Real Estate Professionals For U.S. Federal Income Tax Purposes

John Dundon

Everyday people misinterpret the tax code. It does not matter if you are a bookkeeper, accountant, unlicensed tax practitioner, Enrolled Agent, CPA, tax attorney, or even a Tax Court Judge, the tax code is complicated and confusing and many of us struggle understanding it, much less applying it in practicality.

Those of us that are true students of the code find themselves enjoying the fact that new opportunities to learn are present themselves almost every day. This could not be truer than with “real estate professionals” and the Internal Revenue Code, specifically section 469.

Qualifying as a real estate professional under IRC 469 is advantageous to taxpayers as they forego passive activity loss limitations from rental activities, no IRS Form 8582. Not only that, but real estate professionals can exclude rental income from the 3.8% tax on net investment income, no IRS Form 8960.

The real estate professional rules inside IRC section 469 have been litigated quite a bit. While no one rule, standing on its own, is particularly troublesome, many practitioners, the IRS and even the Tax Courts it seems misunderstood how to interpret the rules collectively in applying them to real life situations.

IRC 469 and the Real Estate Professional

What is a Real Estate Professional? In reviewing James F. Moss, et ux. v. Commissioner 135 TC No. 18 to be a real estate professional, a taxpayer must meet two requirements:

(1) More than one-half of the taxpayer’s personal services must be performed in real property trades or businesses in which he materially participates; and

(2) The taxpayer must perform more than 750 hours of service in real property trades or businesses in which he materially participates.

If both tests are met, the taxpayer is allowed to deduct his loss in full for the rentals in which he materially participates.

The regulations for §469 state the taxpayer can establish his participation in an activity by any reasonable means. Strict time reports and logs are not required if other reasonable means can establish the participation under Reg. §1.469-5T(f)(4).

Rental properties are generally considered passive activities under §469(c)(2) regardless of the number of hours a taxpayer participates in the activity. However, §469(c)(7) provides an exception for real estate professionals while §469(i) allows for a special $25,000 allowance for taxpayers who actively participate in the rental activity.

In this case James Moss worked as a full-time nuclear technician. He also owned four separate rental properties. Mr. Moss claimed that his actual time spent on the rental properties PLUS his ‘on call’ time to ‘be available’ to work the rental properties put him over the 750 hour/year threshold qualifying him as a real estate professional. The Court sided with the IRS stating that in order to satisfy the 750-hour test, the taxpayer must actually perform services for the rental properties. Since Moss did not actually perform any services while “on call,” he cannot use the “on call” time towards the 750-hour test. As such, he did not have enough hours and was disallowed real estate professional status.

Generally speaking under IRC Section 469, all rental activities are treated as passive, regardless of the individual owner’s extent of participation, material or otherwise. The impact of this is that rental losses can only be offset by other sources of passive income. If the taxpayer does not have enough passive income to fully offset passive losses from rental activity then those excess losses are suspended in the current tax year and carried forward to future years.

Unless of course the taxpayer truly earns their living in real estate trades or businesses as per IRC 469, then they are allowed to claim rental losses without limitation. These taxpayers are deemed ‘real estate professionals’ as per the tax code.

So how do we determine if someone is a real estate professional for income tax reporting purposes?

As per IRC Section 469(c)(7) two quantitative standards must be met in order for a taxpayer to qualify as a real estate professional.

For the tax year in question greater than one-half of the personal services the taxpayer delivers in all trades or businesses must be in real property AND the taxpayer MUST materially participate in those activities. In other words to be a real estate professional as per the IRC the tax payer must spend more hours on real estate activities than non-real estate activities.

You must also invest at least 750 hours of documented time providing real property business as a material participant in the tax period. These hours are best documented in a log by tax year.

The concept of real property trades or businesses includes more than the rental of property. IRC 469 lists other activities including:

  • development
  • redevelopment
  • construction
  • reconstruction
  • acquisition
  • conversion,
  • operation
  • management
  • leasing
  • brokerage

The taxpayer is NOT required to be a landlord to be deemed a real estate professional for income tax purposes, nor do they actually have to be in possession of a real estate license.

The standards a real estate professional must adhere to under IRC 469 are rooted in the concept of “material participation” in real property trade or business.

Treasury Reg. Section 1.469-5T, defines seven ways to establish material participation in a trade or business:

  • You participate in the activity for more than 500 hours during the year,
  • Your participation in the activity constitutes substantially all of the participation by all individuals (including non-owners) in the activity for the year,
  • Your participation is more than 100 hours during the year, and no other individual (including non-owners) participates more hours than you,
  • The activity is a significant participation activity in which you participate for more than 100 hours during the year and your annual participation in all significant participation activities is more than 500 hours. [A significant participation activity is generally a trade or business activity (other than a rental activity) that you participate in for more than 100 hours during the year but do not materially participate.]
  • You materially participated in the activity for any five tax years (whether or not consecutive) during the 10 immediately preceding tax years,
  • For a personal service activity, you materially participated for any three tax years (whether or not consecutive) preceding the current tax year, or
  • A generic facts and circumstances test.

Generally during the tax year in question for income tax purposes real estate professionals must:

Have a for profit motive in a real property trade or business.
Materially participate in that real property trade or business under one of the seven tests of Reg. Section 1.469-5T above.

Invest more time in their real property trades or businesses than their day job and be more than 750 hours.


A taxpayer owns one large 90 unit commercial building and spends 2,000 hours managing and maintaining the building for the year as a defined primary job, when the building kicks off a $800,000 rental loss the taxpayer is a deemed real estate professional permitted to use the loss in full without limitation.

The tests are met as rental is defined as a real property trade, the taxpayer clearly meets the hours test of Reg. Section 1.469-5T, this is clearly the taxpayer’s primary job as 2000 in the tax year are invested in a profit motive.

[This post will continue next week]

Enrolled with the United States Treasury Department to practice before the IRS, governed by rules stipulated in United States Treasury Circular 230. As a Federally Authorized Tax Practitioner and a tax appeals specialist my Enrolled Agent License #85353 is issued by the United States Treasury. With this license I work for U.S. taxpayers everywhere to resolve tax matters and de-escalate stress about taxes or tax disputes for individuals and corporations with federal and state issues.

Facebook Twitter LinkedIn 

Subscribe to TaxConnections Blog

Enter your email address to subscribe to this blog and receive notifications of new posts by email.