Is Your Rental Property a “Qualified Trade or Business”?

The IRS recently released additional guidance on Section 199A—which has the potential to help certain business owners significantly reduce their annual tax bill with a 20% deduction against their “qualified” pass-through business income.  In order for your rental real estate enterprise to qualify for the deduction, you must  first determine if the venture rises to the level of a Section 162 trade or business.  But how do you make that determination?

In Revenue Procedure 2019-7, the IRS offered a safe harbor providing that rental activity will rise to the level of a Section 162 trade or business if:

  • Separate books and records are maintained for each rental activity (or the combined enterprise if grouped together);
  • 250 hours or more of “rental services” are performed per year for the activity (or combined enterprise); and
  • Beginning with tax year 2019, the taxpayer maintains contemporaneous records, including time reports or similar documents regarding:
    • Hours of all services performed
    • Description of all services performed
    • Dates on which services are performed
    • Who performed the services

“Rental services” do not have to be performed by business owners themselves, but Notice 2019-07 was pretty specific about which “rental services” activities are included and which are excluded for the purposes of the safe harbor.

“Rental Services” activities specifically included for the purposes of the safe harbor:

  • Advertising to rent or lease the real estate
  • Negotiating and executing leases
  • Verifying information contained in prospective tenant applications
  • Collection of rent
  • Daily operation, maintenance, and repair of the property
  • Management of the real estate
  • Purchase of materials
  • Supervision of employees and independent contractors

Activities explicitly excluded from “Rental Services” for the purpose of the safe harbor:

  • Financial or investment management activities (e.g., arranging financing)
  • Procuring property
  • Studying and reviewing financial statements or reports on operations
  • Planning, managing, or constructing long-term capital improvements
  • Hours spent traveling to and from the real estate

Millions of Americans who own rental property–either directly or via pass-through entities such as S-corporations, partnerships, and LLCs–are potentially eligible for the 199A deduction.  Beginning in 2019, rental real estate owners must maintain proper documentation of rental activities performed.

If you believe your real estate venture may qualify as a Section 162 trade or business, diligent record-keeping now will serve you well come tax-filing time.  We can help.  Give us a call if you have any questions or would like to discuss this issue further.

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