landlords and new tax law

The final month of the year is here. We hope yours is busy with family and holiday fun. We're busy at work getting ready for the post-holiday inevitability of tax season and wanted to send a little note specifically to you as an owner of rental property.

One of the big items in the new tax law allows for a 20% deduction from any income resulting from a "qualified trade or business". But it turns out that the IRS doesn't have a clear definition of "qualified trade or business" in the entire tax code! So this has been one of the questions keeping us tax nerds awake at night: is rental income a qualified trade or business? The best guidance we can find is from definitions used in court cases. It appears there are 3 factors used by judges in determining if something is a business: Is the activity done on a basis that is 1) Regular, 2) Continuous and 3) Engaged in for Profit.

With this definition in mind, we need you to ask yourself: Is your rental activity Regular, Continuous and Engaged in for Profit? This only matters if you have rental profits (vs. losses). Our opinion is that most rental properties could qualify (unless IRS clarifies further), but like anything else in tax law, it's up to the taxpayer to prove that they qualify. Here are a few examples to (hopefully) make this clearer:  I own a duplex that requires regular maintenance (lawn/snow), regular bill payment and rent collection as well as communication with tenants over any issues that arise, renewing leases, etc...I may or may not hire a management company to do these regular activities (the key is that they are being done regularly and continuously). I purchased this duplex to make regular rental income (rather than just speculating on appreciation of the building over time). From our perspective, this would be Regular, Continuous and Engaged in For Profit. In contrast, if you have a commercial rental property and the tenant is responsible for ALL repairs, all property tax increases, all insurance, etc. Nothing is required of owner (or owner's management cost) except to deposit the rent check, then it most likely does not hit the Regular and Continuous tests (even if engaged for profits). Or let's say you have a rental property that used to be your personal residence that you chose not to sell in hopes that you'd make more if you wait to sell it later (or at least pay down mortgage a little before selling); this may not rise to "engaged in for profit" as your intent was never to be a landlord. Most likely this last example doesn't have much (if any) profit, so it's not really an issue.

Issue 1099-Misc Forms 
Historically, most accountants have argued that rental property owners did not need to file 1099-misc forms because it was an investment, not a business; however, new rules make for new arguments. We suggest that to claim that your rental is a business activity under rules above, you should also make sure to file 1099-misc forms for any Contractor you paid $600 or more during the year. There are exceptions to the requirement to file 1099s:

1. No need to file if you pay a Corporation.
2. You also don't need to file a 1099-misc if you pay by credit card, paypal or other electronic 3rd party processor.

This means you don't have many, but you may hire an individual for lawn, management or small repairs and need to make one. It is our advice that you collect W9 forms from anyone that you need to 1099 at the time payment is made (or use your credit/debit card for all repairs/services). We can help you file 1099s in January if you contact us with amounts paid, names, addresses and Social Security numbers of contractors. You can also file them yourself online at yearli.com. They are due to be sent to the IRS and the contractor by Jan 31st so you will need to do this before your income tax appointment in most cases. 

Keep Records of your Regular, Continuous Activities
Having a calendar showing time spent, mileage driven and other details (frequency of lawn service/snow removal,etc...) would be helpful. Basically, if you're going to claim your rental property is a business, you should be able to show the IRS that you're tracking it like a business: keep good records of income and expenses, file CRP forms for tenants, consider having a separate bank account for rental income/expenses, etc.. For a multitude of reasons, having no documentation is difficult position to defend in an audit.

As always, we are here to help so please let us know if you have questions. If you need help making 1099-misc forms, please let us know early in January. 

These new rules can get complicated for some.  If you would like to come in for a consultation with your tax accountant before the end of the year, Click Here to schedule online.