The $25,000 rental passive loss limitation allows real estate investors to deduct up to $25,000 of passive rental losses against nonpassive income if they actively participate in the rental activities. For active participation, a taxpayer must own at least 10% interest in the rental property and engage in management-level decisions. This allowance is reduced by 50% for MAGI between $100,001 and $149,999 and isn't available when MAGI is $150,000 or more.
For joint filers, the full allowance is available unless the spouses live together while filing separately. The loss limitation is $12,500 for married taxpayers filing separately and who lived apart all year.
Maximizing Deductions as a Real Estate Professional
Taxpayers qualifying as real estate professionals can avoid the $25,000 limitation entirely if they materially participate. To qualify, more than 50% of their services must be in real property trades, exceeding 750 hours annually. They can elect to have all interests in rental activities treated as one activity, facilitating qualification. For further extensive detail for qualifying as a real estate professional consult chapter 3.26 in the Big Book of Taxes.
Strategic Application
Encourage passive investors to actively participate to qualify for the special allowance (considering MAGI limits). For potential real estate professionals, focus should be on restructuring activities to meet the material participation standards set by the IRS, allowing unlimited loss deductions against nonpassive income.
As tax preparers, your role is pivotal in assessing whether your clients can align their real estate activities to maximize deductions under these provisions.