Business & farm

I don't understand why rental real estate cannot be a sole proprietorship.

For a sole propritorship, one must go out and actually "do something", usually on a recurring basis to actually "earn" the money they are paid. This produces non-passive income. That money is reported on SCH C. That income, in addition to "normal" income tax, is also subject to an additional 15.3% self-employment tax "on top of" the normal tax. The self employment tax is basically the employer's side of medicare and social security.

Rental property produces passive income. That means all you do it "sit there" doing nothing beyond walking to the mailbox every pay period to collect the rent check. Therefore, rental income is reported on SCH E. Passive income is *not* subject to the additional 15.3% self-employment tax. This means that rental income can not be used when figuring your maximum allowed retirement contribution, and it does not count towards your future social security payments.

A lawyer I spoke to about this, informally, had no problem with my changing the rental business from a husband-wife partnership to a sole proprietorship.

Most likely the lawyer you "informally" spoke to, assumed you knew the difference.

Yes, the rental income in 2021, before we formed the partnership, was reported on a Schedule E.

So that confirms you reported it correctly.

I had heard that it was a good idea for a rental property business to be an LLC because you could protect your other assets if you were sued for liability.

Not necessarily true to the extent you may have been led to believe. I know in FL such protection is limited, which is why it's called a "limited" liability company. Personal assets are at no more or no less protection than they are without the LLC; depending on the extent of responsibility the owner has which may have generated the legal action against them in the first place.

I already had a sole proprietorship where I sold air purifiers (www.midwestpureair.com, if you're in the market).

... and that was a business where you had to go out and "do something" on a recurring basis to actually "earn" that money. Which is why it was reported on SCH C.

that is, we contributed capital to the partnership when we didn't have enough money from rents to pay the mortgage and HOA fees),

Now, you're referring to your air purifier business as a partnership, whereas earlier you stated it was a sole proprietorship. It can't be both. Either it's a sole proprietorship which can only have one owner, or it's a partnership that must have at least two owners/partners.

I'm also noting that you "seem" to be "suddenly" concerned about legal action from a tenant. It sounds to me like some lawyer is taking advantage of your lack of knowledge on things, to their own benefit.

a smart lawyer would find this out during a liability suit and the LLC would not protect our assets.

Hey, if it's a case of negligence on the landlords part, even a not-so-smart lawyer has a good chance of attacking your personal assets; LLC or no LLC. In my county, I've seen such cases given to the "new hire" lawyer on the basis that it's usually an easy win and a great confidence booster for that new hire.

So, at the moment, it's a partnership LLC, but I do want to change it to a sole proprietorship simply because the taxes are so much easier.

If you've already established the partnership and transferred the property to that partnership, you can't just arbitrarily "change it" to another business structure type. You have to dissolve the partnership and then create a new single member LLC. But doing that is still a waste, as you still will not be reporting anything concerning the rental on SCH C.  You'll just continue to report it on SCH E "as if" nothing what-so-ever changed.

When you put a rental property into a single member LLC, absolutely nothing changes on the tax front. You "still" report the rental income/expenses on SCH E, "exactly" as you have been in the past.  If the only thing owned by the single member LLC is the rental property, then absolutely nothing concerning the rental property is reported on SCH C.