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Rental Property Safe Harbor

An area where we received the most amount of clarity on the new tax law in 2019 is what constitutes a trade or business as it relates to rental real estate and Internal Revenue Code Section 199A. Section 199A relates to the 20% exclusion of trade or business income from taxable federal income. If you own rental real estate, you may be eligible for a special tax break - TCJA's Section 199A deduction - which is based on a percentage of income earned by the rental real estate activity. In order to be eligible for the deduction, the activity must be considerable, regular, and continuous in scope. In determining whether your rental real estate activity meets those criteria, relevant factors include, but are not limited to, the following:

  • the type of rented property (commercial real property versus residential property);
  • the number of properties rented;
  • you or your agent's day-to-day involvement;
  • the types and significance of any ancillary services provided under the lease; and
  • the terms of the lease (for example, a net lease versus a traditional lease and a short- term lease versus a long-term lease).

 

In 2019, the IRS issued safe harbor guidelines related to both commercial and residential rental activities, including passthrough entities that house rental activities. A rental real estate activity will be treated as a business eligible for the special deduction if certain requirements are satisfied, such as:

  • separate books and records are maintained to reflect the 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 with respect to the rental real estate enterprise (with slightly less stringent requirements for rental real estate enterprises that have been in existence for at least four years);
  • contemporaneous records have been maintained, including time reports, logs, or similar documents, regarding the following: (i) hours of all services performed; (ii) description of all services performed; (iii) dates on which such services were performed; and (iv) who performed the services; and
  • certain compliance requirements are met.

 

If you think you may be eligible for this deduction, we should get together to nail down any last steps you may need to take to fall within the safe harbor. Alternatively, even if you don't meet the safe harbor requirements, you may still be eligible for this deduction.

In addition, if you rent out a vacation home that you also use for personal purposes, we should review the number of days it was used for business versus pleasure to see if there are ways to maximize tax savings with respect to that property.