Real estate investing can result in substantial tax benefits for the investor, primarily since real estate paper losses (primarily resulting from depreciation deductions) can be deducted against other income, subject to various limitations.
A real estate loss deduction against income from non-real estate activities is limited to $25,000 if your income is under $100,000. Income levels between $100,000 and $150,000 will result in a phase-out such that no passive loss deduction is available to the typical taxpayer. Disallowed losses are not lost, but “suspended” and can be deducted when the property is later sold.
However, for taxpayers who are able to qualify as real estate professionals 100% of paper real estate losses can be used to offset other income. The status of a taxpayer as a real estate professional is based upon hours that are performed in real estate functions. A taxpayer must spend more time in real estate activities than in any other activity (>50%), for which they are compensated. AND, they must spend more than 750 hours of services during the tax year in real property trades or real estate related businesses in which they materially participate.
Note that each property is generally considered a separate activity – and thus subject to a >50% of time requirement, and annual 750 hours spent - per property. (Obviously the >50% requirement, means only 1 property can qualify)
However, a taxpayer can ELECT to treat all properties/activities as one single activity, and thus be subject to an overall requirement of greater than 50% and over 750 hours for all properties combined - thus making it much easier to obtain significant tax benefits from real estate investing activities.
We know it’s confusing. But this is a serious tax trap for the unwary. If you are a real estate investor who thinks you may qualify to be treated as a professional for tax purposes, we need to review your situation carefully to ensure you don’t miss important planning opportunities.
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