Q: Is a cash for keys buyout of my lease taxable income? If so is it regular income or capital gains income?
We lived in the same apartment in Los Angeles for ten years. The landlord let the building degrade over that time refusing to fix basic things like the roof leaking into the bedroom every winter from the start of the lease, not fixing broken security gates & doors, leaving the front gate of the building broken for two years, etc. & raising the rent each year. He recently began renovating empty apartments in the building but refused to fix our unit stating that it wasn't worth his money to fix our unit. Finally our apartment was overrun with mold. We had a strong case for breach of contract & we negotiated a buyout instead of suing him in court. The buyout was called a "cash for keys" but it was actually a settlement to keep him from being sued & it included a non-disclosure clause so we can't reveal what he paid us. Now he wants to send us a 1099 - taxable income form. Is this legal? And do we owe tax on his buyout to us? If we need to can we still sue him for the breach of contract?
A: It’s hard to say without seeing the lease and buyout agreements. In some cases, taxpayers can argue that a payment like that is actually a reduction in the monthly lease payments based on not receiving the value that you initially bargained for. In other words, an adjustment to the purchase price of goods received. Unlike a business, you don’t get to deduct the normal lease payments from your income, so including a payment like this in your income doesn’t seem to make sense, especially considering that it is directly related to your lease payment and related back to prior lease payments that you were essentially overcharged for. Landlord wants to 1099 you to ensure he gets a tax deduction as he’s already (likely) included your rent in his income and wants a clean offset.
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