Guest Post from Mark Broders, McGladrey LLP
One of the most common and appreciated tax advantages of owning real estate rentals and similar investment property is the ability to obtain tax losses through tax depreciation deductions while still generating positive monthly cash flow.
This tax advantage may be limited for unwary taxpayers. For example, income or loss from real estate rentals is generally characterized as passive for federal income tax purposes. In general, you may not use passive losses to offset ordinary (nonpassive) income such as employment wages, self-employment income, etc. However, you may be able to leverage one of the following exceptions to this general rule:
Real estate rentals loss allowance: Married taxpayers with adjusted gross incomes of $100,000 or less may generally deduct up to $25,000 for rental real estate losses for activities that they actively manage. Active management includes making management decisions in a significant and bona fide sense. Examples of management decisions that count as active participation include approving new tenants, deciding on rental terms, approving expenditures, and similar decisions. You will not be treated as actively managing the activity unless you own at least 10% of the property.
Election to be treated as a real estate professional: Real estate professionals generally do not treat their rental income or loss as passive. Thus, their losses are not limited to passive type income. The provisions surrounding who qualifies as a real estate professional are complex and depend on your specific facts and circumstances. As a result, you should consult your tax advisor to see if this is an option for your rental real estate activities.
As you and your trusted tax advisor consider your tax plan for this year, please keep in mind the rules that will allow you to maximize the advantages of owning rental real estate outlined above.