Tax Court Weighs Effects of Landlord's Disability in Determining "Real Estate Professional" Status. (Parker Tax Publishing January 5, 2015)

Taxpayer, a disabled veteran, was held to be a real estate professional for purposes of Code Sec. 469 passive activity losses, as he personally performed nearly all activities related to renting and maintaining a triplex apartment. Factoring in the taxpayer's disabilities, the Tax Court rejected the IRS's contention that it was highly unusual for the owner of a single property to spend more than 750 hours on those activities. Lewis v. Comm'r, T.C. Summary 2014-112 (12/23/14).

Background

Bill Lewis is a retired Vietnam veteran. During his service in the Marine Corps he sustained injuries that left his right arm 50 percent disabled and his feet 30 percent disabled. The Department of Veterans Affairs determined that Lewis is 60 percent disabled, and he receives monthly disability assistance. He also needed knee replacement surgery and has difficulty seeing. During 2010 (the first of two tax years at issue) he was 63 years old.

Lewis owns a triplex apartment next to his home, which he and his wife began renting to tenants in 2007. The property has a washhouse, six 64-gallon recycling bins, several large walnut trees, and is on a route to a nearby recycling center resulting in greater frequency of the homeless population passing by, all of which necessitate frequent maintenance on the property. Lewis and his wife do not permanently employ anyone to aid in the process of renting out the units or maintaining the property, rather, Lewis personally performs the administrative tasks, routine maintenance, and repairs. Lewis acts as the landlord and was available to his tenants 24 hours a day when they experienced a lockout or needed repairs, and also collected, deposited, and recorded rent checks.

Lewis performed the same weekly routine without ever taking a vacation. Each morning he would walk around and inspect the grounds for trash left behind by the homeless population.

On Mondays he would clean the washhouse. On Tuesdays and Fridays he would landscape and clean the outside of the buildings, the garbage cans, and the front yard. On Wednesdays he would take all of the recycling bins one by one to the curb. On Thursdays he would retrieve the recycling bins, one by one, that he placed at the curb the night before.

Lewis claimed real estate loss deductions of $53,284 and $39,389 on his 2010 and 2011 returns, respectively. The IRS disallowed $35,759 and $21,846 of Lewis' deductions for 2010 and 2011, respectively, which are the amounts by which their deductions exceeded the allowable Code Sec. 469(i) offset after application of the phaseout provisions of Code Sec. 469(i)(3).

Analysis

The Tax Court was asked to determine whether Lewis met the material participation and 750-hour requirements to be a real estate professional not limited by the passive loss limitations under Code Sec. 469.

Code Sec. 469(a) generally disallows the passive loss or credit of an individual taxpayer for the taxable year and treats it as a deduction or credit allocable to the same activity for the next taxable year. In general, a passive activity is any activity which involves the conduct of a trade or business in which the taxpayer does not materially participate (Code Sec. 469(c)(1)). A taxpayer is treated as materially participating in an activity only if his or her involvement in the operations of the activity is regular, continuous, and substantial (Code Sec. 469(h)(1)).

Rental activity is generally treated as a per se passive activity regardless of whether the taxpayer materially participates (Code Sec. 469(c)(2)). Code Sec. 469(c)(7) provides an exception to the rule that a rental activity is per se passive if the taxpayer is a real estate professional. A taxpayer qualifies as a real estate professional for a taxable year if: (1) more than one-half of the personal services performed in trades or businesses by the taxpayer during such taxable year are performed in real property trades or businesses in which the taxpayer materially participates, and (2) the taxpayer performs more than 750 hours of service during the taxable year in real property trades or businesses in which the taxpayer materially participates (Code Sec. 469(c)(7)(B)).

The Tax Court found that Lewis had materially participated in a real property trade or business as he owned rental property and he performed almost all of the necessary work related to the rental of the triplex himself. The court also found that, based on the credible testimony of Lewis and his wife, Lewis had performed more than 750 hours of service for his real estate business during 2010 and 2011. While Lewis and his wife did not provide a contemporaneous daily report of Lewis' activities, they each provided a narrative summary regarding Lewis' activities and the approximate number of hours spent performing those activities.

The IRS argued that Lewis' estimation of the time it took him to perform all of the activities related to the rental property was overstated and that it was highly unusual for the owner of a single property to spend so much time on those activities. The Tax Court noted that while the IRS's contentions may be accurate for most individuals, Lewis was aged 63-64 and was 60 percent disabled. Factoring in Lewis's age and disabilities, the court found the couple's account of the amount of time it took Lewis to complete these various tasks was credible.

On the basis of the records provided and the couple's testimony, the court found that Lewis spent at least 650 hours each year on routine maintenance alone, and easily surpassed the required 750 hours after factoring in the time spent on repair facilitation, tenant correspondence, and other miscellaneous tasks. Because Lewis materially participated in his real estate business and met the 750-hours requirement, the Tax Court concluded that he qualified as a real estate professional and his rental activity was not passive for purposes of Code Sec. 469.

For a discussion of passive activity losses, see Parker Tax ¶ 247,105. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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