Tax Deductions on Land Construction in Tennessee
A majority of states, including Tennessee, impose an income tax on residents in addition to the federal income taxes they pay on the same income. However, the tax deductions available in Tennessee for construction costs depend on whether you are the one benefiting from the work or the company providing the construction services.
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Resident Taxes
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If you live in Tennessee and hire a contractor or business to complete a construction project on your land, there are no tax deductions you can claim. This is because the individual income tax in Tennessee applies only to dividend and interest payments. Unlike under federal tax law, Tennessee specifically treats your capital gains from the sale of the real estate, before and after construction, as nontaxable income. As a result, it isn't necessary to include construction costs in the property's tax basis for state tax purposes.
Construction Businesses
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Tennessee does impose a tax on contractors and other businesses that engage in construction activities, but it allows for a number of tax deductions when calculating your state tax liability on construction revenue. The Volunteer State calculates your business tax liability as 0.1 percent of the gross compensation you receive from construction activities during the year.
From this amount, you can deduct only the fees you pay to subcontractors who help with the land construction, the construction revenue you earn outside of Tennessee and the debts you are unable to recover after including the amount in Tennessee taxable income in a prior tax period.
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Federal Implications
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Under federal tax law, individual taxpayers who buy land and make improvements to it with construction projects must treat the entire property as a capital asset. There aren't deductions available for the cost of purchasing the property or the cost of construction. However, you accumulate these costs in the property's tax basis.
If you sell the property, you must calculate your capital-gains tax as the sale proceeds less the tax basis. Only in situations where the construction relates to investment property are you eligible to report an annual deduction of $3,000 for the loss you incur on the sale that exceeds the other capital gains you report.
Federal Business Taxes
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The federal government imposes an additional income tax on your earnings from a construction business. Although the IRS allows you to claim more deductions than Tennessee, the tax rate on your business earnings is more significant. When you operate a construction business, the IRS allows you to deduct every expense that is ordinary and necessary to your business. If the expense benefits only your business, you can deduct it.
Some examples of deductions include the cost of paying construction workers and subcontractors, car and truck expenses, depreciation on construction tools and equipment, materials and supplies you purchase for construction projects, and administrative expenses such as office space rental and office supplies.
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References
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