Black Friday Appliances for Rental - Best Accounting Method??

Question

I am in the process of renovating a rental property through an insurance claim after a recent fire. Appliances are not included in the insurance claim of what's being covered by insurance since that falls under "personal" items.

I am planning to buy a new kitchen set with the Black Friday deals coming up; however before I did so I wanted to see if anyone had any recommended tax strategies in terms of categorizing them as a repair vs. cap ex, or being able to possible deduct the expense or depreciate them? Any thoughts are greatly appreciated!

Brenton Way · Answer

@Thea Linkfield The alternative is someone like myself. I work a W-2 job and I have a property manager for my two rental properties. Because I am not a real estate professional, losses from my rental business would be considered passive losses. What that means is that if my modified adjusted gross income (AGI) on my tax return is less than $150k I can deduct some or all of the losses up to $25k. There is a phase out that starts at $100k in modified AGI. If I am unable to deduct some or all of the losses then they are carried forward to future tax years when I have passive income.

Brenton Way · Answer

Here is a link with an explanation and some examples. I didn't read this to ensure its accuracy but it certainly looks to be from a credible source.

https://www.irs.gov/pub/irs-utl/33-Real%20Estate%2...

Cliff Notes:

Real Estate Professional Qualification • Material participation in each specific rental • Material participation in separate Real Property Trade or business • 50% rule • 750 hours rule • 5% ownership rule

Real Estate Trade or Business Defined IRC Sec. 469(c)(7)(C) Any Real Property: • Development or redevelopment; • Construction or reconstruction; • Acquisition and/or conversion; • Rental Activity that is not a Passive Activity; • Property management; • Brokerage activities.

Example 1: Laura owns 5% or more of a real estate sales office • Works full time as a broker • She owns 3 rental properties and: • She finds the tenants; • Approves tenants and leases; • Approves and oversees repairs & improvements • Net rental losses are $31,000 and her modified AGI is $160,000 before the losses • Deduct the full $31,000 in the current tax year

Example 2: John acquires old homes and contracts 3rd parties to renovate and ready for resale. John is a single member LLC and files a Schedule C as a real estate trade or business. This is his main source of income. • He owns 2 rental properties that generate ($28,000) of losses in which he materially participates in the management: his modified AGI is $175,000 before the losses. Since he is a real estate professional the $25,000 limitation and modified AGI tests do not apply.

Brenton Way · Answer

Thanks Chris! You make an excellent point. I had talked to my accountant about it and he had mentioned that it could be difficult to take the passive losses since I have a property management company depending on how involved I am in the business. I will have the discussion again during tax season if I end up with passive losses.

Edit:

Active participation means making significant management decisions, such as approving rental terms, repairs, expenditures, and new tenants. Taxpayers who use a leasing agent or property manager are still considered active participants if they retain final management rights.

source: https://apps.irs.gov/app/vita/content/12/12_05_005.jsp

Chris Masons · Answer

Brenton,

Be careful,  if you materially do NOT participate in your rental activities you cannot deduct standard 25k passive losses. I saw you mentioned you employ a management company for your holdings so that being said it may disqualify you from taking those losses from the IRS's standpoint....

You actively participate if you are involved in meaningful management decisions regarding the rental property.

I guess you can still have Management in place and still participate but I'd double check with your accountant

thx,

Chris

Thea Linkfield · Answer

Very helpful @Brenton Way thank you!

Thea Linkfield · Answer

Hey Newbie question... I'm noticing a lot of these answers start out with: "if you're a real estate professional"... so what classifies someone as a real estate professional? @Brenton Way

Brenton Way · Answer

@Dave Foster

Brenton Way · Answer

@Sean Williams You definitely qualify as a real estate professional but based on the information you provided you should still be able to do a 1031 exchange.

I am not very familiar with 1031 exchanges so you would be better off reaching out to someone that has experience. I have seen Dave Foster comment a lot of threads relating to 1031 exchanges so he might be able to answer you questions either in this thread or via private message.

Sean Williams · Answer

@Brenton Way I've owned the property for 2 years now. I am a practicing licensed broker with a decent size business (LLC #1), however this rental property is within (LLC #2) which has a couple other rentals in it as well...so when you say "real estate professional" I am a little unclear if my "day job" as a broker would give me this title since this property pertains to LLC #2 and is my "rental job" which is passive income, not active.

We've rented the property for 2 years as originally intended, but do the fire and renovations, plus the market being higher than I ever anticipated in this area, I want to get out what I can and roll the money into a better location via a 1031 tax exchange.

Thanks again for all your input!!

Brenton Way · Answer

Note: mentioning another user on my phone doesn't seem to work so this post was removed and I quoted the original poster.

Black Friday Appliances for Rental - Best Accounting Method??

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