Tax Benefits from Investing in Real Estate (Part 2)
Everything you need to know in 2 minutes
In case you missed part 1, we covered tax write-offs, the 1031 exchange, opportunity zones, and depreciation. Here’s a link to read it!
Here are some more benefits of investing in real estate:
The De Minimis Safe Harbor Election
By using the de minimis safe harbor election, taxpayers may deduct expenses of $2,500 (per invoice or item) or less in the same year instead of capitalizing each item and depreciating it over its useful life. This number increases to $5,000 per invoice or item if the taxpayer has audited financial statements. Even better, if they are a “qualifying small taxpayer” that number increases to $10,000 (or 2% of the unadjusted basis). A qualifying, small taxpayer has either annual gross receipts less than $10 million or owns property with an unadjusted basis of less than $1 million.
A taxpayer can make the election by attaching a statement titled “Section 1.263(a)-1(f) de minimis safe harbor election” and include the taxpayer’s name, address, social security number, and a statement saying they are making the election. Not only will this election lower your taxable income in the current year, but it will also save you countless time and accounting fees on tracking your depreciation across dozens of items.
The Qualified Business Income (QBI) Deduction
The Tax Cut and Jobs Act of 2017 introduced the QBI deduction, where taxpayers (excluding C corporations) may be able to deduct up to 20% of the qualified business income earned in a qualified trade or business. A taxpayer can claim the QBI deduction if they have rental properties owned directly or through a pass-through entity and meet the following three requirements:
Maintain separate books for each rental property
Perform 250+ hours of rental services
Maintain detailed “contemporaneous” records like time logs, descriptions of services performed, dates services were performed, who performed the services, etc.
If qualified, the taxpayer may be able to deduct 20% of their rental income. Note: that these deductions are limited to individuals whose taxable income is $170,050 for single filers and $340,100 for joint filers (2022 numbers). After these thresholds are met, the deduction begins to get phased out.
Becoming Real Estate Professional
If the majority of your time and earnings come from real estate activities, you may qualify as a “real estate professional” which comes with several tax benefits. The IRS describes a real estate professional as someone who fulfills all three of these conditions:
Over half of the personal services you perform during the tax year were in your real estate business.
You worked more than 750 hours during the year in real estate dealings.
You have material participation in these real estate activities.
A real estate professional can take any losses from real estate activities as an ordinary loss, compared to the passive losses that the casual real estate investor takes. So they could use their losses from real estate activities to offset their other non-real estate income. However, the common investor can only use their real estate losses to offset real estate income, and any leftover loss would get carried forward into future years.
Note - This is Part 2 of 2 on tax benefits available to those investing in real estate. It is important to keep in mind that these types of transactions tend to have significant details in the small text and the smartest approach is to work with a tax professional. For only the next 30 days, Reconcile offers a free matchmaking service for taxpayers in need of tax professionals, please fill out this form to learn more: https://airtable.com/shre0ZVAsZAjlyK8D.