Passive Activity and At-Risk Rules

Question 1

At-Risk Rules

Answer 1

• allow a taxpayer a deduction for losses only to the extent that the taxpayer is actually at risk for the amount lost.
• a client can deduct losses only to the extent of their basis, plus any debt incurred in the activity for which the client is personally liable.
• these rules were created to curtail widespread use of tax shelters

Question 2

Passive Activity

Answer 2

• passive losses can only offset passive income
• C corporations can offset passive losses against business income, but not portfolio income.
• a passive activity is one that involves the conduct of a trade or business in which the taxpayer does not materially participate.

Question 3

Material Participation

Answer 3

to materially participate, the taxpayer must meet one of the following tests:

• participates more than 500 hours
• participation constitutes essentially all participation
• participates 100 hours, but that is more than any other participant
• participated in any 5 of the past 10 years
• activity involves providing personal services

Question 4

Computations

Answer 4

• losses are computed by subtracting deductions incurred in a passive activity for income.
• losses on the sale of assets used in a passive activity are considered passive activity deductions
• gains on the sale of assets from a passive activity are passive activity income.

Question 5

Disposition

Answer 5

-after the entire interest of a passive entity is disposed of, suspended losses from previous years are fully deductible against other income.

Question 6

Real Estate Exception for Active Participation

Answer 6

• $25,000 in losses from real estate activities is allowed for deductions if the client actively participates.
• active participation requires at least 10% ownership as well as involvement in management decisions.
• if AGI exceeds $100,000, the amount that can be deducted is reduced one dollar for every 2 dollars AGI exceeds $100,000

Question 7

Vacation Home Rentals

Answer 7

• if a vacation home is rented out fewer than 15 days year, the rental income is not included in gross income, and the taxpayer can take no deduction for the rental use of the home.
• a vacation home is a residence if the owners personal use is longer than 1) 14 days 2) 10% of the period of rental use.