Electing to aggregate rental real estate activities for real estate professionals.Facts: Pierre Camus Pierre Camu, O.C., C.Q., D.Ph., m.s.r.c. (born 1923) is a Canadian geographer, civil servant, academic, and transport executive. Born in Montreal, Quebec, Camu received a Master of Arts degree in 1947 and a Ph.D. in Geography in 1951 from the Université de Montréal. is a general partner in the Left Bank Partnership, a real estate management company. He spends around 1,500 hours each year performing personal services personal services n. in contract law, the talents of a person which are unusual, special or unique and cannot be performed exactly the same by another. These can include the talents of an artist, an actor, a writer, or professional services. for the partnership. He individually owns six separate rental real estate properties. One of the properties, Cathedral Apartments, produces a $30,000 current loss and has a $100,000 suspended sus·pend v. sus·pend·ed, sus·pend·ing, sus·pends v.tr. 1. To bar for a period from a privilege, office, or position, usually as a punishment: suspend a student from school. loss. He spends 100 hours per year managing the complex and is considering selling it. The five other properties produce current tax losses of $40,000. He spends 100 hours per year managing each of them. In prior years, he has been unable to deduct de·duct v. de·duct·ed, de·duct·ing, de·ducts v.tr. 1. To take away (a quantity) from another; subtract. 2. To derive by deduction; deduce. v.intr. the losses from these properties, because his adjusted gross income exceeded $150,000. Pierre Pierre (pēr), city (1990 pop. 12,906), state capital (since 1889) and seat of Hughes co., central S.Dak., on the east bank of the Missouri River, opposite Fort Pierre; inc. 1883. has heard of the election available to real estate professionals for grouping rental real estate properties. He comes to his tax adviser for advice. Issue: Should Pierre make the election to group his rental real estate properties as provided under Sec. 469(c)(7)(A)? Analysis Sec. 469(c)(7) provides that qualifying taxpayers are not required to treat rental activities as passive per se. To qualify for this special treatment, taxpayers must satisfy two requirements: 1. They must perform over 750 hours of personal services in real property trades or businesses in which they materially participate; and 2. Over half of their personal services must be performed in real property trades or businesses in which they materially participate. If these two requirements are met, qualifying taxpayers who materially participate in rental real estate activities can treat them as nonpassive. The regulations permit qualifying taxpayers to elect in any year after 1993 to treat all rental real estate activities as a single activity, regardless of how they were treated in prior years. Regs. Sec. 1.469-9(g) treats this election as binding for the current year and all future years. The taxpayer can revoke To annul or make void by recalling or taking back; to cancel, rescind, repeal, or reverse. revoke v. to annul or cancel an act, particularly a statement, document, or promise, as if it no longer existed. the election only if a material change occurs in his facts and circumstances CIRCUMSTANCES, evidence. The particulars which accompany a fact. 2. The facts proved are either possible or impossible, ordinary and probable, or extraordinary and improbable, recent or ancient; they may have happened near us, or afar off; they are public or . The election to aggregate a taxpayer's rental real estate activities does not affect the determination of whether the taxpayer materially participates in a limited partnership interest. Taxpayers who adopted rental real estate groupings under Regs. Sec. 1.469-4 should review their groupings. If the election is made, material participation will be determined for the combined activity. Thus, taxpayers will have to determine if they satisfy one of the seven tests for material participation (Temp. Regs. Sec. 1.469-5T(a)) for the rental real estate activity, something they have not done in the past. Some of the items to consider include the following: 1. Does the combined rental real estate activity produce a profit for the taxpayer? If so, and the taxpayer materially participates, the activity will be treated as nonpassive. Thus, the rental real estate profit will not be available to offset other passive losses. 2. Does the taxpayer have any suspended losses in the rental real estate properties? If so, the suspended losses will be treated as losses from a former passive activity. As such, they are carried forward and are first deducted de·duct v. de·duct·ed, de·duct·ing, de·ducts v.tr. 1. To take away (a quantity) from another; subtract. 2. To derive by deduction; deduce. v.intr. against profits from the same activity. Any remaining losses continue to be treated as passive losses and are eligible for the special $25,000 rental realty realty n. a short form of "real estate." (See: real estate) REALTY. An abstract of real, as distinguished from personalty. Realty relates to lands and tenements, rents or other hereditaments. Vide Real Property. allowance (if the taxpayer's adjusted gross income is not too high). 3. Does the taxpayer intend to dispose of To determine the fate of; to exercise the power of control over; to fix the condition, application, employment, etc. of; to direct or assign for a use. See also: Dispose any properties in the near future? If combined, the disposition probably would not satisfy the disposition of "substantially all" of an activity for deducting suspended passive losses. In Pierre's situation, it is not clear what the best approach would be. He spends over 750 hours in real property trades or businesses and over half of his time in such trades or businesses. He is a qualified taxpayer. If he makes the election, he can add the hours from each rental property and determine if he is a material participant. He will satisfy the hourly safe harbor Safe Harbor 1. A legal provision to reduce or eliminate liability as long as good faith is demonstrated. 2. A form of shark repellent implemented by a target company acquiring a business that is so poorly regulated that the target itself is less attractive. test by participating in "the activity" for more than 500 hours during the current year. For Pierre, this means adding 100 hours from each of six projects, for a total of 600 hours. He would be a material participant in the real estate rental activity: Thus, he could treat the rental real estate losses as nonpassive and deduct the current losses against his other sources of nonpassive income. He could deduct $70,000 ($30,000 + $40,000) of the current rental real estate losses as nonpassive losses. However, by making the election, he may not be able to deduct all of the suspended losses in the near future. For example, making the election could slow down Pierre's use of suspended losses if he sells the Cathedral Apartments project. If the election were made, any suspended losses would remain suspended in the "combined" rental real estate activity, to the extent they are not absorbed by gain from the disposition. Such losses would be treated as losses from a former passive activity; they could only be deducted to the extent of income in the rental real estate activity. If the election is not made, Pierre will not be able to deduct the current year's losses. However, if the Cathedral Apartments project is sold, its suspended loss could be deducted. After the disposition, he could make the election without fear of limiting his use of suspended losses from the property. Once made, the election is binding for the current year and all future years. Conclusion The relief provision for real estate professionals applies to individuals who spend considerable time in real property trades or businesses and who materially participate in their rental real estate activities. Thus, it does not provide relief to all real estate professionals. The election to treat all interests in rental real estate as one activity permits taxpayers to aggregate their hours to satisfy the material participation tests. The benefits of the election (aggregation of hours to become nonpassive) must be weighed against certain disadvantages. By not making the election, Pierre could deduct the suspended losses from one of his properties on its disposition. The likelihood of disposition, the amount of suspended loss and possible gain from the disposition must all be considered when determining if the election is beneficial. Only after each of these is considered can Pierre make an informed decision. Editor's note Editor's Note (foaled in 1993 in Kentucky) is an American thoroughbred Stallion racehorse. He was sired by 1992 U.S. Champion 2 YO Colt Forty Niner, who in turn was a son of Champion sire Mr. Prospector and out of the mare, Beware Of The Cat. Trained by D. : This case study has been adapted from PPC See Pocket PC, PowerPC and pay-per-click. PPC - PowerPC Tax Planning Tax planning Devising strategies throughout the year in order to minimize tax liability, for example, by choosing a tax filing status that is most beneficial to the taxpayer. Guide --Partnerships, 13th Edition, by Graver A. Cleveland Cleveland, former county, England Cleveland, former county, NE England, created under the Local Government Act of 1972 (effective 1974). It was composed of the county boroughs of Hartlepool and Teeside and parts of the former counties of Durham and , James A. Keller, William D. Klein Klein , Melanie 1882-1960. Austrian-born British psychoanalyst who first introduced play therapy and was the first to use psychoanalysis to treat young children. , Terry W. Lovelace, Sara S. McMurrian, Linda A. Markwood and Richard D. Thorsen, published by Practitioners Publishing Company, Fort Worth, Tex., 1999. Albert B. Ellentuck, Esq. Of Counsel King and Nordlinger, L.L.P. Washington, DC |
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