Re: L/O- tax treatment? - Posted by JPiper
Posted by JPiper on March 05, 2001 at 11:02:41:
This is a subject that I?ve given considerable thought to. I would say that STRUCTURE of the lease/option is all important as to how the IRS will view the transaction.
Now here?s an interesting question to get this ball rolling. How would the IRS know you?re doing a lease/option to begin with? The rental will be reported on Schedule E, just like any other rental. Let?s assume that you?ve done your lease and option on separate forms. Let?s assume you?re audited. And let?s assume that your tax advisor gives you this advice: ?Do not answer a question that isn?t asked?. Now how does the IRS auditor come up with the idea that you?ve done a lease/option to begin with? Interesting question eh? Does he ask to see your lease? If so, you provide your lease, a lease which makes no mention of an ?option?. Just a rhetorical question really, but something to think about.
There have been various cases regarding when the IRS views a transaction as a ?sale?, versus when they view it as a ?non-sale?. I recently posted one such case in the last month or two?.you might try the archives if they?re working. But I think the idea is to structure your transaction in a way that it is not a sale.
- I think it?s good advice to keep the lease and the option on separate forms. The idea to me here is that they are separate transactions. There is a lease. And there is an option to acquire the property. This may be important in an eviction?.and it may be important at some point for taxes.
- I like to write a one year lease. Why? That?s the standard lease in the United States. I use my regular lease. It has a renewal clause in there. Believe it or not, it also allows me to terminate the lease with a 30 day notice. Yikes! Does that sound like a sale to you?
- I have a clause concerning the security deposit I collect. And another clause concerning the forfeiture of said deposit (in accordance with state law). I think this is important because most leases in the US have security deposits. And think about it?.the security deposit money can later be rolled into the purchase?or it can be refunded IF the tenant returned the property in good condition and did NOT breach the other conditions of his lease. In many cases this security deposit money will end up being ?non-refundable? in a sense.
- The lease restricts who can live in the property. Sound like a sale? No pets permitted with written permission from the landlord. No improvements made without written permission from landlord. Where did the bundle of ownership rights go?
- Various rules and regulations are attached to my lease?.just like any other lease.
Note that the idea in the above, and probably others that don?t come to mind right now, is to restrict the benefits of ownership that an OWNER would typically have.
Now the option. I like to keep this short too?.and I will renew it. I just don?t refer to the renewal in the option agreement. Keep the ?rent credit? small. Do not apply the option consideration to the ?downpayment?. Apply it to the purchase price when and if they exercise the option. Do not execute a purchase/sale agreement simultaneous with your deal. A good example of an option form is Bill Bronchick?s form. I like it and use it myself with a few modifications. (I do not use his lease?.I use my regular lease suited for my state.)
Do NOT have the tenant pay the taxes. You pay them (and price your lease payment accordingly). You pay the landlord insurance on the property (have a clause requiring the tenant get renter?s insurance?.do owners get renters insurance?). Association dues? You pay them.
I think you get the idea. You do a separate lease, and a separate option. You make sure your lease looks like a rental. You won?t have a problem in my view because SALES don?t look this way?.they confer the benefits and burdens of ownership.