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Chapter 13

Chapter 13. At-Risk/Passive Activity Loss Rules and The Individual Alternative Minimum Tax “Never let the tax tail wag the economic dog.” -- Laura Peebles. LO #1- At-Risk Rules. At-risk activities include any “engaged…in carrying on a trade of business or for the production of income.”

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Chapter 13

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  1. Chapter 13 At-Risk/Passive Activity Loss Rules and The Individual Alternative Minimum Tax “Never let the tax tail wag the economic dog.” -- Laura Peebles

  2. LO #1- At-Risk Rules • At-risk activities include any “engaged…in carrying on a trade of business or for the production of income.” • Initial amount at-risk is any contribution of money plus the adjusted basis of contributed property.

  3. LO #1- At-Risk Rules • What is “at-risk” or increases “at-risk?” • Cash and property contributions • Share of liabilities • Income and gain items • What decreases “at-risk?” • Cash and property distributions • Release of liabilities

  4. LO #1- At-Risk Rules • Form 6198 is filed for each activity subject to the at-risk limitations • Liabilities that affect at-risk amount • Recourse debt • Nonrecourse debt • Qualified nonrecourse debt

  5. LO #1- At-Risk Rules • Losses disallowed under the at-risk rules • Carried over indefinitely • Deducted in years when the at-risk amount increases • Losses may still be subject to the passive loss limitations

  6. LO #2 – Passive Activities • What is a Passive Activity? • Taxpayer does not materially participate on a • Regular • Continuous • Substantial basis • Most rental activities and limited partnership interests are passive by definition

  7. LO #2 – Passive Activities • Seven tests for material participation • > 500 hours • All of the participation in the activity • > 100 hours and not less than any other person • > 100 hours and several activities that in aggregate exceed 500 hours • Material participant for any of the last five years of ten years • Material participant for any of last three years for personal service activity • Facts and circumstances

  8. LO #2 – Passive Activities • Passive Losses – General Rule • Passive losses are allowed only to the extent of passive income • Income/loss items separated into three categories • Active Income/Loss • Portfolio Income • Passive Income/Loss • Passive losses cannot offset portfolio or active income

  9. LO #2 – Passive Activities • Rental Activities – usually passive • Real estate professional exception • Six other instances where rental is not passive • Rental period less than seven days • 30 days or less and significant personal services • Extraordinary personal services • Incidental to non-rental activity • Customarily available during defined business hours • Rented to an entity the taxpayer owns

  10. LO #2 – Passive Activities • $25,000 loss allowed for rental activities • Active participation • Own at least 10% of property • Starts to phase out when AGI reaches $100,000, not including the rental loss. • Eliminated when AGI exceeds $150,000

  11. LO #2 – Passive Activities • Disposition of a passive activity in a taxable transaction. • Passive losses are allowed against non-passive income • Suspended passive losses are permitted • Gifts and inheritance do not trigger use of suspended losses (does not meet taxable transaction criterion)

  12. LO #3 – At-Risk and PAL Rules In Conjunction • At-risk rules applied first, then passive loss rules second. • Form 6198 for each at-risk activity • Form 8582 – one for all passive activities • PAL rules do not come into play unless the loss is first allowed under the at-risk rules

  13. LO #4 – Alternative Minimum Tax (AMT) • AMT Formula • Regular taxable income • Plus exemptions and standard deduction • Plus/minus adjustment items • Plus tax preference items • Minus AMT exemption amount • Multiplied by 26% or 28% less $3,500 • Tentative AMT less regular tax • Equals AMT

  14. LO #4 – Alternative Minimum Tax (AMT) • Adjustments – limits on itemized deductions • Medical – AGI floor increased to 10% • Taxes – not allowed for AMT • Mortgage interest – must be to build, buy, or improve residence • Charity – no adjustment • Casualty and theft – no adjustment • Miscellaneous – not allowed for AMT

  15. LO #4 – Alternative Minimum Tax (AMT) • Depreciation adjustments • Real property 1987 – 1999 – 40 years life of all real property for AMT • Real property after 1998 – no AMT adjustment • Personal property 1987 -1998 – longer life and method change to 150% declining balance • Personal property after 1998 – method change to 150% declining balance for AMT

  16. LO #4 – Alternative Minimum Tax (AMT) • Other adjustments • Basis calculation for gains and losses • Incentive stock options adjustment • Adjustments from K-1s • Long-term contracts • Tax preference items – not much of an issue any longer

  17. LO #4 – Alternative Minimum Tax (AMT) • Exemption amount ** amounts could change due to law change after publication • Single $48,450 • MFJ $74,450 • MFS $37,225 • Phase-out – exemption is reduced by 25% of AMTI in excess of income limits • $112,500 single, $150,000 MFJ, $75,000 MFS

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