Real Estate Professionals
There are certain tax benefits available if you meet the IRS's definition of a real estate professional. In order to qualify as a real estate professional, you must meet both of the following requirements:
1) More than half of the personal services you perform in all trades or businesses during the tax year are performed in real property trades or businesses in which you materially participate.
2) You perform more than 750 hours of services during the tax year in real property trades or businesses in which you materially participate.
Benefits of Being a Real Estate Professional
Real estate activities are treated as nonpassive activities, thus deductions or losses will not be limited to $25,000. This allows you to deduct the entire real estate activity loss against other nonpassive income such as W-2 wages or business income.
Phase-Out Rules Don't Apply
Typically, the $25,000 loss allowed on real estate activities is disallowed for higher income earners. This rule does not apply to real estate professionals, thus higher income earners are allowed to take advantage of the entire loss.
Net Investment Income Tax
Rental income and gains on the sale of a rental property are not subject to the Net Investment Income Tax of 3.8%. Typically, this additional tax would apply to investment income for individuals earning $200,000 or married couples earning $250,000.
Losses on Disposition
Typically, losses on the disposition of a rental property are treated as a capital loss with a maximum loss of $3,000 allowed per year. Real estate professionals treat the loss as an ordinary loss which is not subject to the $3,000 loss limit.
The following activities qualify as real property trades or businesses:
Rents or leases property
Operates or manages property
Constructs or reconstructs property
Develops or redevelops property