We inherited a rental home. How should we title it?

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Q. Our mother passed away in June, 2022 and my two brothers and I inherited her two-family house. We plan to retitle the house to the three of us after settling the estate and completing some repairs. How should we handle the expenses on the currently vacant house and any future rental income and report them on our tax returns? We don’t have a partnership, LLC or other entity set up.

— Beneficiary

A. We’re sorry to hear about your mom.

There are several considerations here.

While the home is part of the estate, any rental income and expenses associated with that property would be reported on Schedule E on form 1041, the estate income tax return, said Patricia Daquila, a certified financial planner and certified public accountant with Peapack Private Wealth Management in Summit.

This return is used by an estate to report any income and expenses associated with the estate during the settlement of the estate, she said.

“The best way to account for the expenses and income of the rental property would be to open a separate bank account for the real estate investment,” she said. “All the income and expenses associated with the rental property should be segregated and paid through that bank account which will make tracking easier.”

She recommends you consult with an attorney regarding changing the legal title of the rental property from the deceased individual’s name.

Then, the beneficiaries have a decision to make.

“They can either title it in each beneficiary’s individual name as joint tenants or tenants in common,” Daquila said. “The other option is to form an entity such as a limited liability corporation (LLC), a partnership, a S Corp or a C Corp.”

The attorney can advise you on the pros and cons of each entity based on your personal situations.

There are costs associated with the creation, the administration, and the regulatory fees to maintain any of those entities, Daquila said.

“You would also need to apply for a tax EIN number with the IRS and file a separate tax return each year,” she said.

With a S Corp, an LLC or a partnership, the income would be reported on a K-1 and need to flow through to each owner’s individual tax return, Daquila said. Then each owner would be responsible for including the K-1 income on their individual 1040 for the year, she said.

“The passive activity loss rules may apply and could limit the losses on real estate that you may deduct on your personal tax return,” she said. “The passive activity laws can be quite complex and should be discussed with your accountant to determine if they would apply.”

If the decision was to title the real estate in the name of the three individuals as joint tenants or tenants in common, then each share of the income and expenses would be reported on a Schedule E on the individual owner’s 1040, she said.

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This story was originally published on June 8, 2023.

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