oil and gas royalty income and section 199A

[Bucky]

I can't find any information that states or even leans toward oil and gas royalties are considered business income for sec 199 purposes. My client has a K-! form from partnership which shows sec 199A information for the royalties. All my research shows royalties considered portfolio income and not business income. The person who prepared the 1065 tells the taxpayer it is a legitimate deduction.

[ATSMAN]

I can't cite you a rule but I seem to recall from a QBI training session that limited partners in a Oil and Gas partnership receiving Royalty income only are not entitled to Sec 199A deduction.

[Maribeth]

QBI is determined at the entity level, not at the individual level. So if the partnership has determined that it's QBI, then the partner gets to take it.

However, if the taxpayer was receiving royalties directly from an oil & gas entity, and it's reported on Form 1099-Misc, then it's most probably not QBI.

[Dude]

QBI is a function of participation level. That is why a landlord has to sign under penalty of perjury they (or their agent) spent x amount of time working on the property. Royalty income by nature normally does not come from ongoing direct involvement. Maybe he is capping the wells? Otherwise, regardless of what the entity says (who by the way is only responsible for filing an information return) I think a tax payer is taking a position that would be hard to defend.

[Bucky]

I agree Dude. I don't just automatically take for granted the K-1 is correct although most of the time we have little info to go by becuase the taxpayers not going to have the entity return. But when i see something odd i feel it's my duty to the taxpayer to bring it up. This stuck out big time.

[Anarchrist]

QBI is a function of participation level. That is why a landlord has to sign under penalty of perjury they (or their agent) spent x amount of time working on the property.

Signed statements are required for taxpayers claiming the rental 199a safe harbor, not for rentals that are a trade or business.

Per the regs, QBI is determined at the entity level, not based on participation (https://www.irs.gov/pub/irs-drop/td-reg-107892-18.pdf):

For purposes of section 199A, the determination of whether an activity is a trade or business is made at the entity level. If an RPE is engaged in a trade or business, items of income, gain, loss, or deduction from such trade or business retain their character as they pass from the entity to the taxpayer – even if the taxpayer is not personally engaged in the trade or business of the entity. Conversely, if an RPE is not engaged in a trade or business, income, gain, loss, or deduction allocated to a taxpayer from such entity will not qualify for the section 199A deduction even if the taxpayer or an intervening entity is otherwise engaged in a trade or business. As described in part II.A.3 of this Summary of Comments and Explanation of Revisions, a trade or business for purposes of section 199A is generally defined by reference to the standards for a section 162 trade or business.

The person who prepared the 1065 tells the taxpayer it is a legitimate deduction.

Ask the taxpayer for the 1065 preparer's research.

[Dude]

[QUOTE=Anarchrist;n299360] Signed statements are required for taxpayers claiming the rental 199a safe harbor, not for rentals that are a trade or business.

Per the regs, QBI is determined at the entity level, not based on participation (https://www.irs.gov/pub/irs-drop/td-reg-107892-18.pdf):



When a K-1 recipient ends up on the hook at the behest of an entity that really has no accountability in the matter it's hard to give a stamp of approval. Just because your W-2 says you only earned $50 when you really earned $50,000 does not absolve you from reporting the correct income. The final decision on whether a non parent can claim a child rests with the parent. That does not mean a parent can call their pet cat fluffy a child and allow grandma to claim fluffy.

Royalties do not constitute business income for someone not engaged in the ordinary course of business regardless of what the "entity" says. The 1065 is an information return. The taxpayer/partner is ultimately responsible for what they put on their return not the partnership.

https://www.law.cornell.edu/cfr/text/26/1.469-2T

(B)Royalties derived in the ordinary course of the trade or business of licensing intangible property -

(1)In general.Royalties received by any person with respect to a license or other transfer of any rights in intangible property shall be considered to be derived in the ordinary course of the trade or business of licensing such property only if such person -

(i) Created such property; or

(ii) Performed substantial services or incurred substantial costs with respect to the development or marketing of such property.

ii)Gross income derived in the ordinary course of a trade or business. Solely for purposes of paragraph (c)(3)(i) of this section, gross income derived in the ordinary course of a trade or business includes only -


(E)Royalties derived by the taxpayer in the ordinary course of a trade or business of licensing intangible property (within the meaning of paragraph (c)(3)(iii)(B) of this section);

[New York Enrolled Agent]

I think this article may give some backup to what Dude posted. https://home.kpmg/content/dam/kpmg/u...june5-2018.pdf

[Anarchrist]

That royalties are not eligible for qbid (a conclusion Bucky stated she had come to in the op, thus my suggestion to ask for the 1065 preparer's research, which probably doesn't exist) doesn't change the fact that qbi is determined at the entity level and participation is not relevant.

[Scarecrow]

That royalties are not eligible for qbid (a conclusion Bucky stated she had come to in the op, thus my suggestion to ask for the 1065 preparer's research, which probably doesn't exist) doesn't change the fact that qbi is determined at the entity level and participation is not relevant.

You are correct that QBID is not based upon participation. But it IS based upon ownership. Thus, a partner in a partnership gets the QBID via a Schedule K-1. However, if the land owner receives a royalty from an oil company that he/she is not in partnership with, the land owner has no QBID because the land owner does not have an ownership interest in the oil company. You have to have an ownership interest in a qualified business to get QBID. Merely receiving rents or royalties because somebody else is using your land for something is not a qualified business.