In general, when you are renting to your own business, the rental income becomes a source of non-passive income; this is known as re-characterization. If not carefully planned, this will create a devastating tax drawback when you own multiple rental properties.

For example, you rented property A to a third party with a net loss of $7,000, and property B to your own business with net income of $9,000. You might have imagined that your reportable income is only $2,000, right? Unfortunately, this is not the case under the re-characterization rule. The actual result is that the net loss of $7,000 from renting to a third party will be carried over to next year, and thus creates no tax benefits for you. In addition, the net income of $9,000 obtained from your own business becomes taxable to you in the current year. In essence, there is an additional $5,000 in taxable income recognized in current year.

There are ways to circumvent the above situation and your tax advisor should be able to guide your through the steps that fit your own facts. Understanding tax law is crucial in applying strategies to exploit it to one’s benefit; failure to do so can potentially result in unforeseen tax burdens. Seeing this as the case, we recommend that you speak with a tax advisor before making significant decisions; this may prevent you from falling into obscure tax pitfalls.