Rental real estate and the Net Investment Income Tax

With the implementation of the Net Investment Income Tax (NIIT) in 2013, many taxpayers involved in rental real estate transactions may want to take a closer look at their participation in these activities to determine whether their involvement is “passive” or “active.”  The NIIT applies to taxpayers who have net investment income AND modified adjusted gross income of $250,000 or more for joint filers, $125,000 or more for married filing separately filers, and $200,000 or more for single filers.  For purposes of the new NIIT, net investment income includes, among other things,  income from rental activities where the taxpayer is not actively involved in the operations of the rental activity (i.e. it is a passive activity of the taxpayer).

To determine whether or not a taxpayer is actively involved in their rental real estate transactions, there is a two-part test that a taxpayer can review to determine their involvement in these activities.  The first part of the test considers whether or not the taxpayer qualifies as a real estate professional.  To qualify as a real estate professional, more than one-half of the personal services the taxpayer performs during the tax year must be in real property trade or business AND the taxpayer must perform 750 hours of service or more in real property trade or business over the course of the tax year.  The second part of the test in considering a taxpayer’s involvement is to consider whether or not the taxpayer materially participates in each rental activity.  The determination of material participation of a taxpayer is a little more involved and can be established by satisfying one of seven tests and is therefore a bit more involved.  To hear more about these seven tests or to find out more about how your tax rate may be impacted by your rental real estate transactions, contact your tax professional.

Kristin R. Coleman, CPA