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IRS Safe Harbor for the Qualified Business Income Deduction for Real Estate

The Internal Revenue Service has issued Revenue Procedure 2019-38 (PDF) that outlines a safe harbor allowing particular interests in rental real estate to be treated as a trade or business for purposes of the qualified business income deduction under I.R.C section 199A of the Internal Revenue Code.

What is the Qualified Business Income Deduction?

I.R.C section 199A provides many owners of sole proprietorships, partnerships, S corporations and some trusts and estates, a deduction of income from a qualified trade or business. The deduction has two components.

  1.  The QBI Component. This component of the deduction equals 20 percent of QBI from a domestic business. The business must be operated as a sole proprietorship or through a partnership, S corporation, trust or estate. Depending on the taxpayer’s taxable income, the QBI component is subject to multiple limitations including the type of trade or business, the amount of W-2 wages paid by the qualified trade or business and the unadjusted basis of qualified property held by the trade or business. Moreover, it may also be reduced by the patron reduction if the taxpayer is a patron of an agricultural or horticultural cooperative. On the other hand, income earned through a C corporation or by providing services as an employee is not eligible for the deduction. 
  2. The REIT / PTP Component. This component of the deduction equals 20 percent of the combined qualified REIT dividends and qualified publicly traded partnership (PTP) income. This component is not limited by W-2 wages or the UBIA of qualified property. Depending on the taxpayer’s income, the amount of PTP income that qualifies may be limited depending on the type of business engaged in by the PTP.

The deduction is limited to the lesser of the QBI component plus the REIT/PTP component or 20 percent of the taxpayer’s taxable income minus the net capital gain. Additionally, the deduction is available for taxable years beginning after Dec. 31, 2017 and ending before December 31, 2025. Most eligible taxpayers will be able to claim it for the first time when they filed their 2018 federal income tax return in 2019. The deduction is available, regardless of whether an individual itemizes their deductions on Schedule A or takes the standard deduction.

Contact a Tax Attorney to Discuss

Also, if your tax return is under an IRS audit, you may need to ensure that your qualified business income deduction meets the requirements of the law and regulations. If you have questions about this tax law, contact a Disparte Tax Law for a free consultation.