Not Allowed To Utilize Full Expense Deduction If Income Too High!

Just curious if anyone else has come across this issue since I have not read about it too often.

Seems there is a ratio used on your Schedule E to determine if you can take your full real estate deduction (loss). If your income is too high, you don't get the full deduction and the unused portion rolls over to the following year. This happened to me this year on a property I own that is not held in a LLC.

I am aware of the $25,000 limit if you are not considered a 'real estate professional'.

However, I just purchased a new property under an LLC. I have to research how this affects the taxes since technically, the LLC is a real estate holdings company and I am the owner, hence, a 'real estate professional'.

Any comments/suggestions would be greatly appreciated.

[ Edited by PosCashFlow on Date 04/08/2008 ]

Holding the property in an LLC that is treated as a disregarded entity or a partnership will not change this. Basically, you are talking about the passive loss rules. Once you hit about $150k in AGI for MFJ (you'd need to double check the amount in the instructions for Sch E), you are disallowed the passive loss incurred in the current year (the disallowed amount increases with your income). The loss is not lost, but suspended until a future year when you either have passive income to offset some/all of your passive losses or you sell the underlying property that generated the passive loss. Depending on the elections you made, you may have to wait until all your properties are disposed of to "free up" the loss (probably doesn't apply). Holding the property in an LLC doesn't change the situation - it is still passive income to you.

But, correct me if I am wrong, if I am considered a real estate professional, then I can take unlimited losses?

You are correct, the $25K net passive loss allowance does not apply to real estate professionals who actively manage their own rental properties.

If your income is so high that your net passive loss allowance is phased out, then I am guessing that you have a full time job with W-2 income. If this is the case, then I seriously doubt that you spend enough time managing your rental property during the year to qualify for real estate professional status.

You are not a real estate professional just because you own real estate, even if you own the LLC that owns real estate. To qualify as a real estate professional, you have to satisfy material participation rules in a real estate business, and the time spent in your real estate activity must be (1) at least 750 hours, and, (2) more than 50% of the time you spent in all activities combined.

Depending upon how your LLC is taxed, or if your property is held in trust with your LLC as the beneficiary, you could be ineligible to use the net passive loss allowance regardless of your income or real estate professional status.

Consult your tax advisor for specific details.



[ Edited by NewKidInTown3 on Date 04/08/2008 ]

Thanks everyone for the info!