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How rental real estate business can sail into a tax deduction safe harbor

Revenue Procedure 2019-38, issued by the IRS in 2019, creates a safe harbor permitting certain interests in rental real estate to qualify for the Section 199A qualified business income (QBI) deduction.

Background

The Sec 199A deduction was part of 2017’s Tax Cuts and Jobs Act. The deduction generally allows partnerships, limited liability companies (LLCs) treated as partnerships, S corporations, and sole proprietors to deduct up to 20% of their QBI from a qualified trade or business.

Until the IRS issued Rev. Proc. 2019-38, it wasn’t clear whether an interest in rental real estate would be considered a trade or a business for purposes of this deduction. Now, taxpayers that meet all safe harbor requirements generally can treat their rental estate enterprises as businesses and benefit from the deduction.

Safe harbor criteria

For the purposes of the safe harbor, the IRS defines a rental real estate enterprises as “an interest in real property held for the production of rents and many consists of an interest in a single property or interest in multiple properties.” The taxpayer or relevant pass-through entity (RPE) must hold each entity directly or through a disregarded entity (one that isn’t considered separate from its owner for income tax purposes, such as a single-member LLC).

In addition, the taxpayer or RPE must do the following for each tax year it claims the deduction:

  • Maintain separate records, showing income and expense, for each rental real estate enterprise.
  • Annually perform at least 250 hours of rental services, such as maintenance, if the rental real estate property has existed for less than four years. (For older properties, the 250 hours of rental services must have been performed in at least three of the past five consecutive years.)
  • Keep contemporaneous records of the services performed, describing the services and identifying the individual(s) who performed them, among other information.

Finally, a statement indicating the safe harbor claim must be attached to the tax return.

Get the right advice

Even when an interest in a real estate property fails to meet the safe harbor requirements, it may still be treated as a trade or business for the Sec 199A deduction if it is rented or licensed to a trade or business conducted by the individual or RPE. Your accounting professional can provide more information on Rev. Proc. 2019-38 and how it might apply to your rental real estate enterprise.

© 2019


Jeff Faltys

Jeffrey Faltys, CPA

Jeffrey joined Hancock & Dana in 2017 as a staff accountant. With five years of experience in public accounting, Jeffrey has a wide range of experience including tax preparation and planning services for individual, closely-held business, and non-profit clients. Jeff also assists in audits of governmental, non-profit and for-profit non-public entities, as well as other attest engagements.

His experience also includes general bookkeeping, preparation of quarterly payroll tax returns and general business consulting projects.