In regards to your income tax liability, a passive loss is when, for tax purposes, your rental properties lose money. In this case, your losses are deducted against your annual net passive income and subject to passive activity loss rules. But, what happens if your income is not enough to deduct your losses in the same year as they are incurred?
In this article, learn how to use suspended passive losses for your 2020 income tax. Find out what happens to losses that you cannot deduct in the same year as they are incurred. And, learn how passive activity loss rules affect your future passive income tax deductions.
Passive Activity Loss Rules: Using Suspended Passive Losses
For taxation purposes, the IRS looks at your annual income in terms of net gain or loss. Passive income is generated from property rentals and investments in which you do not participate in the ongoing activities of the business. If your real estate rental income generates a net loss, you cannot deduct it against your earned income – with a few exceptions.
If you are the owner or landlord of a rental property, a special rental loss offset lets you apply up to $25,000 of passive activity losses against your normal income. To qualify, your Modified Adjusted Gross Income, must not exceed $100,000 for the year. But, qualified real estate professionals are permitted to deduct an unlimited amount of passive activity losses.
Qualified real estate professionals can deduct up to $250,000 in rental losses if you are filing as single. For joint filers, the maximum deduction amount is $500,000. And, after the year 2025, deductions are unlimited for real estate professionals.
If your rental income generates a passive activity loss that is not deductible, it becomes a suspended passive loss. Suspended passive losses continue to track forward until they can be deducted against active or passive income, or you dissolve your interest in the property.
Selling Your Property: Deducting Suspended Passive Losses
In the tax year that you decide to sell your rental property, the IRS allows you to deduct suspended passive losses. You must, however, liquidate virtually all of your rental activity in order to take advantage of this deduction. So, if your investment activity is solely based on one income from one piece of rental property, as soon as you dissolve your interest, you can deduct your suspended passive losses against the profit brought-in by your property sale.
If your investment activity involves multiple properties, for tax purposes you have the choice to group them together as the same activity or treat them as separate activities. Make sure you consult a tax specialist to determine which choice is the most appropriate for your activity.
To deduct your suspended passive losses, the property sale must be to an unrelated buyer. So, you cannot sell-off your property to your spouse, parents, children, or any other person on lineal ancestry or descent. The sale, also, cannot be to a corporation or organization in which you own 50% or more of the controlling interest.
Passive activity loss rules mandate that the property sale must be taxable and account for income or loss. So, to deduct your suspended passive losses on real estate, you cannot claim any tax deferments or exchanges.
Navigate Passive Activity Loss Rules with a Tax Specialist
Passive activity loss can be daunting when you’re thinking about filing your income tax. But, remember that you can deduct suspended passive losses against the profit when you divest in the rental property. Want to learn more about making the most of your passive income or loss?
Consult a CPA to be sure you are in compliance with all the passive activity loss rules. Ask how you can use suspended passive losses to reduce your tax liability for 2020. And, help others by sharing this information with your social media community.