How to report these funds? On a Schedule E so it can be treated as Passive Income?

[Think57]

We had an investment in a DST structured apartment building.  The "sponsor" of the DST for that building sold the building in 2023 and we reported the 2023 income/expenses as usual on a Schedule E and the capital gain in the appropriate place in Turbo Tax.    The income and capital gain were treated/classified as passive income.

The sponsor held back funds in a reserve for potential post closing costs and distributed to us the balance in 2024 as a Monthly Distribution and the statement had the following language: Distributions represent your proportionate ownership in the Trust's net cash flow from operations after the payment of fees, expenses and contributions to the operating reserves for the month ended. 

My first thought was to report this distribution as Miscellaneous Income on our 2024 tax return.  However Miscellaneous Income cannot treated/classified as Passive Income.  So am I correct to report this distribution on a Schedule E as Rental Income as the funds were generated by rental income before the building was sold in 2023?

Thank you for your assistance, Think57

[DianeW777]

Yes, you can report the income on Schedule E as rents and also take any additional expenses that you may have had if paid in 2024. Be sure to include any passive loss carryovers if applicable.

• Where do I enter income and expenses from a rental property?

Passive Activity Loss Entry:

If you have any passive losses use the instructions to enter that amount. This will be a separate and identifiable entry which will carry to the Schedule E.  The full remainder of passive loss carryover is used in the year of sale as an expense. This is combined with your overall rental gain or loss to your Form 1040. 

• When you are on the screen 'Do any of these situations apply to this property?' (Property Profile section), be sure to check the box under Carryovers. 

[Think57]

Hello DianeW777 and thank you for your response to my question.  The challenge I face is that the apartment building was sold in 2023 and the return of the balance of reserves set aside for post closing costs did not occur until 2024. So for 2024, I do not have an apartment building investment to create a Schedule E for.

For my research, what I am seeing is that once the apartment building sells, you no longer have any passive activity such as taxable income from that apartment building, especially if the activity occurs in a subsequent tax year.  So it seems I have to suck it up and report the return of post closing reserves as "Other Income" on our 2024 Tax Return.  Other Income is not passive income (and can never be).  This does not seem fair, however, that is how it seems the tax rules work.

Thanks again for your response, Think57

[DaveF1006 · Accepted solution]

Once the apartment building is sold, it is no longer a passive activity. Any money you get after that, like the money you get back after closing, is usually called Other Income instead of passive income.

While this classification may feel unfair, the IRS generally treats post-sale income as ordinary taxable income rather than linking it back to the original investment. Unfortunately, this means it won’t be eligible for passive loss deductions or other benefits tied to rental property ownership.

[Think57]

Thanks Dave !!!