Passive activities include trade or business activities in which you do not materially participate. You materially participate in an activity if you are involved in the operation of the activity on a regular, continuous, and
substantial basis. Rental real estate activities are not passive activities
if you are a real estate professional and meet certain requirements. Guidelines
for determining material participation and the rules for a real estate professional
can be found in Publication 925 (PDF), Passive Activity and At-Risk
Rules.
Generally, losses from passive activities that exceed the income from passive
activities are disallowed, but carried forward. A similar rule applies to
credits from passive activities.
A special rule applies for rental real estate activities in which you actively
participate. The rules for active participation are different from those for
material participation and are discussed in Publication 925. Passive
losses are first offset against any passive income and up to $25,000 of any
excess passive losses from rental real estate activities in which you actively
participate may be used to offset income from non-passive sources. This
$25,000 amount is phased out for individuals with a modified adjusted gross
income in excess of $100,000. For those who are married filing separately
and who lived apart from their spouse the entire year, the additional passive
loss allowed is limited to $12,500, and the phase-out begins at a modified
adjusted gross income in excess of $50,000.
Use Form 8582 (PDF), Passive Activity Loss
Limitations, to summarize income and losses from passive activities and
to compute the deductible losses. Use Form 8582CR (PDF) to report passive activity credit limitations.
Generally, passive losses that have previously been disallowed can be deducted
in full in the year the taxpayer disposes of the activity. Unused passive
activity credits may not be deducted upon disposition of the activity, but
an election can be made to increase the basis of the credit property in an
amount equal to the portion of the unused credit which reduced the basis of
the property.
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