Passive Tax Losses
To turn passive losses to non passive losses, can someone give guidance to the 50% rule. I wish to buy a rental buildingI and do all work myself. If I currently work 1800 hours a year (not in real estate), how many hours must I log into my rental building? Is it 1801? What if I was a real estate sales person (not broker) on the side logging in 751 hours per year. Then how many hours would I need to put into my rental building? 
Before addressing your question, would you tell us why you would want to turn a passive income activity into an active income activity?
Investment rental property, by default, is a passive income activity. The profit from the sale of the property currently enjoys a maximum capital gains tax rate of 15%. Additionally, up to $25K in NET passive losses can be used to offset your other ordinary (active) income to reduce your annual income tax liability.
If you satisfy IRS rules for tax treatment as a "real estate professional", and also choose to treat your passive rental losses as active losses, then, all of your income from the rental property and all of the profits from the sale of the property will be treated as active income and taxed at your ordinary income tax rate -- even if that is 35%.
1) I do not qualify for the $25K exemption to the passive loss rules.
2) The propertry in question has a loss of $36K/year which, if I qualify as a real estate professional, will put $7700 in my pocket yearly. Yes, if I hold on to the property long term you are correct. However, there is a pretty fair chance I will not hold on to the property for very long. The property is in NYC. In my view, prices have topped out. I expect the next few years to bring little growth. In fact, I think prices will slightly decline. In which case, I will never realize my losses.
3) I'm not sure about this, but I'm under the impression I can still avoid the taxes if i do a like-kind exchange?
Quote: To turn passive losses to non passive losses, can someone give guidance to the 50% rule. I wish to buy a rental buildingI and do all work myself. If I currently work 1800 hours a year (not in real estate), how many hours must I log into my rental building? Is it 1801? Yes, and accurate time records must be kept. At least 50% of all your personal services hours must be performed in real property trades or businesses in which the individual materially participates. Material participation rules usually require that you do all the work yourself (no outsourcing).
Quote:What if I was a real estate sales person (not broker) on the side logging in 751 hours per year. Then how many hours would I need to put into my rental building?1050. IRS rules allow you to aggregate your hours in the real estate brokerage business with your hours from your rental real estate operation and management to meet the 50% and 750 hour tests.
Quote:I'm not sure about this, but I'm under the impression I can still avoid the taxes if i do a like-kind exchange?I'm not absolutely clear on your question. If you only treated your rental property as a passive activity, then your property is eligible to participate in a 1031 like-kind exchange.
If, on the other hand, you convert your passive losses to active losses, then your sale profits are active income and not investment income. In my lay opinion, your property is not eligible to participate in a 1031 like-kind exchange in this circumstance. There is a loophole however. If you convert your rental real estate activities back to passive activities for at least 24 months, then you reinstate your property''s eligibility to participate in a 1031 exchange.
Thanks to Dave T for his response. Here is a real estate philosophical question (if there is such a thing): Most people will hold on to investment property for a while and the property will go up in value. As Dave T mentioned in his first reply to me (above), why would the average person want to turn passive losses to non-passive losses? Why does the IRS care if one establishes themselves as a "real estate professional" when ultimately the IRS will collect more taxes if a person declares themselves that way?
Quote:As Dave T mentioned in his first reply to me (above), why would the average person want to turn passive losses to non-passive losses?
That's the holy grail for a doctor. The doctor doesn't care if there is a piper to be paid in the future by doing so, taxes are killing him NOW! As long as he can say on the golf course "Well, I was getting killed for having $250k of income a year, but with my real estate investment losing $200k a year on paper (appreciating all the while), and my wife managing it, I'm paying a lot less now." Nevermind that the accumulated depreciation is eroding his tax basis, and he's going to refinance it later on to cash out, and then he won't be able to sell it and will have to wait to die with it so he can get the stepped-up basis in the estate!Quote:Why does the IRS care if one establishes themselves as a "real estate professional" when ultimately the IRS will collect more taxes if a person declares themselves that way?Because a dollar today is worth 3 dollars tomorrow.