It’s been a rough run in recent years for folks in the real estate game, for non-tax reasons. The tax law doesn’t make it easy to be a real estate professional either, as a Pennsylvania man learned yesterday from the Tax Court.
The tax law’s “passive loss” rules only allow you to deduct “passive” losses to the extent of passive income, except when you dispose of the activity in a taxable sale. For most taxpayers, rental real estate losses are automatically passive under the tax law. For non-real estate activities, the tax law determines whether you are passive based on the extent of your participation in the business.
“Real estate professionals” have a special deal. Their real estate losses aren’t automatically passive; they are instead tested under the usual “material participation” standards. That makes everyone want to be a real estate pro, at least on their tax returns. Unfortunately the tax law doesn’t make it easy to be a real estate pro. To qualify, you have to:
- Spend at least 750 hours per year participating in a real estate trade or business that you own, and
- You have to spend more time on real estate activities than other activities.
The second requirement makes it very difficult for anybody with a full-time non-real estate job to be a real estate pro under the tax law. It was too high a bar for Mr. Vandergrift from Pennsylvania (citations omitted; my emphasis):
Petitioners maintain Mr. Vandegrift qualifies as such an individual. He testified that over one-half of the total time he spent in business activity was devoted to the real estate business. We found Mr. Vandegrift to be generally honest and forthright, but his time estimate is suspect given his employment as a salesman for an employer in a business unrelated to the real estate activity. His subjective estimate also suffers from a lack of contemporaneous verification by records or other evidence.
We have held that the regulations do not allow a postevent “ballpark guesstimate” of time committed to participation in a rental activity. We are forced to find on the record before us that petitioners have failed to carry their burden of establishing that Mr. Vandegrift spent over one-half his work time in the real estate business.
The only case I’ve seen where a taxpayer with a full-time day job qualified as a real estate professional had two unusual facts: A cushy day job that didn’t require a lot of time, and a taxpayer who kept meticulous time records. Absent those facts, someone with a non-real estate day job is probably not going to qualify as a real estate pro under the passive loss rules.
Cite: Vandegrift, T.C. Memo. 2012-14