Should your condo elect the favorable tax treatment from Section 528?
July 9, 2015 — First, what is Section 528? It's a section of the IRS code that exempts a qualified homeowners association (condo associations, but not co-op corporations) from paying income tax on dues, fees, and assessments that are collected and used for the maintenance and improvement of association property. In a column for the New York Law Journal, attorneys Richard Siegler and Eva Talel of Stroock & Stroock & Lavan examine, among other things, eligibility as well as the tax-motivated reasons why a condominium association or board may not choose this favorable tax treatment.
Eligibility. Before choosing to exempt your condo from Section 528, you have to know you qualify. To do so, your condo must satisfy six conditions:
- The condominium must be organized and operated to provide for the acquisition, construction, management, maintenance, and care of association property.
- At least 60 percent of the condominium association's gross income for the taxable year must consist of dues, fees, or assessments from the residential unit-owners of the condominium.
- At least 90 percent of the condominium association's expenditures for the taxable year must be used for the acquisition, construction, management, maintenance, and care of association property.
- At least 85 percent of the condominium's total square footage must be used for residential purposes, which includes spaces such as laundry areas, swimming pools, tennis courts, storage rooms, and areas used by maintenance personnel.
- No part of the condominium association's net earnings may inure to the benefit of any private individual or shareholder.
- The association must elect Section 528 treatment by filing Form 1120-H; a separate election must be made for each taxable year.
Tax benefit. The federal tax rate on qualifying homeowners associations is a flat 30 percent (the income from dues, fees or assessments is not included in the condo's gross income). In contrast, the typical federal corporate tax rate ranges from 15 percent to 35 percent, depending on the taxable income. Thus, the tax benefit to filing under Section 528 is the exclusion of income from dues, fees or assessment.
No investment credit or other incentives. Section 528 election would also mean a condo association would lose eligibility for an investment credit that rewards property owners for engaging in certain activities, such as the use of clean energy. In addition, the condominium would not be entitled to a net operating loss deduction, or other corporate deductions, such as write-offs for organizational expenditures.
Locked in. Once a condominium association signs up for Section 528, it is bound for the taxable year and can only revoke its election with the consent of the Commissioner of the Internal Revenue Service (IRS). And, add Siegler and Talel, the IRS does not automatically grant requests to revoke that status.
A prudent board should consult with an experienced tax adviser regarding eligibility and the election to be treated under Section 528, the availability of alternative tax treatment outside Section 528, and the possibility of tax exposure to individual condominium unit-owners outside of Section 528.