During this segment of HyperFast Wealth, Dan Lesniak and Sunil Saxena speak with Jack Kiley, Principal at Mid-Atlantic IRA, about what you need to know about real estate investing and the new tax changes. This episode will answer some of the important questions you may have about qualified business income (QBI).
- Jack receives many questions about qualified business income (QBI).
- QBI is attached to rental property even though technically that's not a business under what the tax code defines as a business.
- QBI puts people who work in pass-through entities, or are self-employed, at parity with corporations.
- The idea of the QBI deduction was to give self-employed people or small business owners the same effective taxable income rate as a corporation.
- For different types of businesses, there are different calculations.
- With rental property, you work down to what your net rental income is.
- In the tax code, rental real estate is considered an investment activity.
- Rental real estate is deductible, but you have to qualify.
- You have to spend more than 250 hours in the activity to qualify.
- These hours may include negotiating a lease, finding tenants, working on repairs, and overseeing someone else.
- If you are refinancing that property, the time you spend to refinance is not included. Travel to and from the property is not included. Reviewing your financial statement is not included.
- If you have a number of rental properties, you are allowed to aggregate those hours across all properties.
- If you have all residential property, you can aggregate all the residential properties and the 250 hours could be across your multiple residential rentals. The same thing applies for commercial properties.
- If you own residential rentals as well as commercial, you can't group them together.
- You have to treat the residential as one group and qualify, and you have to qualify separately on the commercial.
- Keep contemporaneous records.
- Mixed-use is a third category.
- If you have the same number of properties in 2020 that you had in 2018, you are paying less tax assuming everything stays the same.
- The 250 hours is a relatively low threshold to qualify.
- If your income is over a certain amount, there is a phase-out.
- If your properties are triple-net, those properties are not available for QBI.
- If you buy the building and your business is the main tenant, then QBI is not available.
- In capital intensive businesses, there's no income phase-out.
- For service businesses, there's a phase-out. If you're married, that phase-out starts at about $320k adjusted gross income and you'd be totally phased out once you hit $400k.
- Flipping is a business activity.
- If the activity is subject to self-employment tax, then it's a business activity.
- Flipping has no income threshold.
- You pay Social Security and Medicare on your net earnings.
- In 2019 you pay Social Security on the first $132k of wages. Medicare is on everything.
- Income tax and self-employment tax are independent of each other and there are separate calculations.
- Income tax is based on total income less deductions.
- If you have income from a business that you participate in, that's subject to self-employment tax which is 15.3%.
- Passive real estate investors are unlikely to qualify for QBI.
- The new tax law benefits people who use capital, such as rehabbers, development projects, and new construction.
- Remember, to meet the requirement you must spend 250 hours per year in the business or if you've been in the business for over four years, you have to have spent that time in three of the last five years.
The 250 Rule for Taxes
3 Key Points:
1. Real estate investment activity may qualify for the QBI deduction.
2. Keep contemporaneous records of the time you spend on your real estate investment projects annually. This will help with qualifying.
3. Passive real estate investors are unlikely to qualify for QBI.
- “If you have a number of rental properties, you are allowed to aggregate those hours across all properties.” – Jack Kiley
- “I can foresee some situations where people who have commercial and residential activities, maybe their commercial properties pass but their residential don't.” – Jack Kiley
- “You have to spend more than 250 hours in the activity." – Jack Kiley
- “If the activity is subject to self-employment tax, then it's a business activity.” – Jack Kiley
- “If you are a passive investor in a real estate project, you're not really spending any time there...Unless you own a lot of them and you can meet that 250-hour threshold, you're probably not going to get a QBI deduction.” – Jack Kiley
John “Jack” Kiley website, phone: (240) 575-3880 ext: 201 or email him at email@example.com