Despite a partial government shutdown, the Treasury Department and the Internal Revenue Service issued final regulations and guidance addressing implementation of the new qualified business income (QBI) deduction (section 199A deduction). As part of the final regulations, the IRS issued Notice 2019-7. The Notice contains a proposed revenue procedure that provides a safe harbor for rental real estate enterprises to be considered a trade or business and qualify for the deduction.
Safe Harbor for Rental Real Estate
The proposed revenue procedure provides a safe harbor for treating a rental real estate enterprise as a trade or business solely for purposes of this deduction. If an enterprise fails to satisfy these requirements, the rental real estate enterprise may still be treated as a trade or business for purposes of Code Sec. 199A if the enterprise otherwise meets the definition of trade or business. Relevant pass-through entities (RPEs), may use the safe harbor to determine whether a rental real estate enterprise is a trade or business.
A rental real estate enterprise is defined as an interest in real property held for the production of rents and may consist of an interest in multiple properties. The individual or RPE relying on the revenue procedure must hold the interest directly or through an entity disregarded as an entity separate from its owner under Reg. § 301.7701-3. Taxpayers must either treat each property held for the production of rents as a separate enterprise or treat all similar properties held for the production of rents as a single enterprise. Commercial and residential real estate may not be part of the same enterprise. Taxpayers may not vary this treatment from year-to-year unless there has been a significant change in facts and circumstances.
A rental real estate enterprise will be treated as a trade or business if the following requirements are satisfied during the tax year with respect to the rental real estate enterprise:
- Separate books and records are maintained to reflect income and expenses for each rental real estate enterprise;
- Real estate rental owners, or someone they hire, spend at least 250 hours a year on the
business and keeps a record of their activities.
- The taxpayer maintains contemporaneous records, including time reports, logs, or similar documents, regarding the hours of all services performed; description of all services performed; dates on which such services were performed; and who performed the services.
For purpose of the proposed revenue procedure, rental services include:
- 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 and
- Supervision of employees and independent contractors.
Exceptions and Exclusions
- Rental services do not include financial or investment management activities.
- Real estate used by the taxpayer as a resident for any part of the year is not eligible for this safe harbor.
- Real estate rented or leased under a triple net lease is not eligible for this safe harbor.
The deduction is available for tax years beginning after December 31, 2017, and before January 1, 2026. There is speculation whether a future Congress will uphold individual provisions. To discuss your options regarding the QBI deduction and your eligibility to take advantage of the safe harbor, call us today.
Treasury Circular 230 Disclosure
Unless expressly stated otherwise, any federal tax advice contained in this communication is not intended or written to be used, and cannot be used or relied upon, for the purpose of avoiding penalties under the Internal Revenue Code, or for promoting, marketing, or recommending any transaction or matter addressed herein.