If taxpayers carefully follow new IRS rules, their income from rental real estate will be considered qualified business income (QBI) eligible for the 20% deduction. Revenue Procedure 2019-38 finalizes a safe harbor for “rental real estate enterprises” (RREEs), defined as “an interest in real property held to generate rental or lease income.” An earlier article on the proposed safe harbor explains the requirements in detail. Below is a synopsis of those rules along with information on how to qualify a real estate interest in 2018 and 2019.
Only individuals are qualified for the safe harbor. Corporations and partnerships are not eligible, but shareholders of an S corporation or the partners in a partnership or LLC can qualify. The following requirements must be met by taxpayers to qualify for the safe harbor:
- Separate books and records must be maintained 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 must be performed each year. For other rental real estate enterprises, 250 or more hours of rental services must be performed in at least three of the past five years.
- The taxpayer must maintain contemporaneous records, including time reports or logs, which identify: hours of all services performed; type of all services performed; dates when services were performed; and who performed the services.
- The taxpayer must attach a statement to the return stating that the taxpayer is relying on the safe harbor. (See requirements below.)
Interests in a single property or interests in multiple properties qualify for the deduction. However, if the RREE consists of multiple properties, they must all be of the same asset class, either residential or commercial. An interest in mixed-use property that combines residential and commercial units may be treated as a single rental real estate enterprise or may be bifurcated into separate residential and commercial interests. Each rental real estate enterprise that satisfies the requirements of the safe harbor is treated as a separate trade or business.
Tax Return Statement Required
A taxpayer must attach a statement to its original tax return stating that the taxpayer is relying on the safe harbor for each year the safe harbor is claimed. Because the safe harbor rules were adopted in 2019, taxpayers are allowed to attach the statement to an amended return for tax year 2018. Taxpayers need only submit a single statement, but the statement must list the required information separately for each rental real estate enterprise.
The statement must include the following information:
- A description, the address and rental category of all rental real estate properties that are included in each rental real estate enterprise;
- A description, the address and rental category of rental real estate properties acquired and disposed of during the taxable year; and
- A representation that the requirements of Rev. Proc. 2019-38 have been satisfied.
The contemporaneous records requirement does not apply to taxable years before 2020. However, the IRS reminds taxpayers that they still must prove that they meet the requirements for claiming the QBI deduction for rental real estate activities in 2018 and 2019.