Claiming Rental Losses

As was written here once before that a person who owns a rental property has the possibility of claiming rental losses, with a few restrictions.  One restriction is that generally speaking rental activities is a passive activity, and under the federal tax code any losses realized is a passive activity could only be claimed against passive income, which is not wages and/or net business income, because from these income sources a person is actively (through blood, sweat, and tears) pursing and/or earning income from such sources.   However, the federal tax code does allow a certain amount (up to $25,000, subject to income limitations).  One exception on these passive losses restrictions is that, if the rental owner is a “real estate professional”.  Furthermore, one of the several requirements for one to be hold out as a “real estate professional” is to perform real estate services/activities for at least 750 hours per year (which is about at least 2 hours per day), but the issue in most cases is a matter of proof.

One recent case has just been handed down by the Federal Tax Court on such a case on the issue of whether a person did establish this 750 hour requirement, as a real estate professional (Nicholas S. Farris & Kirstin B. Farris v. Commissioner of Internal Revenue, September 8, 2015), the taxpayers owned two rentals in Oklahoma, and according to the records produced by the taxpayers showed that they were involved in at least 800 hours on the administration/management on the two rentals (a subsequent log that as produced reflected over 1,200 hours on the administration/management on the two rentals).  However, the Tax Court’s problem with the submitted logs by the taxpayers was that:

The . . . logs, however, lack proper substantiation by contemporaneous verification  or other reasonable means. The temporary regulations provide that hours of participation may be established by “[c]ontemporaneous daily time reports, logs, or similar documents”. But participation can also be established by other reasonable means, such as “appointment books, calendars, or narrative summaries” that identify the services performed and “the approximate number of hours spent performing such services”. . . , we are not required to accept postevent “ballpark guesstimates”, nor are we bound to accept the unverified testimony of taxpayers in the absence of adequate documentation. Petitioner[s] did not keep a contemporaneous log of the hours that [they] devoted to [the] rental real estate activit[ies]. Petitioner[s] did refer to contemporaneous “notes”  . . . used to create the logs, but those notes were not provided to the Court. The logs were created in 2012, apparently in connection with the examination of [the] 2010 return[ the tax year in question]. Furthermore, we are unable to identify with any degree of certainty which entries on the logs are attributable to [the] petitioner[s].

 

So the less on this Federal Tax Court case is that is someone wants be hold out as a real estate professional, and thusly would able to claim the full lot of his/her rental losses, then be sure to have a contemporaneous record that could be verified through other documents (e.g. invoice purchases and installation on major items on the rentals, appointment books with prospective tenants, etc.)  to reflect a person did spend at least 750 hours on the administration/management of his/her rentals.

So, if you own a few (or even several rentals), and you fundamentally believe that you have spent at least 750 hours on the administration/management on your rentals, but have difficulty in establishing such proof (especially if you are under a tax audit), please let us know at info@kayatax.com, and we would be more than happy to either reconstruct, as much as possible such a contemporaneous record, and/or even to design such a system where you would have a contemporaneous record of the hours that spent on the administration/management of your rentals.