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FONCE/Reasonable Rent FAQs

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  1. Will an entity be allowed to treat industrial and commercial rent as passive investment income until July 1, 2009, for purposes of determining whether the entity qualifies for the FONCE exemption for the tax year?
  2. Assume that an entity's income consists entirely of industrial and commercial rents and that it qualified as a FONCE under the law in effect before July 1, 2009. However, the entity will not qualify for the exemption in 2009 because only 50% of its income in 2009 is treated as passive investment income. If the entity files documentation to become an exempt obligated member entity on or before October 1, 2009, will the entity be exempt for the entire 2009 tax year?
  3. Assume that an entity's income consists entirely of industrial and commercial rents and that it qualified as a FONCE under the law in effect before July 1, 2009. However, the entity will not qualify for the exemption in 2009 because only 50% of its income in 2009 is treated as passive investment income. On or before October 1, 2009, the entity elects to become an exempt obligated member entity. If the entity disposes of assets within 12 months of becoming an obligated member entity, will the disposition be subject to the excise tax?
  4. Assume that an entity's income consists entirely of industrial and commercial rents and that it qualified as a FONCE under the law in effect before July 1, 2009. However, the entity will not qualify for the exemption in 2009 because only 50% of its income in 2009 is treated as passive investment income. The entity does not elect to become an obligated member entity and does not qualify for any other exemption in 2009. The entity distributes an asset before July 1, 2009, to an exempt entity that is an affiliate. If the exempt entity sells the asset within a year of the distribution, will the gain from the sale be subject to the excise tax?

Reasonable Rent FAQs

  1. Are payments made in lieu of rent, such as payments for property taxes, insurance, and maintenance, treated as rent for purposes of determining reasonable rent and the "2% limitation"?
  2. Property values for property tax purposes are subject to periodic reappraisals by local governments. For purposes of determining reasonable rent and the "2% limitation" discussed above, how should a taxpayer take into account any increases in appraised value due to capital investments, expansions, etc., that occur between property tax appraisals? Will the Department accept independent appraisals of the improved property?
  3. Does the "2% limitation" described above apply to all current leases or only to leases entered into on or after July 1, 2009?
  4. Are amounts in excess of reasonable rent includable as rent for purposes of determining the taxpayer's franchise tax base and the taxpayer's franchise and excise tax apportionment ratios?


  1. Will an entity be allowed to treat industrial and commercial rent as passive investment income until July 1, 2009, for purposes of determining whether the entity qualifies for the FONCE exemption for the tax year?
    Yes. Industrial and commercial rental income that is received or accrued before July 1, 2009, may be treated as passive investment income for purposes of determining whether the entity qualifies for the FONCE exemption. Industrial and commercial rental income that is received or accrued on or after July 1, 2009, may not be treated as passive investment income.
  2. Assume that an entity's income consists entirely of industrial and commercial rents and that it qualified as a FONCE under the law in effect before July 1, 2009. However, the entity will not qualify for the exemption in 2009 because only 50% of its income in 2009 is treated as passive investment income. If the entity files documentation to become an exempt obligated member entity on or before October 1, 2009, will the entity be exempt for the entire 2009 tax year?
    Yes. With respect to tax years beginning on or after July 1, 2008, but before October 1, 2009, the entity must file the required documentation with the Secretary of State on or before October 1, 2009. If the entity files the required documentation on or before this date, the entity will be exempt as an obligated member entity for the entire tax year.
  3. Assume that an entity's income consists entirely of industrial and commercial rents and that it qualified as a FONCE under the law in effect before July 1, 2009. However, the entity will not qualify for the exemption in 2009 because only 50% of its income in 2009 is treated as passive investment income. On or before October 1, 2009, the entity elects to become an exempt obligated member entity. If the entity disposes of assets within 12 months of becoming an obligated member entity, will the disposition be subject to the excise tax?
    No. The excise tax laws require that an entity not otherwise subject to taxation pay tax on the gain from the sale of an asset, if the entity qualified for the obligated member entity exemption in the 12-month period immediately prior to the sale. However, the "12-month rule" does not apply if the entity was exempt as a FONCE immediately prior to becoming an obligated member entity and the entity did not, at any intervening time, become subject to taxation.
  4. Assume that an entity's income consists entirely of industrial and commercial rents and that it qualified as a FONCE under the law in effect before July 1, 2009. However, the entity will not qualify for the exemption in 2009 because only 50% of its income in 2009 is treated as passive investment income. The entity does not elect to become an obligated member entity and does not qualify for any other exemption in 2009. The entity distributes an asset before July 1, 2009, to an exempt entity that is an affiliate. If the exempt entity sells the asset within a year of the distribution, will the gain from the sale be subject to the excise tax?
    No. The excise tax laws require that an exempt entity pay tax on the gain from the sale of an asset, if the asset was owned by an affiliate that was subject to taxation in the 12-month period immediately prior to the sale. Here, however, the entity qualified for the FONCE exemption under the law in effect at the time it distributed the asset to the exempt entity. As a result, the gain recognized by the exempt entity from the sale of the asset is not subject to taxation under this "12-month rule."

Reasonable Rent FAQs

  1. Are payments made in lieu of rent, such as payments for property taxes, insurance, and maintenance, treated as rent for purposes of determining reasonable rent and the "2% limitation?"
    Yes. Beginning July 1, 2009, a taxpayer must add to net earnings any amount in excess of "reasonable rent" that is paid, accrued, or incurred for the rental, leasing, or comparable use of industrial and commercial property owned by an affiliate. "Reasonable rent" means rent that does not exceed 2% per month of the value of the property, as appraised for property tax purposes. This "2% limitation" is determined based on gross receipts transferred between the taxpayer and the affiliate. Gross receipts include all payments made in lieu of rent, including payments for taxes, insurance, and maintenance.
  2. Property values for property tax purposes are subject to periodic reappraisals by local governments. For purposes of determining reasonable rent and the "2% limitation" discussed above, how should a taxpayer take into account any increases in appraised value due to capital investments, expansions, etc., that occur between property tax appraisals? Will the Department accept independent appraisals of the improved property?
    The "2% limitation" is determined based on the current appraised value for property taxes. Therefore, the Department will not accept independent appraisals. However, property tax appraisals are often timely adjusted for additions if appropriate permits are granted for the work. In the event no adjustment occurs, the Department will consider a request for a variance to the current property tax valuation.
  3. Does the "2% limitation" described above apply to all current leases or only to leases entered into on or after July 1, 2009?
    The "2% limitation" applies to all rental or lease payments paid, accrued, or incurred on or after July 1, 2009, regardless of the effective date of the rental or lease agreement.
  4. Are amounts in excess of reasonable rent includable as rent for purposes of determining the taxpayer's franchise tax base and the taxpayer's franchise and excise tax apportionment ratios?
    Yes. Amounts in excess of reasonable rent are treated as rent for purposes of determining the taxpayer's franchise tax base and the taxpayer's franchise and excise tax apportionment ratios.