The 20% Qualified Income Deduction
Do you have income from any rental properties that you own? If so, you may be eligible for a juicy tax break: The 20% qualified income deduction.
Subject to some rules, self employed and owners of S Corps and partnerships and LLCs can write off 20% of their qualified business income. This means that you can take a deduction of 20% of your business income net of your business expenses. While you can also take this deduction on rental property positive cash flow, the rules are a bit thorny.
NOTE: Let’s face it, Congress isn’t going to ever make things easy.
The rental activity must generally rise to the level of a trade or business. However, this standard isn’t very well defined in the tax law. There is a safe harbor to help mitigate this uncertainty. Under the safe harbor rule, if you own real estate investments for 4 years or more, you need to spend at least 250 hours devoted to rental activities by you or by your employees. This requirement of 250 hours must be met in at least 3 out of the five most recent tax years.
So what type of work qualifies under the 250 hours? This includes: repairs and maintenance, tenant services, property management,advertising, collecting rents, negotiating leases and supervising workers.. What doesn’t count are hours incurred for: arranging financing, constructing long term capital improvements (go figure), and driving to and from the real estate. Also, the safe harbor rule doesn’t apply to triple net leases, or property used by you or your family for the greater of 14 days or 10% of the days rented.
KEY: Users of the safe harbor rule must meet strict record-keeping requirements with contemporaneous records (think records like Taxbot). These records should detail hours worked, dates and descriptions of work. If work is done by contractors or employees, you need to keep logs of work done by them as well as proof of payment. Also, each year, you want to use the safe harbor rule, you need to attach a statement to your tax return as shown in revenue procedure 2019-38.
If you own multiple properties, you can either treat each property separately regarding this rule or aggregate them. Commercial properties can be aggregated with other commercial properties and residential properties can be aggregated with other residential properties.
In short, this can be a great benefit for you if you own investment property. See your tax professional to be sure that you are compliant and meeting the rules.
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