Strategy for offseting passive rental losses for my active flips?

Question

I am a full-time flipper. My wife and I just started acquiring rental properties and I want to offset the passive rental loses against my active flip income. I thought I just had to have 750 hours in my real estate profession to take advantage of the real estate professional status to offset my active income. I was informed that it is 750 hours per property, so the REP strategy is not going to work. So, my idea is to structure my flips by having my wife own 99% as limited partner in my flips and have her take 99% of the profits. Our passive rental losses can then be fully used. Will this work? Am I missing anything?

Malcomb Stapel · Answer

Yes, you need material participation in them, but not 750 hours each. Do you really think all of the folks claiming REPS are spending almost 94 eight hour days working on each property? This is a great question for your CPA though. If they can't walk you through it, you need a different CPA.

Malcomb Stapel · Answer

@Hubert Chen who told you that it was 750 hours per property? That information strikes me as false from everything I have seen.

Basit Siddiqi · Answer

You can make the grouping election to count all the real estate activities as one.

Michael Plaks · Answer

Let me clarify what Joseph said. If you already have passive rental losses (PAL) that you cannot use, going for REPS will not unlock those old losses. Once you qualify for REPS, new losses from that point on will become nonpassive and will be allowed. But your old losses accumulated prior to REPS remain locked.This is not something to be concerned about. It is a "nothing gained/nothing lost" situation, pun intended. You could not use these losses before REPS, and they are still unavailable with REPS. What is important is to remember that these suspended PAL losses do not disappear. Once you sell a property, all PAL losses attached to this sold property become unlocked. It works the same with or without REPS. You're not hurting yourself by electing REPS and aggregating your properties. Other than raising your IRS audit risk, but it comes with the territory.

Michael Plaks · Answer

@Hubert Chen

What you read about "750 hr per property" is both right and wrong. Technically, it is wrong, it should be 750 hr combined. However, the IRS and, up to some recent point, even the US Tax Court, got it wrong and misinterpreted the rule. Read my comment on this thread: https://www.biggerpockets.com/...

Yes, you should make the aggregation election. Its purported downside is not actually there. Being a full-time flipper should allow you to qualify for REPS easily. No need to complicate things by this 99/1 idea of yours.

However, as always with taxes, there could be some other issues we're not aware of and not considering, so please find yourself a competent tax professional to navigate you through these tricky rules. Also, there might be a good reason to include separate entities in your setup, specifically an S-corp for flipping. Or not. It's case-by-case.

David M. · Answer

@Hubert Chen

Been a while since i went over this, but I believe technically you'd have to declare the properties as a group, then the 500 or 750 hours applies to the group instead of individually.  This is for material participation.  But, to bring passive losses to your 1040 also requires your agi to be below $150k (well, it starts phasing out at $100k).  The max allowed is $25k.

The Real Estate Professional Status requires that you be doing "real estate" related activiites for more than half your time.  For W2 employees, that next to impossible since it would require doing '2001" hours of work a year, basically another full time job, and there are only so many hours in a day.

I think you are "criss crossing" the requirements.  Definitely consult a few qualified professionals to get this straight.

Hubert Chen · Answer

@Malcomb Stapel Multiple CPA blogs/websites mention that each real estate property is to be treated separately and need to have material participation in each rental property in order to deduct losses for them. You can elect aggregate them in order to combine the hours when filing taxes, but there are downsides to doing that.

Strategy for offseting passive rental losses for my active flips?

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