Benefits and drawbacks for rental real estate professionals.

• Author: Foley, Kelli

The main benefit of electing to be a rental real estate professional is being able to treat otherwise passive rental real estate activities as nonpassive; thus, losses can offset wages, interest and other nonpassive income. This is only available to eligible real estate professionals who materially participate in a rental real estate activity. On the other hand, the election may be disadvantageous if the activity generates income and the taxpayer has other passive activity losses; the income cannot be offset by the passive losses.

Real Estate Professional Eligibility

Under Sec. 469(c)(7)(B), an individual is an eligible rental real estate professional for any tax year if: 1. More than 50% of the personal services the taxpayer performed in all trades or businesses during the tax year were performed in real property trades or businesses in which he or she materially participates; and

2. During the tax year, the taxpayer performed more than 750 hours of services in real property trades or businesses in which he or she materially participates.

   Material Participation

   Any work performed in an activity in which the taxpayer owns an interest is generally deemed participation. Under Sec. 469(h) and Temp. Regs. Sec. 1.469-5T(a), an individual materially participates in an activity if he or she meets any of the following tests:

1. The taxpayer participates in the activity for more than 500 hours during the year.

2. The participation constitutes substantially all of the participation by all individuals in the activity (including nonowners).

3. The taxpayer's participation is more than 100 hours during the year, and no other individual participates more hours than the taxpayer (including nonowners).

4. The activity is a significant participation activity, and the taxpayer's annual participation in all such activities is more than 500 hours during the year. (A significant participation activity is generally a trade or business activity (other than a rental activity) in which the taxpayer participates, but not materially, for more than 100 hours during the year (under any of the material participation tests other than this test), according to Temp. Regs. Sec. 1.4695T(c).)

5. The taxpayer materially participates in the activity for any five tax years (whether or not consecutive) during the 10 immediately preceding tax years.

6. If the activity is personal service, the taxpayer materially participates for any three tax years preceding the current tax year (whether...