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:: Passive Activity Loss ATG - Exhibit 3.2: Self-Rented Property - Income Recharaterization
Exhibit
3.2: Self-Rented Property -
Income Recharaterization
ISSUE:
Should net rental income for
Property ____ be recharacterized
as non-passive? When the
taxpayer rents property to his
own business, income generally
is non-passive. In other words,
should income be removed from
Form 8582 line 1a, thereby
reducing allowable passive
losses?
NOTE:
Net losses are generally passive
under IRC § 469(c), even in a
self-rental situation. Reg. §
1.469-2(f)(6) recharacterizes
only net income.
_____ Did
the taxpayer or spouse work in a
partnership, LLC, S- Corporation
or C Corporation, which leases
its building or equipment from
him? For partnerships and
S Corporations where the
taxpayer works, material
participation can easily be
determined by reviewing the
income/losses on the back of
Schedule E. Income/losses in
the non-passive column means the
taxpayer claims to have
materially participated in the
partnership or S Corporation.
For regular C Corporations,
check for a W-2 from the
corporation which is an
indicator of material
participation and ask the
taxpayer how much time he and
his spouse spends on corporate
activities. If the taxpayer is
a corporate officer, check Form
1120, U.S. Corporation Income
Tax Return, Schedule E (which
appears on back of Form 1120),
Compensation of Officers, for
percentage of time.
_____ Is
there a written lease signed
before 2/19/88 which binds the
year under examination? As
a practical matter, there are
very few leases executed before
1988, which would bind current
years. See Reg.
1.469-11(c)(ii). If there is a
lease, be sure to request it
immediately to verify the date
it was signed and that it binds
the current year.
If the answer
to first question is YES
and answer to second question is
NO, income is non-passive
and should not be on Form 8582
line 1a.
LAW:
Under Reg. §
1.469-2(f)(6), if a taxpayer
rents property to a business in
which he materially
participates, net rental income
is non-passive. Stated
differently, rental income from
self-rented property cannot be
used to trigger allowance of
passive losses on Form 8582.
This rule does not apply if
there is a written binding
contract entered into before
2/19/1988.
CONCLUSION:
Income in the amount of ___ has
been determined to be
non-passive and removed from
Form 8582. Thus passive losses
in the amount of ___ have been
adjusted due to income
recharacterized as non-passive.
ADJUSTMENT:
Income is still reportable on
Schedule E, but cannot be
entered as passive income on
Form 8582 line 1a. Remove
self-rented income from Form
8582 and recompute. For every
dollar of income removed from
Form 8582, allowable passive
losses generally are reduced a
dollar. Passive losses are
deductible only up to passive
income reported on the return
PLUS $25,000 in rental real
estate losses. The difference
between FORM 8582 line 16 per
return and as corrected is your
adjustment. The MAGI on Form
8582 will be increased by the
amount of self-rented income
determined to be non-passive.
Thus, the taxpayer also may lose
part of his $25,000 offset under
IRC § 469(i).
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