Tax Reform: Self-Rental Under a Triple Net Lease and the QBI Deduction
In some cases, business owners may want to rent property to their business through a self-rental. Before the Tax Cuts and Jobs Act (TCJA), this was typically done through a triple net lease. In a triple net lease, the tenant pays for building maintenance, insurance and property taxes in addition to rent. These types of agreements have various benefits to the landlord and tenants from a planning and tax perspective and are commonly seen in the commercial real estate industry.
Qualified Business Income Deduction
The TCJA added a new 20% deduction for noncorporate taxpayers for qualified business income (QBI). QBI is the net amount of items of income, gain, deduction and loss with respect to a trade or business. A qualified trade or business is any trade or business, other than a specified service trade or business or the business of performing services as an employee. There was concern a triple net lease arrangement would prevent a lessor from the 20% deduction because the lessor’s business would not be considered a trade or business.
Self-rentals and the QBI Deduction
Although triple-net leases were not changed under the TCJA, there was confusion prior to the release of the QBI proposed regulations as to whether or not a self-rental utilizing a triple net lease would rise to the level of a trade or business for the purpose of the QBI deduction. The recently issued proposed regulations on 199A QBI deduction have provided additional guidance on what activities may be defined as a trade or business. In particular, the proposed regulations define “self-rentals” as a trade or business, and therefore qualifies for the deduction if the self-rental is being leased through a passthrough business that is under “common control”.
Common control is necessary to combine rentals with other business activities and is defined when the same person or group, directly or indirectly own 50% or more of each trade or business.
For example, let’s say you own 100% of both a manufacturing S-Corporation, and an office building that you hold in a Single Member, LLC. The office building is leased by the S-Corporation under a triple-net lease. Since the office is being leased under common control and the manufacturing company carries on a trade or business, the triple net lease activity is eligible for a section 199A deduction.
Impact on the Commercial Real Estate Industry
Self-rentals under common ownership can provide a substantial QBI deduction. Taxpayers should review their self-rental ownerships to determine if common ownership applies or if ownership can be restructured to obtain common ownership.
The Anders Real Estate Group can help you navigate self-rental situations. Contact an Anders advisor with questions on how the new tax law will affect you. Visit our Tax Reform Resource Center for information regarding the resources on how the tax reform will impact you, your family and your business, videos and blog posts on numerous changes under the TCJA.