199A Deduction for Rental Real Estate Safe Harbor

Aug 24, 2020Business Tax, Construction & Real Estate

The Internal Revenue Code Section 199A Qualified Business Income (QBI) Deduction allows a deduction equal to 20% of business income for owners of pass-through entities. When the law was passed, there was confusion about whether owners of rental real estate businesses would be eligible for the deduction. When the regulations were finalized, the IRS released Revenue Procedure 2019-38, which was intended to help these rental real estate businesses assess whether they are eligible for the QBI Deduction. This helps to clarify confusion by allowing a “safe harbor” for rental businesses who do not necessarily qualify as a trade or business, to qualify for the deduction.

What types of entities qualify for the safe harbor?

The safe harbor rules define a rental real estate enterprise as an interest in real property existing for generating rents. If the taxpayer owns several different real estate enterprises, they have the choice to either treat each one of the rental properties individually or as a group. Properties would be divided into groups for residential real estate and commercial real estate if a grouping election is made.

What are the requirements to qualify for the safe harbor?

  • The taxpayer, their employees, agents, or independent contractors must perform at least 250 hours of rental services annually with respect to the enterprise.
    • Items qualifying as rental services:
      • Advertising for the rental of the properties
      • Performing repairs and maintenance
      • Supervision of employees or contractors
      • Processing tenant applications
      • Negotiation or execution of leases
    • Items not qualifying as rental services:
      • Making investment or financing decisions
      • Managing long-term capital improvements of the property
      • Hours spent traveling to or from the rental properties
  • Separate books and records must be maintained to track the income and expenses of each rental real estate enterprise, either individually or by group if electing to form a multiple property enterprise.
  • The taxpayer must maintain records proving who performed the services, hours of all service performed, description of the services performed, and the dates on which the services were performed.

What could disqualify a taxpayer from the safe harbor?

  • A taxpayer cannot use the safe harbor if they use the real estate property as a residence at any point during the year.
  • Real estate property leased using a triple net lease would not qualify for the safe harbor.

The safe harbor rule is not the only way to qualify for the Section 199A deduction. This deduction can be quite powerful so contact us today to discuss how to qualify. It is important to review your tax strategies to ensure you are in the best position possible.

Smith Schafer is a recognized leader in providing accounting, auditing, and consulting services to the construction and real estate industry. Our Construction Group, comprised of numerous professionals, is committed to serving over 800 Minnesota construction and real estate entities.  Click below to schedule a free 30-minute consultation.

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