Many individuals do not understand passive activities & passive losses and the Internal Revenue Code Sections and Treasury Regulations that provide the tax law surrounding passive activities. Further, you may not be aware that losses from passive activities may be disallowed or “suspended” so to speak. John McGuire, is a tax attorney at The McGuire Law Firm and has prepared the article below to provide information regarding passive activities.
Passive activities would be considered business activities or other trade activities whereby you do not materially participate in the business. Material participation involves regular, continuous, and substantial involvement in the operation of the business or trade. A common passive activity could be your involvement with rental properties and real estate. Generally, rental properties and real estate activity is considered passive even if you are materially participating in the activity. It is important to note that you may be considered a real estate professional and with such designation, your rental activities may not be considered a passive activity. Below are some common questions and issues related to passive activities.
Who do the passive activity rules apply to? The rules will apply to the following:
- Trusts (other than grantor trusts)
- Closely held corporations
- Personal Service Corporations
Although the passive activity rules do not apply directly to a partnership, S corporation or grantor trust, it should be noted and understood how the passive activity rules can apply to the owners of these entities.
In general, a passive activity loss will be disallowed. Your passive loss would be the excess of your passive deductions over the gross income from your passive activities. Certain passive losses may be allowed, which are issues for a separate article. So, if a passive loss is disallowed, what happens to the loss or do you ever get to use or take advantage of the loss. In general, you may be able to take the disallowed loss or losses when you dispose of your entire and total interest in the property. For example, assume you could not take certain losses from real estate due to your adjusted gross income or other issues. When you do sell the property and dispose of your entire interest in that real estate whereby the loss has been disallowed, you may be able to claim the previously disallowed passive activity losses. This is different from unused passive activity credits. You cannot claim unused passive activity credits when you dispose of the property with the unused credits.
You can contact The McGuire Law Firm to speak with a tax attorney regarding your individual and/or business tax matters. In addition to his law degree, John McGuire holds an LL.M., which is an advanced degree in taxation. Mr. McGuire’s practice focuses primarily on tax issues before the IRS, individual & business income tax matters & law, and business transactions.
Call us at 720-833-7705 or https://jmtaxlaw.com/ to speak with a tax attorney in Denver, Colorado, or Golden, Colorado.