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(I have a CPA and I'm going to meet with him shortly to discuss this, but until then I'm asking here. Also, for simplicity I'm ignoring tax brackets and assuming a flat 25% personal income tax rate)

Let's imagine I have had 2 sources of income for the entire tax year (01 January 2016 to 31 December 2016):

  • I own a rental property which generates a modest profit of a few hundred dollars a month (e.g. $1,500 revenue, $1,000 expenses, $500 profit)
  • I am self-employed as a consultant which is the majority of my personal income. Say I make $10,000 in revenue a month, with $2,000 expenses, leaving $8,000 profit.

I am not subject to any state income taxes, just federal.

Rental income is not subject to self-employment taxes, so I simply take 25% of the $500 monthly profit and transfer it to my tax-savings account until my quarterly estimated tax payments are due.

The consultancy income is subject to both normal income tax (the 25%) but also the 15.3% self-employment tax. So I take 15.3% of 92.35% of my consultancy profit (of $8000) and transfer that to my tax-savings account, then I take (25 + 7.65)% of what's remaining and transfer that to my tax-savings account.

If my rental business takes a loss one year (e.g. because of a major capital expense) I understand I can either declare a net revenue of zero and carry the remainder on as a loss into the following year - but can I also apply that loss towards my consultancy income instead?

And if I do that, how does the self-employment tax come into play?

For example, if my rental business experienced a net loss of $4000 this year, but my consultancy made a profit (before taxes) of $96,000 - do I:

  1. Pay SET on the $96,000, then deduct $4,000 as a personal deduction, so $92,000 is subject to PIT?
  2. Deduct $4,000 before SET, then pay SET on $96,000 - then pay PIT?
  3. Something else?
  • watch the profit calculation on the real estate. It is more complex. If you have a mortgage the principal payment isn't considered an expense, but you also have to include deprecation. – mhoran_psprep Dec 1 '16 at 17:37
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Ah, I did some more research and apparently Rental Income is considered Passive Income, and as such the IRS does not allow a net loss to exist, but you can carry the loss over into the next year.

https://www.irs.gov/taxtopics/tc425.html

Generally, losses from passive activities that exceed the income from passive activities are disallowed for the current year. You can carry forward disallowed passive losses to the next taxable year. A similar rule applies to credits from passive activities.

So in the event in a loss on my rental business activity, I simply pay no tax on it, and deduct the remainder in income in 2017 from taxes. I don't make any changes to my Consulting income at all.

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