Understanding tax reporting for private commercial real estate: K1s vs 1099s

What is a K-1?

A Schedule K-1 is an IRS form that “pass-through” entities like individual CrowdStreet deals and our thematic funds issue annually to investors to report activity from investments in partnership interests. Each partner’s share of income, deductions, and credits is ‘passed through’ to them via Form K-1. The K-1 reports the investors’ share of any taxable items for the calendar year for investments in which they hold membership interest, which they can submit as part of their personal income tax returns — think income from rents collected by properties or any losses.

Direct investments in individual property deals generate a separate K-1 for each property annually. Investors should expect to receive a Schedule K-1 from sponsors that shows their allocable share of any income and/or loss items earned by each real estate partnership.

For investment funds — which typically invest in eight to ten individual properties — a federal K-1 is provided along with state K-1 equivalents generally for every state in which the fund made an investment. For example, a fund with nine underlying properties in different states that impose personal income tax would issue nine state K-1s to each investor every year.

Pros & Cons of K-1s in Commercial Real Estate Investing

The main drawback of K-1s is they are often delayed, and that wait cascades down to end investors — usually requiring them to file for an extension at tax time. The process of filing starts with third-party property managers who must share property-level financials with the sponsor for approval and review. The sponsor then may seek clarifications or adjustments.

Only after everything is squared away can the sponsor’s CPA produce Form K-1 for all the end investors. Those investors cannot file their personal income taxes until all their K-1s have been received. And that means filing for a tax extension, and additional accounting costs.

K-1s can offer investors advantages in specialized instances. It’s possible to pass through losses (with depreciation generally being a significant contributor to offsetting income) to the end user’s income taxes, allowing investors to offset passive gains with personal losses.

Multi-State Filings and the Difference Between K-1s and 1099s.

There is another issue with K-1 forms that pops up when the investor is ready to file their taxes. K-1 forms must be filed in each state in which the property exists. For an investor involved in multiple properties via individual deals or private funds, this may increase administrative hassle — and accounting costs — substantially.

However, investing in real estate via a REIT is one way to avoid the administrative burden caused by the K-1. A REIT is a corporation with its own income and expenses; it’s not a pass-through entity like many real estate LLCs or LPs. As a result, C-REIT issues one 1099 form to its investors annually. The 1099 is only filed in the state in which the investor lives and has income and does not need to be filed in every state where the fund has invested in real estate property.

Likewise, there is no proverbial game of telephone required to get the information from a property manager to a sponsor to a CPA to the investor. Most tax software easily allows for 1099 reporting. 1099s usually arrive punctually to investors well before the tax deadline, so they can file their taxes on time.

Like most things related to investing, what is best for each investor ultimately depends on their individual investment objectives and risk tolerance. We don not provide tax advice. Before making any investment decision it is important to consult your investment, tax, and legal advisors.