Aaargh, I hate it when I think one thing and write another. Obviously, the subject should have been Guesstimating Depreciation, not Guesstimating Appreciation.
Rental income is taxed at your ordinary income tax rate. Depreciation reduces your taxable rental income on a dollar for dollar basis.
Therefore, to calculate the MAXIMUM amount of your tax benefit from depreciation alone, just multiply the depreciaiton allowed by your tax bracket rate. The result will be the amount of taxes the depreciation expense saved you.
Rental income, on Schedule E (1040). If your Schedule E shows a net passive loss for the year, then you are allowed to carry up to $25K in net passive losses to your 1040 to further reduce your other ordinary taxable income.
The amount of the passive loss that you will be allowed to take on your 1040 is reduced for ordinary income over $100K and phased out completely for income over $150K.
The amount of the passive loss that you will be allowed to take on your 1040 is reduced for ordinary income over $100K and phased out completely for income over $150K.*
*With some exceptions. For example, tax payers who qualify for the RE professional exemption can deduct unlimited amounts against their w2 income (I think)...
Under IRC § 469(c)(7) & Reg. 1.469-9, if the taxpayer spends the majority of his time in real property businesses, meeting the 1/2 personal services and 750-hour tests, rental real estate losses are no longer per se passive. If the taxpayer materially participates in each rental real estate activity, losses are fully deductible.
[quote]
On 2006-03-17 14:32, NewKidInTown3 wrote:
Quote:boylank asked "if I have a rental house". There is a very strong implication that boylank has no rental houses at the moment, nor is there any suggestion about being a real estate professional.
Quote:Under IRC § 469(c)(7) & Reg. 1.469-9, if the taxpayer spends the majority of his time in real property businesses, meeting the 1/2 personal services and 750-hour tests, rental real estate losses are no longer per se passive. If the taxpayer materially participates in each rental real estate activity, losses are fully deductible. venator64,
I believe you are misinterpreting the tax regs. By default, you own rental property is a passive income activity. To be a real estate professional, you have to materially participate in an ACTIVE income real estate activity.
Not only must you materially participate in an active income real estate business, you must also dedicate more than half of ALL your personal service hours (spent in all your active income activities) to this business AND that time must equal or exceed 750 hours per year.
My point here is that just owning and managing your own rental property does not make you a real estate professional.
True enough, real estate professional status is attained through material participation in a real estate trade or business in which the majority of your personal services hours during the year are provided in the conduct of your real estate business or trate. . Your citation from Diane Kennedy does not clarify that the real estate trade or business must be an ACTIVE income activity.
Generally, a rental property activity is a passive income activity. There are exceptions. For example, if your average tenant stay is seven days or less, then you are operating an active income activity much like a motel operation. Also, if the conditions of your rental requires that you provide significant personal services to your tenants such as daily linen exchange, daily cleaning or housekeeping services then you could be operating an active income activity. Simply managing your own rental property is not a personal service.
A professional property management company where you provide your services to others for compensation is a rental property trade or business that would allow you to attain real estate professional status, provided you meet the material participation rules.
Now, the tax code does allow you to count the hours you spend managing your own rental properties toward the minimum 750 hours per year needed for real estate professional status, provided you also meet the material participation rules for an active real estate trade or business. One of the material participation requirements is that a minimum of 500 personal services hours must be spent in the real estate trade or business.
Here is the relevant section from the Internal Revenue Code related to the passive income nature of a rental property activity. If you look at the entire section 469, especially subparagraph (c)(2), you will see that the code defines a rental property activity as passive by default. Paragraph (7) simply makes the rental property activity an active income activity for a real estate professional.
§ 469. Passive activity losses and credits limited
(c) Passive activity defined
For purposes of this section— (1) In general
The term “passive activity” means any activity— (A) which involves the conduct of any trade or business, and
(B) in which the taxpayer does not materially participate.
(2) Passive activity includes any rental activity
Except as provided in paragraph (7), the term “passive activity” includes any rental activity.
(7) Special rules for taxpayers in real property business (A) In general
If this paragraph applies to any taxpayer for a taxable year— (i) paragraph (2) shall not apply to any rental real estate activity of such taxpayer for such taxable year, and
(ii) this section shall be applied as if each interest of the taxpayer in rental real estate were a separate activity.
(B) Taxpayers to whom paragraph applies
This paragraph shall apply to a taxpayer for a taxable year if—
(i) more than one-half of the personal services performed in trades or businesses by the taxpayer during such taxable year are performed in real property trades or businesses in which the taxpayer materially participates, and
(ii) such taxpayer performs more than 750 hours of services during the taxable year in real property trades or businesses in which the taxpayer materially participates.
I go back to IRC Section 469. It is my conclusion that this section is telling me that a rental real estate activity is a passive income activity UNLESS the taxpayer is a real estate professional.
The implication is that IF the taxpayer is a real estate professional, THEN the taxpayers rental real estate activity becomes an active income activity. To be a real estate professional, the taxpayer must be materially participating in a real estate trade or business. It is the material participation rules (personal services) that make the activity active income.
If all your authorities claim that my conclusion (that being a real estate professional is a pre-qualification requirement for the rental real estate activity to be treated as active income) is wrong, then I will stand corrected.
Aaargh, I hate it when I think one thing and write another. Obviously, the subject should have been Guesstimating Depreciation, not Guesstimating Appreciation.
Rental income is taxed at your ordinary income tax rate. Depreciation reduces your taxable rental income on a dollar for dollar basis.
Therefore, to calculate the MAXIMUM amount of your tax benefit from depreciation alone, just multiply the depreciaiton allowed by your tax bracket rate. The result will be the amount of taxes the depreciation expense saved you.
Thanks NewKid. Is the depreciation applied against all income, or just against rental income?
Rental income, on Schedule E (1040). If your Schedule E shows a net passive loss for the year, then you are allowed to carry up to $25K in net passive losses to your 1040 to further reduce your other ordinary taxable income.
The amount of the passive loss that you will be allowed to take on your 1040 is reduced for ordinary income over $100K and phased out completely for income over $150K.
Quote:
The amount of the passive loss that you will be allowed to take on your 1040 is reduced for ordinary income over $100K and phased out completely for income over $150K.*
*With some exceptions. For example, tax payers who qualify for the RE professional exemption can deduct unlimited amounts against their w2 income (I think)...
Under IRC § 469(c)(7) & Reg. 1.469-9, if the taxpayer spends the majority of his time in real property businesses, meeting the 1/2 personal services and 750-hour tests, rental real estate losses are no longer per se passive. If the taxpayer materially participates in each rental real estate activity, losses are fully deductible.
[quote]
On 2006-03-17 14:32, NewKidInTown3 wrote:
Quote:boylank asked "if I have a rental house". There is a very strong implication that boylank has no rental houses at the moment, nor is there any suggestion about being a real estate professional.
Newkid, you are correct on all accounts.
boylank,
More importantly, did we answer your question?
Yes, and thank you all very much!
Kevin
Quote:Under IRC § 469(c)(7) & Reg. 1.469-9, if the taxpayer spends the majority of his time in real property businesses, meeting the 1/2 personal services and 750-hour tests, rental real estate losses are no longer per se passive. If the taxpayer materially participates in each rental real estate activity, losses are fully deductible. venator64,
I believe you are misinterpreting the tax regs. By default, you own rental property is a passive income activity. To be a real estate professional, you have to materially participate in an ACTIVE income real estate activity.
Not only must you materially participate in an active income real estate business, you must also dedicate more than half of ALL your personal service hours (spent in all your active income activities) to this business AND that time must equal or exceed 750 hours per year.
My point here is that just owning and managing your own rental property does not make you a real estate professional.
Venator,
True enough, real estate professional status is attained through material participation in a real estate trade or business in which the majority of your personal services hours during the year are provided in the conduct of your real estate business or trate. . Your citation from Diane Kennedy does not clarify that the real estate trade or business must be an ACTIVE income activity.
Generally, a rental property activity is a passive income activity. There are exceptions. For example, if your average tenant stay is seven days or less, then you are operating an active income activity much like a motel operation. Also, if the conditions of your rental requires that you provide significant personal services to your tenants such as daily linen exchange, daily cleaning or housekeeping services then you could be operating an active income activity. Simply managing your own rental property is not a personal service.
A professional property management company where you provide your services to others for compensation is a rental property trade or business that would allow you to attain real estate professional status, provided you meet the material participation rules.
Now, the tax code does allow you to count the hours you spend managing your own rental properties toward the minimum 750 hours per year needed for real estate professional status, provided you also meet the material participation rules for an active real estate trade or business. One of the material participation requirements is that a minimum of 500 personal services hours must be spent in the real estate trade or business.
Here is the relevant section from the Internal Revenue Code related to the passive income nature of a rental property activity. If you look at the entire section 469, especially subparagraph (c)(2), you will see that the code defines a rental property activity as passive by default. Paragraph (7) simply makes the rental property activity an active income activity for a real estate professional.
§ 469. Passive activity losses and credits limited
(c) Passive activity defined
For purposes of this section— (1) In general
The term “passive activity” means any activity— (A) which involves the conduct of any trade or business, and
(B) in which the taxpayer does not materially participate.
(2) Passive activity includes any rental activity
Except as provided in paragraph (7), the term “passive activity” includes any rental activity.
(7) Special rules for taxpayers in real property business (A) In general
If this paragraph applies to any taxpayer for a taxable year— (i) paragraph (2) shall not apply to any rental real estate activity of such taxpayer for such taxable year, and
(ii) this section shall be applied as if each interest of the taxpayer in rental real estate were a separate activity.
(B) Taxpayers to whom paragraph applies
This paragraph shall apply to a taxpayer for a taxable year if—
(i) more than one-half of the personal services performed in trades or businesses by the taxpayer during such taxable year are performed in real property trades or businesses in which the taxpayer materially participates, and
(ii) such taxpayer performs more than 750 hours of services during the taxable year in real property trades or businesses in which the taxpayer materially participates.
[ Edited by NewKidInTown3 on Date 03/20/2006 ]
Venator,
I go back to IRC Section 469. It is my conclusion that this section is telling me that a rental real estate activity is a passive income activity UNLESS the taxpayer is a real estate professional.
The implication is that IF the taxpayer is a real estate professional, THEN the taxpayers rental real estate activity becomes an active income activity. To be a real estate professional, the taxpayer must be materially participating in a real estate trade or business. It is the material participation rules (personal services) that make the activity active income.
If all your authorities claim that my conclusion (that being a real estate professional is a pre-qualification requirement for the rental real estate activity to be treated as active income) is wrong, then I will stand corrected.