Individual Taxation - Schedule E Flashcards
Schedule E
Rent, Royalties, Flow Thru, Estate and Trusts
RRFET
Rental Income
Non-refundable deposits
Improvements made in lieu of rent
Prepaid Rent
Lease cancellation payments
Not Rental Income
Refundable deposits
Improvements not made in lieu of rent
Deductible Rent Expense
Reported on separate lines on Sch. E
Taxes Mortgage Interest Utilities Depreciation Condo fees Leasing Commissions Professional/Management Fees (lawyer remove tenant) Repairs/Maintenance
Vacation Home
Dwelling other than a primary residence used for recreational purposes at certain times. Sometimes rented out when not in use.
Rent out house for 14 days or fewer during year
No report of rental income
Considered a personal residence
- mortgage interest and property taxes are deductible
Rent out house for more than 14 days
Report rental income (landlord in eyes of IRS)
Deduct rental expenses
Must allocate costs between time used for personal and rental
Use house for more than 14 days or
More than 10% of # of days rented
GREATER OF
Considered a personal residence
Deduct rental expenses up to level of rental income
Can’t deduct losses
If Personal use is limited to 14 days or fewer or
10% of # of days rented
Considered a business
Deduct rental expenses
Deduct up to $25,000 in losses each year (depending on income)
fix-up days don’t count as personal use
(many vacation homeowners hold down “leisure” use and spend lots of time “maintaining” property)
Qualified Expenses that are deductible on any home
a. Real Estate Taxes
b. Mortgage Interest
c. Casualty Losses
For Vacation Home, however, expenses must be allocated and broken down between
a. Schedule A (itemized deductions/personal); AND
b. Schedule E (Rental Expense)
If one does rent out home, there are limitations as to how long the owner can reside there and still
Deduct Rental expenses
Vacation Home Mortgages have higher interest rates than mortgage on primary residences because:
a. Higher risk of default (reversal of fortune, individual more apt to save their primary residence than a temporary one)
b. Nevertheless, most perks of Home Ownership still apply, though restrictions are tighter for vacation homes.
Sale of a Rental - not allow the same tax deductions as
Sale of Primary Residence
Schedule E deductions may not exceed
Income from the property
In trying to combat Tax Shelters, Congress has asked the IRS to enforce several different layers of Rules, including
PAL Rules
Activity Rules
Different Income Categories:
a. Active – Wages, Salaries, SE Income
b. Portfolio – Royalties, Interest, Dividends, Capital G/L
c. Passive – Trade or Business in which TP does not “Materially Participate”
Passive Activities affect what types of entities, trades, and business’s?
All Rental Activity Individuals Closely held C-Corp Personal Service Corp Partnership Interests S-Corps Limited Liability Entities
Passive Activity Rules do not apply to a Trade or Business where TP doesn’t
“MATERIALLY PARTICIPATE”
Material Participation Defined
Regular, continuous substantial involvement in a Trade or Business
Most Common Test that a TP can use to meet the “Material Participation” standard:
500 hrs
Passive Activity Losses are recognized only
To offset income from Passive Activity Income; OR
When the interest in Passive Activity is disposed of in a Taxable Transaction
Rental Loss Exception for PAL
Rental Activity that is “Per Se” Passive (if rent, it is passive no matter what…)
“Material Participation Test” doesn’t apply
Exception to Rental Loss Exception
Individuals who ACTIVELY participate in Rental Activity may deduct up to $25,000 of Losses against Active or Portfolio Income
Congress carved out this exception to the Regular Rental Exception Rule for small individuals
Deductible Rental Loss Example
There is active participation by an individual who engages in Passive Rental Activity
Incurred Rental Loss of $15,000
Has AGI less than $100,000
Can deduct the $15,000 from $100,000
Deductible Rental Loss Phase out
a. Reduced at a rate of 50% of AGI over $100,000
b. Completely phased out at $150,000
*just know ballpark amounts
Active vs. Material Participation
Active not as Stringent
Active TP must participate in “Management
Decisions”
a. Approves new tenants
b. Approves rental terms
c. Approves Repairs
If meet Active Participation, will allow you to claim losses up to the $25,000 if you meet the exemption threshold
RE agent can still go out and advertise and bring in tenant without destroying Active participation.
Real Estate Professional Exception
Individuals considered RE professionals are not bound by PAL rules
More than ½ of personal service performed during year are RE business which TP “Materially Participates”
TP works 750 hours annually in that same RE business
At Risk Rules
Losses from Business operations are limited to the amount of money that a TP can actually lose in the particular activity that is going on.
At Risk Rules apply to:
a. Schedule C (Businesses)
b. Schedule E (Rental Activity)
Amount that a TP has at Risk:
Cash invested in venture
Adjusted basis of any property invested
Recourse debt – lender has recourse against debtor
Non-recourse debt if secured by Real Estate