Questions around Passive vs. Active classification of activities in my LLC.

[Andrew Angell]

I leverage my Life Insurance cash value in a couple of different ways with an LLC, and I have some questions about active vs. passive classification on the deals I'm doing.

I take a policy loan personally, and then I lend the cash to my LLC.

The LLC holds a real estate syndication which pays monthly interest only payments and provides a K1 with passive losses on the books.

I am doing private lending from this LLC as well, and I have about 12 deals going through a broker where we (as a group) are the 1st lien position on a property, and we receive monthly interest only payments as cashflow. When the principal is paid off we typically roll those funds right back into another deal.

In both cases we do nothing but send the cash and collect the monthly payments. I'm getting mixed feedback from a variety of CPA's on how these activities will be classified.

I was thinking that the private lending would be considered passive. As such, the interest income we receive from the private lending would be offset by the K1 losses from the syndication. Some CPA's have confirmed this.

Other CPA's are telling me that it would be considered active since we are "actively" lending on multiple deals in an LLC and are receiving a 1099-INT from the broker of these deals.

If that's the case, then wouldn't the syndication be considered active as well? In which case the K1 losses from the syndication would be able to offset the active private lending income as well as active income from other LLC's.

When I bring this up to the CPA's they look at me a little funny and they don't have a confident answer for me. They are now researching.

It feels to me like the IRS is trying to have their cake and eat it to. They're telling me on one hand that my LLC active, and on the other hand that the activity is passive.

I'm curious if anybody in here is doing something similar and has already filed returns or has any case law examples that would clarify how we could/should handle this.

Any information on this would be greatly appreciated. Thanks!

[Kory Reynolds]

There can be different activities within a single LLC that are classified as passive or active, for each it will depend on the nature of that activity. The classification of one activity within the LLC doesn't necessarily drive the classification of another activity in the same LLC.

For the syndication, given it is a rental activity, it would be per-se passive. It doesn't get turned into active just because you have other separate activities within the LLC. We don't get to work around the real estate professional rules just by lumping passive real estate into the same LLC as an active activity.

The lending is going to be very facts and circumstances dependent, and will likely depend on how you are going about this activity.  On one extreme if you are actively going out and advertising you have hard money to lend, working closely with investors, managing those deals, acting like a bank, etc - it could sound like you are in the trade or business of lending, making that active / potentially self-employment type income.  On the other extreme, you just happen to have a few associates in real estate that you lend money out in a revolving door and are not acting as a business in this venture - just purely a loan, then perhaps it is just portfolio interest income.  All of this also impacts the deductibility of related expenses on these lending deals (investment expense versus trade or business expense).  It is VERY facts and circumstances driven, so it is not surprising that you are receiving different answers - anywhere in the middle of the two scenarios and it will be a decision and position to be taken on the tax return.