Q&A: Deducting losses from real estate investment

February 5, 2009

With real estate prices so low, I'm thinking about buying a single-family home as a rental property. Is it true that I can deduct the tax loss from this type of investment against the salary from my practice?

Q: With real estate prices so low, I'm thinking about buying a single-family home as a rental property. Is it true that I can deduct the tax loss from this type of investment against the salary from my practice?

A: The problem with rental activities is that they generally fall into the category of "passive" activities. Thus, rental losses you incur can only be deducted against passive income. However, if you "actively participate" in the residential-rental activity, you may be able to deduct a loss of up to $25,000 against ordinary, or "non-passive," income, such as your salary or investments. You actively participate in the rental activity if you make key management decisions such as whom to rent to, the rental terms, approving capital expenditures, etc. You also can show active participation if you arrange for others to provide services. (Active participation does not require regular, continuous, or substantial involvement with the property.)

If you meet the above tests, you can claim up to $25,000 in losses against non-passive income ($12,500 if you're married, file separately, and live apart from your spouse for the entire year-but you're not eligible for this break at all if you're married, file separately, and don't live apart from your spouse for the entire year). If your adjusted gross income is above $100,000, the $25,000 allowance is reduced by one-half the excess above $100,000. Under this rule, if your adjusted gross income is $150,000 or more, the allowance is reduced to zero.

Send your money management questions to memoney@advanstar.com (please include your regular postal address). Answers to our readers' questions were provided by Sherman L. Doll, CPA, Thomas, Wirig, Doll & Co., Walnut Creek, California.