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Chapter 3
Tips for Real Estate Investors
Tax Strategies for 2001

Use care
in dealing with
passive assets.
Better yet:
Sell them.
Sell passive assets. If you have large passive loss carryovers, you may want to consider selling passive assets to free up some of the losses.
Determine your basis to calculate your deductible projected losses.  Deducting losses on your income tax returns in previous years may have sufficiently reduced your basis in the investment so that you will not be able to deduct your 2000 losses. Determine whether you should increase your basis in the investment (for example, by making an additional required contribution) before the end of 2000 in order to receive a current benefit from any losses.
Can you deduct 2000 passive losses as a result of the material-participation rules for real estate professionals? If you are a real estate professional who "materially participates" in rental real estate activities, you may not be subject to the passive loss limitations if certain requirements are met. Specifically, the law permits the net losses from rental real estate activities in which an eligible taxpayer materially participates to offset any other income. The provision applies to all individuals and closely held C corporations. To qualify for this relief, individual taxpayers must meet all of the following three conditions for the taxable year of their rental real estate loss:
  1. More than half of the personal services performed in trades or businesses by the taxpayer during the taxable year are performed in real property trades or businesses in which the taxpayer materially participates. Real property trade or business activities are any real property development, redevelopment, construction, reconstruction, acquisition, conversion, rental, operation, management, leasing, or brokerage trade or business.

  2. The taxpayer must perform more than 750 hours of services in real property trades or businesses in which the taxpayer materially participates.

  3. The taxpayer must materially participate in the rental real estate activity generating the loss that the taxpayer wants to deduct. Taxpayers can elect to treat all of their interests in rental real estate as one activity. 


Consider a like-kind exchange before selling property. Your tax liability from the sale of real property can be deferred if you exchange the property for similar property. If no cash or "boot" is paid as part of the transaction, your built-in gain from the old property will be carried over to new property.
Consider the long-term effect of making the election to aggregate for passive activities. Regulations have dealt with the election by real estate professionals to aggregate their rental real estate interests to meet the material participation standard and treat the activities as nonpassive, keeping the interests from being subject to the passive limitation on allowed losses. However, as many unsuspecting taxpayers have found out, it is important to remember that once the election to aggregate passive activities is made, the election is binding for all future years (unless a material change in circumstances occurs). The election is disadvantageous when, for example, a real estate investor owns both (1) passive activities with losses that are not rental real estate losses, and (2) rental real estate activities that produce income. If the election is made in this situation, since the rental real estate income is considered nonpassive due to the election, this rental income cannot be used to offset the passive losses generated from the other activities.

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