All Forum Posts by: Melanie Baldridge

To qualify as an RE Pro you must:

1. Spend more than half of your total working hours in an RE business in which you materially participate.

2. You must work at least 750 hours per year in a qualified RE business.

So most people who have high-earning W-2 jobs outside of real estate won't qualify.

But the unique thing about RE pro status is that even if you don’t qualify but your spouse does, you can both file jointly and claim the losses from your RE investments to offset your other active income together.

It's an incredibly powerful benefit if you do meet the criteria.

Quote from @Costin I.:

@Melanie Baldridge - Yes, we do file jointly + wife works part-time, 4hrs a day, roughly 1000 hours a year. I work FTE W2. She covers our LTR portfolio property management activities, and I assist during weekends (Saturdays are always busy with rental stuff for us).

1. So, does that mean that for her to qualify as REPS, she needs more than 1000 hours of material participation in our rental management or only 750 hours?

2. If she needs 750 or 1000 hours alone on her side, what's to combine? 1000 is more than 750 and more than 500 required for material participation. How do you combine spouses time?

Yes, to qualify as a real estate professional, either spouse must meet the 750-hour requirement of material participation, where more than half of their personal time/services must be devoted to real estate activities.

If your spouse works another part-time or full-time job, it may be difficult to demonstrate that more than half of her working hours are focused on the real estate business.

If not, you should qualify as you exceed the 750-hour threshold of material participation.

As always, it's a good idea to consult with your CPA to ensure you meet the requirements and can take full advantage of the RE Pro status and the deductions available.

The tax advantages of buying/holding gas stations are pretty great.

Many of the components of gas stations including pumps, tanks, external parking areas, and other equipment are classified as either 5 or 15 year property so you can bonus depreciate a lot of it (minus the land value) and get significant deductions in year 1.

With the current bonus depreciation rate at 60%, a $1 million gas station acquisition could still lead to $100K+ in year 1 deductions depending on the specifics of your deal.

There are several different types of income in the US tax code.

Two main types are “active income” and “passive income".

Active income is money you earn from working, such as wages from a W-2 job or income from running a business.

Passive income is money you earn from investments like real estate, stocks, or rental income from your RE portfolio where you earn $ without actively working.

Normally, you can't use passive losses (like losses from real estate investments) to offset active income like your salary from a W-2 job.

That is unless you are an RE Pro.

The reality is, that Real Estate Pro status is just a filing status similar to filing married or jointly.

And if you are a real estate professional you CAN use passive real estate losses to offset active income from other sources.

To qualify as an RE Pro you must:

1. Spend more than half of your total working hours in an RE business in which you materially participate.

2. You must work at least 750 hours per year in a qualified RE business.

So most people who have high-earning W-2 jobs outside of real estate wouldn't qualify.

But the unique thing about RE pro status is that even if you don’t qualify but your spouse does, you can both file jointly and claim the losses from your RE investments to offset your other active income together.

It's an incredibly powerful hack if you do meet the criteria.

In other words, marry a real estate agent who's an RE Pro!

We’re being funny because there's still a bit of nuance here.

There are strict guidelines and it's sometimes a blurry line between being an RE pro vs not.

Always talk to your CPA to see if you qualify.

That said, the benefits are definitely worth it if you do.

Quote from @Costin I.:

@Melanie Baldridge - can you elaborate on "When you are a material participating RE pro all of your and your spouses’ RE activity becomes active, allowing you to offset RE losses against other active income. One pitfall of a RE Pro spouse if you are full-time W-2." ?

Can the spouses participation be combined? 

If one spouse works part-time and is the main active participant, can you combine time with the other spouse (even if he has a FTE W2)?

Can you shed clarification when spouses participation can be combined?

Thanks, Costin!

Yes, you can file jointly if you or your spouse qualify as a Real Estate Professional (RE Pro) and share the benefits.

To qualify as an RE Pro you must:

1. Spend more than half of your total working hours in an RE business in which you materially participate.

2. You must work at least 750 hours per year in a qualified RE business.

So most people who have high-earning W-2 jobs outside of real estate won't qualify.

But the unique thing about RE pro status is that even if you don’t qualify but your spouse does, you can both file jointly and claim the losses from your RE investments to offset your other active income together.

It's an incredibly powerful benefit if you do meet the criteria.

Quote from @Account Closed:

Quote from @Samantha P.:

Oh just to clarify - I'm wondering if an international real estate purchase is eligible for cost seg, with the understanding that it couldn't also do bonus depreciation and that it has a different depreciation schedule. For the purpose of, say, minimizing capital gain in the same year. 

 I dont think it is, @Melanie Baldridge feel free to jump in but foreign assets like this usually follow the tax code from that country. Not sure if there is a way around this 

 Yes, exactly. 

Quote from @Samantha P.:

In case anyone else is wondering about this, it's my understanding after doing a ton of research (but not having talked to a professional) that bonus depreciation only applies to properties in the US (not international properties). If someone could verify, that would be great. 

I'm wondering if cost seg can still be done just without taking the added bonus depreciation - it seems that perhaps it can. 

Yes, it's US only.

And yes, you can elect not to take the bonus depreciation you are eligible for after doing a cost seg.

Bonus depreciation is just a special part of the US tax code.

It allows you to take accelerated depreciation on portions of your property depending on when an asset is put into service.

At the time of this writing, you can write off a huge portion (60% in 2024) of many qualified components that have a useful lifespan of 15 years or less.

That means a certain percentage of things like landscaping, sidewalks, latches, appliances, fences, certain flooring, etc is depreciable in year 1.

The bonus depreciation rate percentage changes yearly depending on the administration and the tax code.

For years 2015 through 2017 first-year depreciation for all the items on a 15-year schedule or less was set to 50%.

It was scheduled to go down to 40% in 2018 and 30% in 2019 and then 0% in 2020.

But then Trump got elected, and he enacted the Tax Cuts and Jobs Act.

That moved the bonus depreciation percentage to 100% from 2017 to 2022.

In 2023 it went down to 80% and it’s currently at 60%.

Depending on who gets elected again, 100% may be back on the table.

Only time will tell.

We know that the US government wants to incentivize more development and ownership of RE.

They want Americans to continue to build and maintain our physical world.

That’s why real estate is one of the most tax-advantaged assets in the US.

Depreciation and bonus depreciation for RE are very positive and will likely continue in the years ahead.

Quote from @Sang Ji:

Thank you for the reply Melanie!!!  I heard that we still have chance for the "100% bonus depreciation" coming back after the presidential election. Should I wait for the tax filing then? In worst case scenario, can I retroactively file it in a few years for 60% bonus depreciation for the cost segregation I did in 2024? 

Hey Sang Ji,

Great question, and the answer is that it’s totally up you.

While it’s possible that future regulatory changes could bring back 100% bonus depreciation, there’s no guarantee.

It may be better to take advantage of the current depreciation rules instead.

If things change in the future, you can file retroactively using form 3115.

The tax benefits of bonus depreciation can lead to massive savings but losses won’t help one bit if you can’t use them.

Before you buy a cost seg, you need to know the rules:

Tax all starts with the types of income.

1. Active = Income earned from Material Participation.

Whether that's SMB, W-2, contract income, or prof real estate.

This is income where ordinary tax is paid and losses offset other income.

Other sources have certain loss limitations.

2. Portfolio = Income derived from financial instruments like dividends (including REITs), interest, royalties, and capital gains.

Mostly income w/out loss potential, and favorable tax rates.

Cap losses may offset cap gains w up to $3,000 loss. Investment interest can be deductible.

3. Passive income which sec 469 defines as:

1. Income from a trade or business where a taxpayer doesn’t materially participate.

2. Rental activity.

Passive losses may only offset passive income, not active or portfolio.

This is a problem for wage-earning real estate investors.

So HOW DO I GET THOSE DEDUCTIONS?

Become a Material Participant.

We are given a clear framework for determining Material Participation (not passive) in Pub 925.

There are 7 scenarios that will get you there.

Material participation scenarios (Pub 925):

1. 500 hours.

2. Substantially all participation.

3. More than 100 hours and 1/2 of your time.

4. Significant participation.

5. You materially participated in the activity for any 5 of the last 10 tax years.

6. Personal service activity w participation in last 3 years.

7. Continuous participation.

This is great if you are talking about an SMB with effectively connected Real Estate.

Note rental activity is considered passive unless you meet the RE Pro threshold of 750 hours and more than 1/2 your time.

This is the conundrum for passive real estate investors.

If you have a full-time job or a large, time-consuming business it can be difficult or impossible to qualify.

A huge loss from depreciation if you have one LP investment isn’t going to do anything for you.

You won’t be able to deduct it.

So what to do?

A few ideas:

1. Acquire enough RE that it takes you or your spouse more than 750 hours a year and 1/2 of your time to manage.

When you are a material participating RE pro all of your and your spouses’ RE activity becomes active, allowing you to offset RE losses against other active income.

One pitfall of a RE Pro spouse if you are full-time W-2.

Mind Excess Business Loss Rules.

You can only offset W-2 income with $610K in 2024.

For single filers, the limit is $305K.

2. Run an Opco/Propco model.

If your business utilizes real estate as part of ongoing operations you can get all the tax benefits of active RE by having the building purchase and hold the RE.

3. Build an SMB on top of your real estate (the reverse of #2)

Short-term rentals and high owner-participation real estate businesses can have great returns.

Obviously not for you if you just want passive RE.

We are in the deep end here, where each case should be judged on its own facts and merits by your CPA.

You should hire a professional to review your particular situation before you make an investment. It is worth it to know where you stand.