The K-1 is the tax document every LP receives but most do not understand.
It tells you your share of the partnership's income, losses, and other items for the year. Here is how to actually read one.
The Header Section
Identifies the partnership. Federal employer identification number. Name and address of the GP entity. Tax year.
Also identifies you as the partner. Your name, address, and tax ID. The percentage of ownership in the partnership.
Box 1: Ordinary Business Income or Loss
For real estate partnerships, this is usually a loss. Depreciation typically exceeds operating income.
If you are not a real estate professional, this loss is passive and can only offset other passive income.
Box 2: Net Rental Real Estate Income or Loss
This is where rental real estate activity shows up. Usually a loss due to depreciation.
Subject to passive activity rules. Generally cannot offset W-2 or business income unless you qualify for real estate professional status.
Box 5: Interest Income
Any interest earned by the partnership and allocated to you. Usually small. From reserves, escrow accounts, or money market positions.
Box 19: Distributions
Cash distributions you received during the year. This is the real money that hit your account.
Distributions are generally not taxable. They reduce your basis in the partnership.
Box 20: Other Information
Various codes for special items. Section 199A income or losses. Section 1031 exchange items. Investment interest. Tax credits.
Code Z is the QBI deduction information. Code AC is gross receipts. Code AH is unrecaptured section 1250 gain.
Self-Employment Earnings
For LPs, this is usually zero. Limited partners do not pay self-employment tax on partnership income.
If your K-1 shows self-employment earnings, something is wrong. Ask the sponsor.
The Capital Account
Most K-1s include a capital account section. Beginning balance. Capital contributed. Income or loss allocated. Distributions received. Ending balance.
This is your basis in the partnership. It matters at sale time because gains and losses are calculated against this basis.
When to Get Help
If you have multiple K-1s, complex passive activity situations, real estate professional status considerations, or any aggregation elections, get a CPA who specializes in real estate.
A general accountant can do a basic K-1. They will miss the planning opportunities. The right CPA pays for themselves multiple times over for real estate investors.
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