did not support that treatment.  Eventually Congress passed a technical correction in the CARES Act to modify the law to agree with the intent.

At this point it would appear that taking the position that a deduction in full is allowed under §216 is at the very least a reasonable interpretation of the law. For that reason, an adviser should be able to sign a return taking that position if the taxpayer wishes to risk an IRS challenge. The adviser may decide the position lacks substantial authority, or that it might be viewed as doing so, and decide that disclosure of the position on a Form 8275 may be appropriate. 

But, fundamentally, aside from the IRS going on the record in a rather obscure manner indicating the limit should apply, nothing much has changed regarding this issue.  Only time will tell if this is merely IRS saber rattling to scare taxpayers away from doing this (and thus, actual challenges would be rare) or if the agency seriously plans to pursue these positions. And, in the latter case, it will likely take a few more years before any such case ends up before the courts for a ruling on the matter.

[1] Information Letter 2020-0010, September 25, 2020, https://www.irs.gov/pub/irs-wd/20-0010.pdf (retrieved October 28, 2020)

[2] Edward Zollars, “Owners of Shares in Housing Cooperatives May Escape $10,000 Limit on Tax Deduction Due to Drafting Error in TCJA,” Current Federal Tax Developments website, February 22, 2020, https://www.currentfederaltaxdevelopments.com/blog/2019/2/22/owners-of-shares-in-housing-cooperatives-may-escape-10000-limit-on-tax-deduction-due-to-drafting-error-in-tcja (retrieved October 28, 2020)

[3] Information Letter 2020-0010, p.2

[4] Information Letter 2020-0010, pp. 1-2