John R. Bullis: Rental owners must keep careful records of work
Peter Hofinga and his wife, Margaret Wong, lost their U.S. Tax Court case to deduct rental losses on their returns. They did not prove he spent 750 hours a year working on the real estate rental activities.
They owned eight rental properties in 2006 and nine in 2007. They elected to treat all the rental properties as one activity for federal income tax purposes.
He did most of the management from his den/office in their home. But he did not keep a record, a log, a listing of time spent on the rental properties for each year.
Rental property losses are considered passive activity losses unless it is proved the taxpayer had “material participation” in the rentals.
The court noted Professor George S. Jackson wrote “… the code section 469 exemplifies why federal tax law is incomprehensible for most citizens.” The court said that section is complicated.
The rental loss deduction for taxpayers with more than $150,000 of adjusted gross income (as is the case here) is not allowable if the taxpayer did not materially participate.
To be a real estate professional, one must perform more than 750 hours of service during the taxable year and more than 50 percent of the personal services in all trades or businesses in the year. Mr. Hofinga was not otherwise employed in those years, so he had to meet the 750-hours requirement.
It seems the taxpayers were not aware of the need to maintain a contemporaneous log or record of time devoted to the rental real estate activity on an event-by-event basis.
But your friend the IRS says you can prove the 750 hours by other reasonable means.
They used calendars, bank statements, credit card records, property trip files, bills, receipts and other records to construct the logs. Unfortunately, many of the entries had exactly the same explanation. The court found the evidence did not satisfy the 750-hours requirement, and the rental losses were disallowed for 2006 and 2007.
It is a shame the tax laws and regulations are complicated and a heavy burden. But if you have rental losses, it is important to keep the records of the time spent and what was done.
Those losses are not lost, just postponed to a year when the rental has profits or is sold.
Did you hear? “The trouble with making mental notes is that the ink dries too fast.”
John R. Bullis is a certified public accountant, personal financial specialist and certified senior adviser who has served Carson City for 45 years. He is founder emeritus of Bullis and Co. CPAs.