Passive Loss- Taxation. 

You will prepare and submit a term paper on Passive Loss- Taxation. Your paper should be a minimum of 2000 words in length. Passive activity Trade and rental activities are the two kinds of passive activities. In trade or business activities, the taxpayer does not take part in a material sense throughout the duration of the year, while in rental activities, it is regardless of the taxpayer’s material participation unless he or she is into real estate by profession. Deducting passive loss from a taxpayer can only extend to their passive income. According to Section 469(c)(2), any rental activity is under the classification of passive activities unless the taxpayer will materially participate in a real property trade or business during the year as well as performing personal services exceeding 750 hours. Any excess of the 750 hours corresponds to more than 50% of the personal services that the taxpayer has carried throughout all trades or businesses. An activity may also be considered non-passive if it is under a lease entered into after Feb. 18, 1988, and in which the taxpayer is renting property to a trade or business wherein the taxpayer has material participation. Taxpayers are entitled to as much as $25,000 passive losses deduction from a rental real estate activity if he or she owns at least a 10% interest and has active participation in the activity. The availability of the sum total of the $25,000 limit is dependent on whether the adjusted gross income (AGI) is less than $100,000, though even this has gone through a gradual phasing out as the AGI increased to $150,000. (Internal Revenue Code) Of late, the Tax Court ruled in favor of the IRS in two cases, without any real relation, on the same day which involved the passive loss regulations for rental activities. Due to the taxpayer’s inability to establish his activities qualification as a real property trade or business which should fall under the exception of 469(c)(7) of the Internal Revenue Code, the court ascertained that the taxpayer’s rental activity was passive. On the latter case, the court determined under the “self-rental” rule of Treasury Regulation that a taxpayer’s rental activity was not passive. (Reichert, 2008) Another example is the case of Carolyn Fenderson who owns 10 rental housing units, coming up with an aggregated loss of $57, 906. She filed an amended 2002 tax return way back in 2005, which included the lists of the rental income and deductions on Schedule C. She has an AGI exceeding $150, 000 and is without other passive incomes. In order to deduce the $57,906 loss, treating the activity as a non-passive real property trade or business was a necessity. After scrutinizing her calendar records, the Tax Court only accepted 759 hours out of the 1,062 hours of personal service for the rental activity she was claiming, against the 780 hours on her other job as a software sales account manager, thereby failing the 50% test for the activity Gregory Farris had a 50% interest in a partnership, renting three buildings in 1985 to his law firm which he also had a partnership with. After the execution of a new lease in 1990, another was brought forth in 1992 due to the incorporation of the law firm because of the destruction of the original document. After Farris acquired sole ownership of the rental property, a new lease was once again brought forth in 2000. In the years 2000, 2001 and 2002, Farris’ claim is such that the net passive income from the property were $34,839, $46,168, and $48,391, thus enabling him to deduct equal passive losses.

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