November, 2017 | KRS CPAs™

Special Tax Allowance for Rental Real Estate Activities If a taxpayer fails to qualify as a real estate professional, losses from rental activities may still be deductible. While real estate professionals are afforded beneficial tax treatment enabling them to deduct losses from their real estate activities, real estate nonprofessionals taxpayers may still benefit.

Exception for rental real estate activities with active participation

If a taxpayer or spouse actively participated in a passive rental real estate activity, they may be able to deduct up to $25,000 of loss from the activity from nonpassive income. This special allowance is an exception to the general rule disallowing losses in excess of income from passive activities.

What determines active participation?

A taxpayer actively participated in a rental real estate activity if the taxpayer (and spouse) owned at least 10% of the rental property and made management decisions or arranged for others to provide services. Management decisions that may count as active participation include approving new tenants, deciding on rental terms, and approving expenditures.

Having a property manager will not prevent a taxpayer from meeting the active participation test. A taxpayer’s lack of participation in operations does not preclude qualification as an active participant, as long as the taxpayer is still involved in a significant sense. For example, the service vendors and approving tenants must be approved by the taxpayer before the property manager can commit to a service or lease contract. In other words, the taxpayer is still treated as actively participating if they are involved in meaningful management decisions regarding the rental property.

Maximum special allowance

The maximum special allowance is:

$25,000 for single taxpayers and married taxpayers filing jointly
$12,500 for married taxpayers who file separate returns
$25,000 for a qualifying estate reduced by the special allowance for which the surviving spouse qualified

If the taxpayer’s modified adjusted gross income (MAGI) is $100,000 or less ($50,000 or less if married filing separately), they can deduct losses up to the amount specified above. If MAGI is more than $100,000 (more than $50,000 if married filing separately), the special allowance is limited to 50% of the difference between $150,000 ($75,000 if married filing separately and your MAGI). If MAGI is $150,000 or more ($75,000 if married filing separately), there is no special allowance.

Modified Adjust Gross Income (MAGI)

For purposes of calculating the special allowance for rental real estate activities, modified adjusted gross income is computed by deducting the following items from Adjusted Gross Income (AGI):

Any passive loss or passive income
Any rental losses (whether or not allowed by IRC § 469(c)(7))
IRA, taxable social security
One-half of self-employment tax
Exclusion under 137 for adoption expenses
Student loan interest
Exclusion for income from US savings bonds (to pay higher education tuition and fees)
Qualified tuition expenses (tax years 2002 and later)
Tuition and fees deduction
Any overall loss from a PTP (publicly traded partnership)

We’ve got your back

Learn about all the tax benefits you may qualify for if you invest in real estate. Contact me at sfilip@krscpas.com or 201.655.7411.

Having recently attended the FoodBizNJ conference, “Setting the Table for Growth”, I would like to share some “food for thought” I took away from the conference.

Food for Thought from NJBIZ FoodBizNJ Conference

New Jersey is home to many food manufacturers, distributors, retailers, restaurants, farms, and the service providers to those companies. However, the industry does face challenges that are not specific to New Jersey.

Some key concerns are:

Managing the workforce

As many food manufacturing jobs do not require a college degree, it is possible to have a career in the food industry without a college education. If necessary, advanced education can come later, however, “soft-skills” training is necessary and most likely will need to be provided by the employer.

As stated by Donna Schaffner, Associate Director: Food Safety, Quality Assurance & Training, Rutgers Food Innovation, it is expected that individuals entering the workforce today will have 22 different jobs in their lifetime. Having a strategy for training and retaining these individuals is critical. Training time and dollars must be well spent in an effort to retain those trained employees.

Understand your margins

It is critical to have a handle on your production costs and gross margin. The first step to setting prices is to understand your cost structure. This is not an exercise that is performed only once; costs change and require constant monitoring. Costs can change materially over time. Costs that are too high and prices set too low can result in disaster. If changes are not monitored and quickly acted upon, the business may experience significant losses.

Specific challenges for family food businesses

A very low percentage of family food businesses make it to the 4^th generation. Many of those that do have a “family first” mantra that extends the definition of “family” to long-time employees. Many successful multi-generational family businesses get each succeeding generation involved as early as possible and strive to teach them the business from the ground up. It is perfectly acceptable if some family members choose a different career path but retain ownership interests in the business. The most successful multi-generational businesses employ family members in active roles, and each generation enthusiastically attempts to contribute to the business’s successful continuation.

What is one challenge that KRS has seen in multi-generational food businesses?

In our practice, we frequently encounter family businesses struggling with under-performing family members involved in the business. It is often a difficult subject to approach when “family first” is your mantra. A good executive training program as well as holding family members to the same standards as other employees is a good first step in avoiding the problem early on. Utilizing a performance-based evaluation and compensation program may also help alleviate any discontent within the generations.

This is one of the many challenges we have seen in multi-generational family businesses. If you are in a family food business and you have a unique challenge contact KRS CPAs as we can offer a fresh, independent evaluation of your business.