Posted elsewhere as well, addresses response on 162 as well as other issues in detail.
Natalie wrote “It's more a wave on information from someone whose business is defending things in court.”
Dunno what a “wave on information” means. It would seem that you are attempting to dismiss what I wrote based on what I do for a living as opposed to addressing what I actually wrote. If so, you have engaged in an ad homenim approach. I hope I am mistaken – have I misunderstood what you wrote?
For the record, about 85% of my time is spent on planning for REI and SDIRA owners. About 15% is spent in audits, Tax Court, or fighting IRS collections. I used to prepare returns. I presently do not, though I may re-engage in the future. Bottom line: I get the system and how things actually work. Not just what is written, but how things work in….practice.
Natalie wrote: “I still think it's blindly optimistic that the IRS would qualify someone owning 1 rental as a business”
“Blindly optimistic” …. needlessly strong words that reflect on my credibility…..or yours. Any support for them?
While I care what the IRS “thinks”, I am much more concerned with what the law actually is. Sometimes what the law is and what the IRS “thinks” are not the same thing. If one were to limit oneself to what the IRS “thinks”, then one’s clients would not fully benefit from what the law actually permits.
In the John D. Fackler [45 B.T.A. 708 (1941)] case, the BTA held that a (singular) rental is automatically a TB.
The BTA ruled that “where the owner of rental property devotes it rental purposes and exclusively to the production of taxable income, the property is used by him in a trade or business”.
On appeal, the 6th Circuit came to the conclusion that the building (rented to multiple tenants) was a TB, but they got there via different means. Instead of following a blanket rule that any single rental property is a TB, they examined the level of activity and concluded that the rental property generated enough activity to be a TB. Specifically:
“The management of the property necessarily involved alterations and repairs…..it was also necessary to furnish elevator service, heat, light and water which required regular and continuous activity and the employment of labor, the buying of material and many other things which come within the definition of business”.
That was on a single building. Drop out the elevator language – does that language describe what many landlords do with just one single-family rental? Why yes, it does. And note that “the employment of labor” counts. The landlord did not do everything himself.
Let’s move to a more modern case: Balsamo (T.C. Memo. 1987-477), which involved a single-family rental. Here an interesting quote from that case:
“Our historical position that rental of one property constitutes a trade or business establishes a general not an absolute rule.”
Well, now, that’s interesting. The Tax Court says that the general rule is that one property constitutes a TB, but that they will look at facts & circumstances to see if the general rule should apply. Hmmm, my position that a single rental property – even a single-family – could be a TB isn’t sounding so “blindly optimistic” all of a sudden, is it?
In this case, the taxpayer inherited a property. The court looked at her activities and stated the following (parentheticals are mine):
“Petitioner (that is, the taxpayer) owned the premises for a very short period. Based on the incomplete and disjointed record before us, it appears that petitioner's principal activity with respect to the premises was to negotiate and carry out its sale. Petitioner's activities with respect to the premises as rental property were almost non existent. Petitioner testified that the lessee, Economopoulos, pointed out to her a dead rat, a bee's nest, and several leaks during her single visit, yet petitioner presented no evidence that she attempted to remedy these problems during her period of ownership. Petitioner testified that her brother-in-law performed various repairs on the premises on two separate occasions. However, Economopoulos, a credible and disinterested witness, had no recollection of such visits (that’s the Court’s way of saying “she is lying”), nor could petitioner produce a paid receipt for his services. She also did not deduct these expenses. She took the premises subject to the lease and let the status quo continue during her period of ownership. The foregoing would indicate that petitioner did not perceive the property as rental property, but as investment property shortly to be sold to Economopoulos.”
In short – if she’d have had more activity, the single rental could have been viewed as a trade or business. This principle has stood since at least the 1940’s and is most unlikely to change now.
Natalie said: “as well as qualifying someone who has all their properties managed as a business.”
As to qualifying even though someone also manages the properties……see Gilford, 201 F.2d 735, 2nd Circuit (1953). See also Murtaugh, T.C. Memo. 1997-319. In both cases, delegated activity explicitly counted in determining that delegated activity “counted”. Murtaugh was especially fun. It involved rental of a time share via the management company that sold the time share to the taxpayers and screwed the taxpayers by renting their units (predictably) last.
Here’s some relevant language from Gilford:
“Although it does not appear that the * * * [taxpayer] did anything herself in connection with the management of these * * * buildings, an appreciable amount of time and work was necessarily required on the part of the managing agent. And if such management was a "trade or business," the * * * [taxpayer] was so engaged although she acted only through an agent.”
Passive indeed.
Here’s some language from the Murtaugh case:
“The principle of Gilford was more recently reaffirmed by this Court in Whyte v. Commissioner, T.C. Memo. 1986-486 n.22 ("It is well settled that where an agent is acting on behalf of an owner in managing a business, the owner is still considered to be engaged in a trade or business." (Emphasis added.)), affd. 852 F.2d 306 (7th Cir. 1988).”
and
“We believe the record in this case, although sparse, establishes that B'Mae's (the management company) was acting as petitioner's agent when it undertook the various activities incident to renting out the timeshares. Petitioner's (taxpayer’s) uncontroverted testimony was that B'Mae's undertook the advertising, guest registration, housekeeping, and inventory replenishment in exchange for a fee equal to 40 percent of the proceeds of any rentals. Documents in evidence substantiate this fee arrangement.”
and (bold & underlining mine)
“In both Grier v. United States, supra , and Balsamo v. Commissioner , supra , neither the taxpayers themselves nor their agents had been sufficiently active with respect to the real property involved to be engaged in a trade or business. In Gilford v. Commissioner, supra , the agents were actively involved in managing commercial real property, to a sufficient degree to be engaged in a trade or business. In the present case, the transient rentals of petitioners' property likewise entailed sufficient activities to constitute a trade or business, and while these activities were conducted by B'Mae's, they are attributable to petitioners for purposes of determining whether petitioners were engaged in a trade
or business.”
Again, that the taxpayer was “passive” did not matter. Delegation “counts” for examining activity levels.
Natalie said: “It generates passive income…… You don't qualify as a RE pro in term of hours.”
Code Section 469 (Passive Activity Losses) is irrelevant to TB discussion under Section 162.
Natalie said: “You pay no self employment tax”
Code Section 1402 (Self Employment Tax) is irrelevant to TB discussion under Section 162.
Finally: Some of the cases I have cited decided what’s a “trade or business” under sections other than 162. So they are irrelevant, right? Not so fast.
As I mentioned elsewhere, the term “trade or business” has been consistently used throughout the Code. The cases cite each other even when a different Code Section is involved. The reasoning does not change at all, regardless of which section is in play. The Tax Court hates making up new law and likes to borrow from existing law.
Here’s an interesting quote from a law journal article written in 1955 (“The Single Rental as a ‘Trade or Business’ Under the Internal Revenue Code,” U. of Chi. L. Rev. 111 (1955) – talk about a relevant title.
“The courts apparently agree that the meaning of the words "trade or business" is uniform throughout the Code provisions here considered…No court has made an explicit distinction between a "trade or business" authority under one section of the Code and another under a different section. On the contrary, the courts cite indiscriminately any case having to do with "trade or business" whether under
Section 1221, 1231, 165 or 162.”
Plus ça change, plus c'est la même chose.
The above represents part of my research. I spent around 15 hours in December & January answering the question of “When are rentals a Trade or Business”.
Whenever possible I do my homework. I do like to sometimes post to see I am full of it. Like anyone else, I am sometimes off or flat out wrong. And I appreciate being shown to be off or wrong in the spirit of informed debate and intellectual honesty. I do get peeved when people get needlessly personal or resort to unfortunate short cuts.
I will post links to references cited as well as a few other useful cases & articles.
Bottom line, as I stated before (and still open for logical refutation, I want to know if I am in fact mistaken):
- Most taxpayers with 2+ rentals that are not triple-net leased should qualify as a TB
-Many taxpayers with 1 rental that is not triple net leased may qualify
-Delegation counts, even if the taxpayer is completely “passive”
-Pass-through from partnerships/S-Corps/certain kinds of trust should count
