Definition



If you actively manage your real estate investments they will not
be considered "passive activities" by the IRS.  You materially
participate in an activity if you are involved in the operation of the
activity on a regular, continuous, and substantial basis.

Maximum Deductible Amount
If you or your spouse actively participated in a passive real estate
activity, you can deduct up to $25,000 of loss from your activity
from your non-passive income.  You "actively participate" in a
rental real estate activity if you (and your spouse) owned at least
10% of the rental property and you made management decisions
in a significant and bona fide sense.  These management
decisions would include approving new tenants, deciding on rental
terms, approving expenditures, reviewing expenses and similar
decisions.

Phase-out of Deduction
You may deduct real estate losses of up to $25,000 against your
other income if you qualify, but the allowance is phased out if your
modified adjusted gross income (MAGI) is between $100,000 and
$150,000.  The $25,000 limit gets phased out by $1 for every $2
that you earn over $100,000.  Click here to learn more about
MAGI

Using a Property Management Company
Using a property management company to manage your property
does not prevent you from meeting the material participation test,
but you must show that you or your spouse participates in
management decisions such as those listed above. 

Note that if you are going to use a management firm, be sure that
you have your attorney check over the agreement you sign with the
firm to see that it does not characterize you as not materially
participating and thus prevent you from deducting any loss.

Minimum Interest In Rental Property
You are not treated as actively participating in a rental real estate
activity unless your interest in the activity (including your spouse's
interest) was at least 10% (by value) of all interests in the activity
throughout the year. 


Examples
- Laura lives in California and owns a house in Arizona that she
rents through an agent.  She sets the rental terms and gives final
approval to any rental agreement.  She also has final authority over
any repairs ordered by the agent.  She is an "active participant"
and may claim the $25,000 rental allowance. 

- Patrick is single and has $50,000 in wages, $1,000 of
passive income from a limited partnership, and $2,000 passive
loss from a rental real estate activity in which he participated. 
$1,000 of Patrick's $2,000 loss offsets his passive income.  The
remaining $1,000 loss can be deducted from his $50,000 wages.

- Melissa is single and has a salary of $54,000.  She has
another $1,200 in stock dividends for the year and a $5,000 loss
from a house she owns and rents.  Melissa has advertised and
rented the house to the current tenants herself.  She also collects
the rents and contracted out the repairs when necessary.  Since
Melissa actively participated in the rental property management,
she can use the entire $5,000 loss to offset her other income.
 

If you are married and file a separate return and lived apart from
your spouse for the entire tax year, your special allowance cannot
be more than $12,500.  If you lived with your spouse at any time
during the tax year and are filing a separate return, you cannot use
the special allowance to reduce your non-passive income.


Click here to leave material participation and return to
passive activity main