This entry was posted on 4/12/2007 1:35 AM and is filed under uncategorized.
If you own a rental property, it's not unusual for it to generate tax losses. Back in the mid 80s, Congress came up with the concept of passive income and losses, and deemed rental income and losses to be passive. What this means to rental property owners is that if their filing status is Married Filing Joint (MFJ), and their Modified Adjusted Gross Income (MAGI) is over $150,000, they won't be reporting net passive losses on their tax return. Any losses will be suspended and carried forward, to be used against future passive income. The most typical source of future passive income is selling the property. When the property sold, all passive losses associated with it are released and can be taken.
This is an example of a tax loss taken away from taxpayers, but only for a while. Upon the sale of a property with suspended losses, all debts are settled so to speak, and the books balance. What Congress told you you couldn't take, you finally get to take. It is a timing difference, a deferral.
If your MAGI is less than $150,000, and your status is MFJ, then you are granted a special allowance of up to $25,000 of passive losses per year. These passive losses rules also apply to Limited Partnerships (LPs) that own Rental Properties. Just as notable as Congress coming the the idea of passive losses, is when brokers came up with the idea of selling high commission LPs for their write-offs, only to find that Congress put an end to that, with the introduction of the passive rules, denying taxpayers their promised write-offs. I had clients during this time who told me they couldn't even find a market to sell these dogs of an investment. It did influence me have a critical eye towards brokers. The reason LP owners can't take the special allowance write-off, is that they do not materially participate in the operation of the rental property. As with rental property owners, the suspended losses on an LP can be taken upon its disposition.
It is true that some of these LPs did make money, but many others where put together by promoters ignoring underlying economic fundamentals. A good rule of thumb is to rate making money
first, and worrying about taxes,
second. Don't reverse the two and make tax avoidance your highest goal. Another mistake that brokers offering LPs made, is they didn't anticipate the the lowering of tax rates, that make tax write-offs, less valuable. And a mistake a limited number of brokers made, is selling these LPs to my lower income clients, with apparently no rational for them doing so beyond, I assume, their own self interest.
Not all LPs are bad. But some question should be asked before buying into one. For instance, what is the broker's commission? What does the price history of the LP look like for the last 5 years? Is there even a market you can find this thing listed on? Will you able to use any expected losses or do you have to suspend them? Why is this investment better than an S & P 500 index fund? What litigation is the LP current involved in?
And yet another consideration of owning LPs is that many of them don't feel the pressing need to get your tax information for the year, sometime not sending it out until after April 15th. And the final consideration is that if you own an LP, you will probably hiring someone like me to do your tax return, because now it's likely to be more complicated.
