Among the most notable elements of the Tax Cuts and Jobs Act of 2017 is a new deduction for pass-through businesses. A pass-through business, (about 95% of U.S. businesses are pass-throughs), is one that does not pay corporate income tax. Starting in 2018 and continuing through 2025, qualifying pass-through business owners can deduct from their income taxes up to 20% of their net business income. This includes most residential landlords who own their rental property as sole proprietors, LLCs, or partnerships.

With these entities, any profit earned from the rental activity is “passed through” to the owner or owners’ individual tax returns, and they pay tax on it at their individual income tax rates. To qualify, total taxable income for the year from all sources after deductions must be below $315,000 for married couples or joint filers, or $157,500 for single taxpayers.

Do You Qualify?

Real estate rental activities, such as property management engaged in by many small property owners, can qualify for the pass-through deduction. However, they must qualify as a business for tax purposes of the deduction IRS regulations provide that determining whether an activity qualifies as a business for purposes of the pass-through deduction is done under the general rules applicable to all businesses for all tax purposes: an “activity” is a business if the owner engages in the business regularly, continuously, and systematically to make a profit. Some tax experts question whether a rental property owner who owns only a few units, or only one, is “in business.” Previous tax court cases have held that ownership of a single rental property can be a business on its own if it’s not extremely passive. The IRS has agreed single rental property doesn’t always constitute a business; it depends on the circumstances.

Conclusion

The Tax Cut and Jobs Act is extremely complex tax legislation that leaves many questions unanswered. The information above does not constitute tax advice; as with any tax matter, consult with a qualified tax preparer to determine if your rental property and your activities related to it qualify for the deduction.

Gideon Kramer is the News Editor of the Small Property Owners Association of San Francisco.

Reprinted with permission of the Small Property Owners of San Francisco Institute (SPOSFI) News.  For more information on becoming a member of SPOSFI or to send a tax-deductible donation, please visit their website at www.smallprop.org or call (415) 647-2419.