If you are investor or business owner, then you need to be aware of something called “Net Operating Losses” and “Passive Activity Loss Limitations.” NOL’s essentially allow business owners to reduce your taxable income and infect help you take advantage of massive refunds if properly planned for. If you have an S-Corp, LLC or Partnership then your NOL’s will pass through to your personal tax returns.
Nevertheless, just like everything in life, you can’t have your cake and eat it too. In tax lingo you can only deduct losses up to the amount of your basis (basis means the amount of stock, cash and property donated by an individual member or partner). If you are an investor of any type or a business owner, you should first examine your at-risk limitation and then examine the passive activity loss rules.
If you have a proactive CPA, they should have informed you about the “Passive Activity Loss Rules” – these rules apply to activities in which you aren’t working full time. Essentially, we’re talking about rental activity if you are an active real estate investor. Why is this important to know? Because if you are an investor then you will be subject to not only Passive Activity Loss limitations but also a Net Investment Income tax of 3.8%…YIKES! However, this is where aggressive and proactive tax planning can help you defer taxes and kick the can down the road. Let’s introduce a concept of material participation – material participation has seven very unique tests (I don’t want to bore you with those tests) but essentially you must put in 500 hours in this activity or 100 hours if no other owner participates in this activity. Not everybody can qualify under the material participation test and that’s where you need to get in touch with a CPA who will create a personalized tax plan suited to your needs.
One of our investor/business owner clients faced this exact dilemma, we analyzed his tax returns specifically Form 8582 (Passive Activity Loss Limitations) to figure what the best course of action should be. Our client was panicked and needed urgent help because tax season was around the corner and his old CPA team wasn’t real estate specialized. If this sounds like you, do not worry because help is always there and these strategies shouldn’t be available only to extremely wealthy individuals. We were able to find a loophole, where an exception in the tax code allows real estate investors to escape passive activity loss limitations! What loophole am I talking about? Simple – the Real Estate Professional Status Tax strategy. Our client was ecstatic to find out that he would be able to deduct his losses against rental income and generate massive tax savings. Through these tax savings our client was able to put money down towards his next investment property and thus was on his way towards a very bright and exciting future. The REPS strategy is heavily litigated by the IRS and only CPAs well versed in tax court rulings/laws should be working on this with you.
Passive Activity Rules (PAL) are very complicated and understanding whether you are subject to these rules requires a highly professional and specialized opinion. You see tax planning doesn’t have to be a pain or complicated, all it takes is to sit down with a proactive and qualified team to help you plan, execute and rake in the savings.
Call/Text “FitBiz CPA” 407-990-2002
