Significant new income tax position now available for residential developers A tax court decision that was upheld upon an appellate review in August, 2016 for Shea Homes, Inc., has significantly changed tax accounting for new residential developments. Shea Homes, Inc. builds mid and high priced homes in several states in the Southwest United States. Work is performed by the home building company (Shea) and various of its subsidiaries that develop the land, common area improvements and amenities. Total projects are carried out on a long term basis extending over more than one tax year. This decision is a major victory for residential developers. In this decision, the Ninth Circuit confirmed the tax court decision that residential developers, in certain cases, were entitled to use the completed contract method of accounting for reporting income from the sales of homes in residential developments. The completed contract method of accounting allows for deferral of the tax on the profits of house and lot sales, until the contract is completed, i.e. the time the taxes become due. Now the courts have stated the contract is not complete when house and lots are sold, but when the entire residential community is completed. The Tax Court agreed with Shea, that the project was not complete until they had completed their obligation to fulfill their promises regarding the development of the community being marketed to the buyers. The development went beyond a house and a lot; it included the elements needed to create a house within the particular planned community development that the buyer was expecting. The tax court concluded that the buyers were purchasing "the entire lifestyle of the development." This was reflected in, among other things, common improvements, bonding requirements, the creation of homeowners' associations in which each buyer had rights, and in the covenants, conditions and restrictions that ran with the land and affected not only the buyer, but also other prospective buyers and the properties they were purchasing. Not surprising, the IRS does not like the long-term completed contract method of income tax deferrals. It has pursued developers using these aggressive contracting strategies both in audits and in court. It also should be noted the same court that issued this positive Shea Homes, Inc. case also issued an opposite conclusion in the Howard Hughes Company, LLC case a few weeks later, basing its opinion on a conclusion that the contractor was not a homebuilder. The court distinguished between contactors involved in home building and land developers who do not build homes. Therefore, it is important to point out that careful planning is required and you should seek qualified professional advice. At Diel & Forguson LLC, it is our job to make sure that you have the knowledge you need to comply with the ever-changing rules and laws affecting you and your business. We are here to answer questions and offer advice about your specific situation. O'Fallon, IL Kenneth R. Diel, CPA, CVA Diel & Forguson 852 Cambridge Blvd, Suite 100 O'Fallon, IL 62269 618-632-7574 14 St. Louis, MO 1200 South Big Bend St. Louis, MO 63117 314-454-0438
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