Use of Rental Income for Medicare Tax Planning - CPA With a View

Start looking at how to structure your Rental Income Activities to avoid, or minimize, the 3.8% Medicare Tax effective this year.

I have some ideas, depending on your situation.

The law basically applies a 3.8% tax to all rental income, unless the rental income is derived in the ordinary course of a trade or business.? In other words, the rental activity needs to be a trade or business.? Most real estate rental operations are not a trade or business.

Most of my clients have rental operations that rent to their operating business company.? This arrangement falls outside of the ordinary course of a trade or business definition.

Things to consider:

1) Reduce the rents to related party flow through operating entities to minimize the rental income subject to the tax.

2) Consider restructuring from a brother/sister related party rental structure to a parent subsidiary or holding company, multi-subsidiary structure. If all the entities are LLCs or partnerships, this is the best situation.? If the parent or holding company is an S-Corporation, pause and think about all possible issues before restructuring. ?Using this structure results in the rental and operating companies treated as disregarded entities, therefore the rental income is eliminated against the related entity rental expense (i.e., it is ignored).

3) Determine whether you can structure the real estate rental operation as a trade or business. ?Facts that help are no triple net leases, multiple properties, fully staffed property management services, development of a business plan, and operations like a business.? Also, one must pass the material participation test (basically, more than 500 hours of service per year) to avoid the activity being treated as a passive activity, which is also subject to the 3.8% tax.

4) Create an S-Corporation management company to charge your non-trade or business rental activities fees for property management services.

Don't wait until the end of 2013 to plan.? It will be too late. ?Planning now can save significant taxes.

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Source: http://www.cpawithaview.com/cpawithaview/2013/01/use-of-rental-income-for-medicare-tax-planning.html

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