There is a little bit of confusion on what a real estate professional status is in the eyes of the IRS (Tax Law). This actually differs from a real estate professional, and you do not have to be licensed to receive tax benefits of a real estate professional label!
What is a real estate professional?
A real estate professional is a person who has a professional designation, such as a real estate broker or agent, property manager or real estate appraiser. To obtain such qualification, they will, typically, need to complete pre-licensing courses, pass state-administered examinations and fulfill continuing education requirements. The benefits of being a real estate professional include access to ongoing professional training and resources, increased credibility and the ability to represent clients in real estate transactions.
To qualify as a real estate professional, the person must have experience and knowledge in the real estate industry, and be able to demonstrate the appropriate skills through education, training and work experience.
A real estate professional can provide valuable insights and guidance on the best investment opportunities and help investors navigate the procedures involved in investing in syndicated multifamily real estate.
Please take a look at our FREE e-book: Passive Real Estate Investing
What is a real estate professional status per IRS (tax law)?
We are not tax professionals and we recommend consulting with a CPA, but this is what we know and more details can be found here from the Tax Adviser website. You can qualify for real estate professional status per the definitions of the IRS without having a professional designation mentioned previously. A taxpayer qualifies as a real estate professional if;
(1) more than one-half of the personal services the taxpayer performs in trades or businesses during the tax year are in real property trades or businesses in which the taxpayer materially participates, and
(2) hours spent providing personal services in real property trades or businesses in which the taxpayer materially participates total more than 750 hours during the tax year.
We have both single family and multifamily home investments in which we materially participate in. One thing we had to do was to elect to aggregate all of our interests in rental real estate for purposes of determining material participation. (This is key!!)
Sec. 469 provides that losses from a "passive activity" may only be used to offset income from a passive activity, with any passive losses in excess of passive income for a tax year disallowed and carried forward to the next year. Included in the definition of a passive activity is any rental activity, regardless of the taxpayer's level of participation.
A taxpayer who meets the qualification of a real estate professional under Sec. 469(c)(7), however, overcomes the presumption that all rental activities are passive. As a result, since the enactment of Sec. 469(c)(7) in 1993,1 taxpayers with rental losses have sought to meet the qualification of a real estate professional to prevent those losses from being treated as per se passive, potentially allowing the losses to be used without limitation.
On Jan. 1, 2013, qualifying as a real estate professional suddenly became meaningful even to taxpayers with rental income. On that date, the net investment income tax of Sec. 1411 became effective, levying an additional 3.8% surtax on, among other items of investment income, all passive income of a taxpayer. Thus, a taxpayer with rental income now has an incentive to qualify as a real estate professional: characterizing rental income as nonpassive to avoid imposition of the surtax.
Let’s get a little more clarity on what the rules mean.
Greater than Half of Professional Time Rule - Real estate needs to be your primary role and not your side hustle. Not only do you need to spend a minimum of 750 hours in this activity, you also can’t spend more time doing something else to earn income. I.e. - you cannot have 750 hours in real estate plus 750 hours as a yoga instructor.
Materially participating in real property trades or businesses - Here’s a list of what IRS considers as activities that qualify for REPS (real estate professional status:
Here’s a list of real estate investment activities that would not qualify for REPS:
Searching for new properties
Studying financial statements
Managing the finances of an activity in a non-managerial capacity
Preparing summaries of finances or operations
Work done “primarily for the purpose of avoiding disallowance of losses
Investing in a multifamily project has many advantages as, on balance, real estate offers lower economic and inflationary risks than stocks.
Of course, the decision to invest in real estate or invest in stocks or bonds or other asset classes, which offer different risks and opportunities, is a choice which depends on an investor's risk tolerance, objectives, financial status and investment style.
Anna & Peter Tan
SuiteLifeMF has acquired, operated and invested in real estate for over 10+ years, investing in over 1500 doors and with over US$ 100 under management (900+ doors). The company also operates a property management company which handles a portfolio of single family homes. SuiteLifeMF maintains a disciplined approach to investing, which focuses on capital preservation and strong returns with a deep understanding of submarkets, economic and political situations.