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For most taxpayers, rental activities are treated as passive. Losses generally can only offset other passive income, and excess losses carry forward rather than reducing wage or business income. Real Estate Professional Status (REPS) is an exception. It allows qualifying individuals to treat rental activities more like an active trade or business for loss limitation purposes.
The potential benefit is significant: under the right conditions, net rental losses can offset other income, reducing current tax liability. In exchange, the IRS asks for clear evidence that real estate is truly where you spend most of your working time and that you are materially involved in the activities.
To qualify as a real estate professional for a given tax year, you generally need to meet two main tests:
Real property trades or businesses include activities such as development, construction, acquisition, rental, management, and brokerage. Meeting these thresholds usually requires that real estate be your primary occupation, not a side activity next to a full-time unrelated job.
Even if you meet the time tests, you also need to materially participate in the specific rental activities generating losses. The tax rules provide several ways to establish material participation, such as:
Rental properties are often grouped as a single activity via an election, which can make it easier to meet material participation tests across a portfolio. That election carries implications in later years, so it should be made with care and kept in your records.
Because REPS can have a large impact on tax, the IRS often looks closely at how it is claimed. Vague or approximate records of time are unlikely to be persuasive. More robust documentation typically includes:
The goal is not perfection, but a reasonable, contemporaneous record that shows a consistent pattern of involvement.
When you qualify as a real estate professional and materially participate in your rental activities, net losses from those rentals can be treated as non-passive. That means they can offset other non-passive income, such as wages, business income, or interest, within broader tax rules.
This can be particularly impactful in years when you:
Conversely, failing to meet REPS requirements in later years can shift activities back into passive status, changing how future losses and gains are handled.
Pursuing Real Estate Professional Status often means structuring your work life around real estate. For some, that is a natural extension of what they already do. For others, it would require a meaningful shift from other careers.
Questions to consider include:
For the right investors and operators, REPS can align tax treatment with economic reality. For others, it may be more appropriate to treat rentals as passive and focus on optimizing within those rules. A careful review with your tax advisor, grounded in your actual schedule and portfolio, is the best way to decide which path fits.
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