The main advantage for a real estate
professional is the losses incurred are treated as nonpassive. This enables the real estate professional to
offset losses against wages, interest, and other nonpassive income. The key disadvantage is that if income is
earned, it cannot offset passive losses.
Code Sec. 469(c)(7)(B) says that an
individual is an eligible real estate professional if:
1) Greater than 50% of the services the
taxpayer performs are for real property trades or businesses in which he or she
materially participates.
2) The taxpayer performs more than 750 hours
of services in real property trades or businesses in which he or she materially
participates.
There are special rules that apply
concerning spousal participation. If
only one spouse satisfies the 50% and 750-hour tests they are deemed satisfied;
see Sec. 468(c)(B). However, to
determine material participation, each spouse’s participation is combined.
Under Code Sec. 469(c)(7)(C), real property
trade or business includes real property development, redevelopment,
construction, reconstruction, acquisition, conversion, rental operation,
management, leasing or brokerage. In
some cases a taxpayer may need to elect to treat all rental real estate
interests as one activity. If a
taxpayer has multiple real estate interests and also is involved in another
profession that requires a lot of time, then it might be impossible to meet the
two requirements of eligibility.
A taxpayer should carefully consider all
options before electing to be a real estate professional. The election can be made in any year that
the rules apply. However, once the
election has been made, it cannot be reversed, unless there is a material
change in the taxpayer’s situation.
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