Tax reform bill make rental income subject to SE tax?

10 Replies

Discussed this in a CPE class today. If you go to page 51 of the tax reform bill. ( just google it and you should find it..its 429 pages). On line 14 where it states "Application of Rental Income"...it says section 1402(a) is amended by striking paragraph 1. If you pull up section 1402(a) paragraph 1 this excludes rental real estate income from  being subject to SE tax. So by "striking" or elimating this paragraph it would indicate rental real estate income would be made subject to SE tax under the tax reform bill.

Thoughts?

Yes we saw this too. However SE tax is imposed on active trades or businesses which generally means material participation is required. 

So we’re thinking that instead of making ALL rental income subject to SE tax, it instead subjects rental income of investors who materially participated in their rental activity to SE tax.

If you are investing passively (or actively but without material participation) the rents should still not be subject to SE tax.

Thoughts?

Have not found anything else on this but it seems even if it only applies to taxpayers who materially participate in their rental activity this is a pretty significant change. 

@Tyler Smiarowski no argument there. Eide Bailly seems to agree with rents now being subject to SE tax: https://www.eidebailly.com/insights/articles/2017/11/tax-reform-bill-released

It makes sense that real estate income tax would only be Subject to SE tax if you were able to claim Real estate professional, one without the other generally isn't how the code is written. Would be interesting to see if those not able to claim RE professional are subject to the tax. 

@Brandon Hall @Tyler Smiarowski If I want to purchase a property that exceeds $500K, does that mean I would not be able to deduct the interest on the mortgage if financing exceeds $500K? I had a quick call with my CPA about what I can or cannot deduct if I purchased a duplex for $600K using 100% under a 30 year fixed VA loan. He said that if the new tax bill goes through that I would essentially miss out on all deductions. I am wondering if that is accurate or perhaps he is out of touch with real estate taxes. His advice seems to go against just about everything that I have heard from real estate investors. I am confused on who is correct...

If you qualify as a real estate professional and have enough long term buy and holds, your expenses and depreciation would likely show you having “zero” taxable income.

If you own one 300k apartment building or house that’s a lot of depreciation, unless they’ve changed this part of the code to.

No tax advice given

@Josh Wallace then you'd split the limit between the personal residence side and the rental side.

Example: I buy a duplex for $600k and take a $500k note. I live in 50% of the duplex, the other 50% is rented. I don't hit the limit because the primary residence portion of the note is only $250k (50% of the note). The remaining $250k is subject to regular ole rental real estate rules and there is no limit of mortgage interest.

@Brandon Hall Thank you, Sir. Perhaps it's time to shop the market for a CPA that is better suited for REI.

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