UDFI tax – IRA sold debt-financed property at a gain. | Ed Slott and Company, LLC

UDFI tax – IRA sold debt-financed property at a gain.

Two (2) IRA H/W owners and the same people as individuals (4 partners total) form a partnership (“A”) to invest in another partnership (“B”) that bought a building using cash and non-recourse debt back in 2012. B sold the building in 2019 at a gain which is passed-thru to A. There is a 95% average debt to basis - taxable ratio on the books of B which triggers a Unrelated Debt-Financed Income tax (“UDFI”) payable by the IRA owners.

From inception, there were routine losses you would expect from a rental property with a mortgage and depreciation. B had a good accountant who kept good books and records, A used HRB Executive Services who filled out forms – A is now my client. Never was there attention paid to any filings with respect to 990-T by HRB or the Custodian/Trustee.

I have advised the client/IRA owners that they have a capital gain to report via 990-T for the UDFI tax. They knew of there would be a tax obligation but are informed the IRA Custodian is not doing the returns. (this contrary to what I understand is the custodian’s fiduciary responsibility (i.e. trustee of the plan) – but that’s an issue to be addressed at another time).

Based on my research, including Mat Sorensen’s book, 2nd edition, this gain is subject to capital gains rates, not ordinary income. IRC Treasury Regulations 1.514(a)-1(a)(v)(b).

My questions:
Am I reading correctly, IRS Pub 598 says to calculate the tax on a Trust Form 1041 and then carry-over to the Form 990-T? This could subject the gain to NII also?

The property sold is in South Carolina. SC withholding tax was withheld from the sales proceeds. B properly passed thru the withholding to A, I have included same on A’s K-1’s. What SC form is this to be reported on by the IRA holders? Since the IRA holders are NC residents, same questions for NC. Corporate tax forms at corporate tax rates (same as would be for UBIT) or trust returns?

The never deducted, never reported (never filed) losses, can these be treated as NOL’s to reduce the Gain?

Who signs the returns, the IRA owner or the Trustee/Custodian?

Thank you to anyone who can answer ANY of these questions.


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