The New Business Tax Deduction and Rental Properties

On Friday, January 18th, the IRS released Notice 2019-07 which established a safe harbor under which a rental real estate enterprise would be considered a trade or business for eligibility of the new section 199A business deduction.

CHECKLIST FOR OWNERS OF RENTAL PROPERTIES

The new deduction is only available to businesses and while your rental activities may be considered an eligible trade or business with appropriate substantiation, the IRS has provided the following requirements as a safe harbor method to qualify for the deduction. 

1. Keep a separate set of books for your rental activities – record the income and expenses for each property separately. Financial statements should be available for each rental property with supporting documentation of the expenses incurred. Bank statements and credit card statements are not sufficient substantiation. All receipts/purchase orders/contracts should be retained either in a paper file or in a scanned document file. 

2. Any rental property in which you have personally resided or with which you have a triple net lease will not qualify for the safe harbor and financial records must be maintained independently of other rental properties. 

3. Keep a contemporaneous journal of rental activities – per the new tax regulations a minimum of 250 hours must be performed in respect to your rental properties. This includes such activities as:

- 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

- Purchase of materials

- Supervision of employees and independent contractors

- Management of the real estate (which would include the time spent meeting the contemporaneous journal and bookkeeping requirements)

Note that traveling to/from your rental properties is not included in calculating the 250 hours per year of rental activity or activities related to properties in which you resided or have a triple net lease.

These requirements are solely for the purpose of qualifying for the Section 199A business deduction safe harbor and do not constitute a change in the reporting of rental income and expenses. Ordinary and reasonable expenses in the operations of the rental property still qualify which does include the costs of travel to the rental properties.

The following list of expenses which are still allowable deductions:

- Advertising

- Auto and travel

- Cleaning and maintenance

- Commissions

- Insurance

- Legal and other professional fees

- Management fees

- Mortgage interest

- Other interest

- Repairs

- Supplies

- Taxes

- Utilities

- Depreciation or depletion expense

- Other: HOA fees, Pest control, Security costs, Bank fees, Eviction expenses, etc.

Please contact me if you have any questions regarding these issues or the record keeping requirements. The contemporaneous record keeping of the time you have spent in your rental activities is effective as of January 1, 2019. It is imperative that you reconstruct the records from the beginning of the year and maintain a log going forward of the time spent on your rental activities.