Self Directed IRA Invested in Pship

I have a new client that raised $1M and formed an investment partnership to acquire and rent out real estate. The partnership started in September and has since acquired 35 various properties. One of the investors is a self directed IRA with an initial capital contribution of $150k. I'll have to look in detail at the projected numbers to see whether it make sense to treat the rental activity as an active trade or business eligible for the QBI deduction (I believe it would qualify under the safe harbor)...

However, if it's an active trade or business that gets into unrelated business income territory which will impact a self directed IRA investor negatively (assuming there is taxable income). In addition, the properties are debt financed...does that mean a disclosure is necessary for unrelated business income for tax purposes? This sounds complicated....

In addition, the properties are debt financed...does that mean a disclosure is necessary for unrelated business income for tax purposes?

Yes. The SDIRA has UBTI exposure via UDFI. If it was a Solo 401(k), the UDFI might have been avoided.

This sounds complicated....

It's not that bad. Read IRC Sec 514 and the related regs...and make sure you're internalizing the extra work in your fee.

Thanks ManVs. Tax. I've been down in the UBTI and UDFI weeds. I think the partnership's activities will rise to the level of a "trade or business" for Sec 199A purposes. However, if we go this route this isn't going to pretty for the SD IRA partners as they will be subject to both UBTI on the business activity (rental ) income and the UDFI due to using leverage to purchase the properties. We could forego treating the entity as a "trade or business" but that's a real bummer for the individual investors who will likely start asking why their investment doesn't qualify (since they are sophisticated and likely have CPAs advising them). Anyone have any thoughts on this? This guy really messed up by having both individual partners and SD IRA partners.

The rental income from debt financed property is unrelated business taxable income whether or not the rental activity is a trade or business for 199A.
Is there actually a profit? No UBIT unless there is. Leveraged RE usually does not show a profit in the early years.

Understood. There is not a profit for 2019 but my understanding is that K-1 disclosures are still necessary for UBTI and ADFI. The general partner put together some projected statement that show that profit is likely for 2020. Considering this do we want to consider it an active trade or business considering the impact on the SD IRA investors? You can't go back and forth from year-to-year concerning whether the entity is a trade or business based on tax situation is my concern.

Rental revenue is typically excluded for UBTI purposes (UDFI being a separate issue of course). Can rental revenue still be excluded from UBTI when it's coming from an investment in a partnership as a limited partner? Anyone have any thoughts here?