Choosing rental property as investment or business

Question

For at least the past ten years I have reported income and losses on the schedule E. To date I've considered these seven single family homes investments, but they also qualify as a business, given the number of properties and level of participation, at lease based on my readins and examples). (ADJ INC: > $100,000 and

< $150, 000) (2020 losses > $25,000) From a loss deductible point of view (i.e. loss limitations) is it better to identify as a business or continue as a investment. Also, if I change to a business, does that mean I now have to complete the small business schedule. My husband is considered a(no real estate professional and we actively and materially participate. Our objective is to make a profit that adds to our income as retirees.

Thank you in advance.

CN

Anonymous_ · Accepted Answer

are those who provide "services" to their tenants

TO be a bit more specific, isn't that "services to their tenants on a recurring basis that are directly beneficial to the tenant."?

I clarify, because for many, including lawn service or A/C maintenance in the rent doesn't count since that's something that would usually be done anyway, even if the property was not occupied. It's more like laundry service, meals, and that sorta stuff that is beneficial to the tenant more directly.

The types of "Services" considered "services" that would be required to be reported on Schedule C (or otherwise, considered an active trade or business) has never actually been definitively listed with the exception of "maid service".

Otherwise, "services" do not include the furnishing of heat and light, cleaning of public areas, trash collection, or similar services.

Mike9241 · Answer

unless you can be classified as a real estate professional you are subject to the Passive Activity Loss Limit rules as to the real estate activities. you may be a real estate professional. here are the rules. In Turbotax there is a question about being a REP

The IRS Publication 925 establishes the criteria necessary to qualify as a real estate professional for tax purposes. There are a few different ways to look at these rules, but generally speaking investors are required to spend a certain amount of time per year working in real estate. The real estate professional rules are as follows:

More Than 50% Rule
750 Hour Requirement
Single Taxpayer Requirement
Material Participation

More Than 50% Rule

The first qualification set forth by the IRS states that more than half of the services performed within the tax year were in “real estate property trades or businesses.” This is commonly referred to as the more than 50 rule, meaning more than 50 percent of your working hours must be in real estate. The more than 50% rule generally eliminates anyone with a full-time job outside of real estate from being classified as a real estate professional. For example, if you work 40 hours a week at Google and spend about 5 to 10 hours per week managing a rental property — you will not qualify as a real estate professional when tax season comes around.

750 Hour Requirement

The second qualification for real estate professionals requires them to spend more than 750 hours in a year performing services related to real estate trades or businesses. To put that in perspective, a typically 9 to 5 employee works between 1600 and 1900 hours per year. The 750 hour requirement is calculated annually (from January to December) and there is no limit on when the hours are worked — so long as they fall within the tax year. The activities that count towards this professional requirement include:

Rental unit management
New Construction
Property and business operations
Time spent as a real estate agent or broker
Property development or redevelopment
Property acquisition

Real estate professionals are also generally told to consider their property interests as one business activity rather than separate businesses. That way, property management and operations on each home count towards the 750-hour requirement (versus each property having its own 750-hour requirement). Further, keep in mind that real estate professionals must document and prove these hours to the IRS.

Single Taxpayer Requirement

The above qualifications must be met by each person hoping to receive the real estate professional tax designation. In other words, you cannot combine hours with your business partner, and both receive the real estate professional tax benefits. Each taxpayer must prove the 50 percent rule and 750-hour requirement annually to be considered. However, there is an exception for married couples filing jointly. If you or your spouse meet the above requirements, the benefits of being a real estate professional would apply to your combined income — even if one spouse earned their primary income outside of real estate.

Material Participation

The IRS uses a system called the material participation test to determine if your working hours can count towards your designation as a real estate professional. These tests are a way for investors to prove that they materially participate in real estate business activities — rather than acting as passive owners. Generally speaking, you must meet at least one out of seven material participation criteria. One of the most common examples is to participate in the activity for at least 500 hours. As you might guess, this is frequently used because professionals must already prove that they work 750 hours in real estate.

in effect a real estate professional is in the business of real estate and the activity would then qualify as for the 199A deduction. (since only 250 hours are require - a non pro could also qualify for the 199A deduction)

WASHINGTON — The Internal Revenue Service today issued Revenue Procedure 2019-38 PDF that has a safe harbor allowing certain interests in rental real estate, including interests in mixed-use property, to be treated as a trade or business for purposes of the qualified business income deduction under section 199A of the Internal Revenue Code (section 199A deduction).

If all the safe harbor requirements are met, an interest in rental real estate will be treated as a single trade or business for purposes of the section 199A deduction. If an interest in real estate fails to satisfy all the requirements of the safe harbor, it may still be treated as a trade or business for purposes of the section 199A deduction if it otherwise meets the definition of a trade or business in the section 199A regulations.

This safe harbor is available for taxpayers who seek to claim the section 199A deduction with respect to a "rental real estate enterprise." Solely for purposes of this safe harbor, a rental real estate enterprise is defined as an interest in real property held to generate rental or lease income. It may consist of an interest in a single property or interests in multiple properties. The taxpayer or a relevant passthrough entity (RPE) relying on this revenue procedure must hold each interest directly or through an entity disregarded as an entity separate from its owner, such as a limited liability company with a single member.

The following requirements must be met by taxpayers or RPEs to qualify for this safe harbor:

Separate books and records are maintained to reflect income and expenses for each rental real estate enterprise.
For rental real estate enterprises that have been in existence less than four years, 250 or more hours of rental services are performed per year. For other rental real estate enterprises, 250 or more hours of rental services are performed in at least three of the past five years.
The taxpayer maintains contemporaneous records, including time reports, logs, or similar documents, regarding the following: hours of all services performed; description of all services performed; dates on which such services were performed; and who performed the services.
The taxpayer or RPE attaches a statement to the return filed for the tax year(s) the safe harbor is relied upon.

For more information about this and other TCJA provisions, visit IRS.gov/taxreform.