IRS said Real Estate Agents are not Real Property Professionals

Does a real estate agent qualify as a real estate professional for the purposes of deducting rental expenses from regular income?

The IRS says no. The IRS says that a real estate agent cannot qualify as a real estate professional; so many tax professionals are instructing their clients to use the passive loss rule. In order to deduct rental real estate activity expenses against regular income you must be a real estate professional, i.e., one who, among other things, operates a real property trade or business.

The tax statute lists qualifying businesses as follows:

• real property development
• redevelopment
• construction
• reconstruction
• acquisition
• conversion
• rental
• operation
• management
• leasing or brokerage trade or business.

The statute also says that the determination of a taxpayer’s real property trades or businesses is based on all relevant facts and circumstances. And the regulations state that the work done in the business means any work performed by an individual in connection with a trade or business, but not as an investor. The courts have not decided whether this statutory list is illustrative or exclusive, but two cases currently docketed in California likely will address this. The decided cases give as the general purpose of the statute to limit the exceptions to the passive loss rule in order to prevent persons with full-time non-real-property businesses from deducting their investment expenses from their regular income. It would seem contrary to the courts’ reasoning, generally as to the statute, to exclude any actual real property professional from this beneficial treatment.