Rental income received in advance

If your neighbor is a cash basis taxpayer then the rental income belongs in 2009. This is based on the rules of constructive receipt.

Although my neighbor is a cash basis taxpayer and the tenant will not get the possession ion of the property until Feb 2010 and has not moved in 2009, the payment is just an advance payment and should be treated like security deposit in 2009. What do you think???

What does the lease say?

from

When to Report Income

Report rental income on your return for the year you actually or constructively receive it, if you are a cash basis taxpayer. You are a cash basis taxpayer if you report income in the year you receive it, regardless of when it was earned. You constructively receive income when it is made available to you, for example, by being credited to your bank account.

For more information about when you constructively receive income, see Publication 538, Accounting Periods and Methods.

Advance Rent

Advance rent is any amount you receive before the period that it covers. Include advance rent in your rental income in the year you receive it regardless of the period covered or the method of accounting you use.

Example:

You sign a 10-year lease to rent your property. In the first year, you receive $5,000 for the first year's rent and $5,000 as rent for the last year of the lease. You must include $10,000 in your income in the first year.

Security Deposits

Do not include a security deposit in your income when you receive it if you plan to return it to your tenant at the end of the lease. But if you keep part or all of the security deposit during any year because your tenant does not live up to the terms of the lease, include the amount you keep in your income in that year.

If an amount called a security deposit is to be used as a final payment of rent, it is advance rent. Include it in your income when you receive it.

Seems to me the alternative would be to treat the advance as a loan until it is actually earned. So the question is, under the lease does the landlord have the right to keep the money if the tenant doesn't actually use the place? Or could the tenant change his mind until he actually took possession?

Stu, I agree with you. I had a chance to read the rental agrement. It says that if landlord is unable to deliver the possession upon the Commencement Date, the tenant can terminate the lease agreement. Hypothetically lot of things could have happened between receiving the advanced rent (Dec 2009) and Commencement of the lease ( Feb 1, 2010). Luckily nothing happened. I guess treating the advanced rent as a loan is justifiable.

Thanks for your input. Toubi

The foregoing was not intended or written to be used,   >>

text -

Accounting method doesn't matter. Advance rent collected is always taxable in the year received, unless Section 467 applies. A security deposit is not rent, but may be includible in income under certain circumstances (and when included, its refund becomes deductible when returned).

TR § 1.61-8 Rents and Royalties: (a) In general - These are included in GI (b) Advance Rent - Advance rent is income and must be reported as GI in the year of receipt regardless of the period it was actually used as rent.

See also: Rev. Proc. 2004-34

CCH Paragraph 4395.

In this case it appears that the payment was contingent and as a result not yet earned. As such I'd argue that it's not taxable until the contingencies are removed.

Can this recharacterization (of rent received as a loan) be done after the fact, and does it hold up in a court of law?

I don't buy it for a minute.

It wouldn't be an actual loan, and probably can't be recharacterized after the fact. But based on whether or not the landlord actually earned it yet (e.g. subject to contingencies that have a significant chance of taking place). If the tenant has a realistic chance of cancelling the lease before taking possession, it seems to me that the landlord hasn't earned it yet, and so is not taxable on it.

For example a life insurance salesman sells a policy. He is given a commission that is not only based on the initial premium, but on expected payments over a period of time. The sales agent quits his job and the purchaser of the policy stops paying. Some of what the agent received is not earned and he has to give it back. So he shouldn't be taxed on the portion that he had to give back because it wasn't actually earned when it was received.

I'd say it's a deposit, not a loan. The characterization depends on the words in the lease, which was signed before the money was transferred.

Seth

Under that argument, no advance rent would be taxable when received, and that's directly contradictory to the TR.

Deposit is income too. The remaining payment is the full price minus the deposit -- the full price is income at the end of the day.

When the life insurance salesman receives his commission, he reports the entire commission in the year received? I'm assuming this is the case as this is what common sense tells me, though maybe the income would be different if the salesman was on the accrual accounting method. So in the year he quits and the client stops making payments, he pays back part of his commission. He would then claim the amount as negative income on his Schedule C. Or if he is paid as an employee, his W2 income would be reduced by the payback. Or if he paid in a year after he quit, he would file a claim of right to get the money back.

So my description above is correct, and it applies to rent: Then advance rent/commission would be income, should it be paid back in a following year it will be negative income on Schedule E/A.

Untrue. Advance rent, if earned (e.g. there is a lease that requires it and there is no substantial grounds for forfieture) would still be taxable when received under my theory. It's onlyl when there is a substantial chance that the money will have to be repaid that, seems to me, it would not be considered income when paid.

Then I assume you're using Form 8275-R for all your advance rent cases....

The fact that the lease says you don't have to pay rent if the property is not delivered is not likely the type of contingency that means the rent is not taxable as current income. Unless there is some special circumstances, like the landlord is trying to buy out the remainder of a prior tenant's lease, which is wholly up to the discretion of the prior tenant. I think this is a run of the mill lease, and the advance payments are income in the year received.

What does the lease say? Specifically.

circumstances,

Doesn't matter. The Treasury Regulation controls. Advanced Rent is taxable when received, period.

I agree with you on this one. But, if the lease says this advance payment is something other than rent, we should consider what it says. Of course, it doesn't. So, what does the lease say? That this is rent, which happens to be paid in advance, either because it is required by the lease to be paid in advance, or for the convenience of the tenant. Either way, if it is rent, it is rent.