Like every profession, being recognized as a real estate professional by the Internal Revenue Service (IRS) opens the door to a multitude of tax obligations and opportunities specifically designed for taxpayers operating in the real estate vertical. The IRS has established very clear guidelines detailing the criteria individuals must meet to qualify as a real estate professional, emphasizing time commitment and active participation in the field.
Real estate professionals who meet the IRS requirements have access to several tax advantages that can defray overall financial burden and potentially impact their bottom line significantly. Understanding the mandated requirements, qualifications, and implications can play a critical role for individuals considering going into the field. Knowing what to expect from a tax perspective can help ensure the benefits outweigh the burden and can also help you maximize credits and deductions you may be entitled to in the profession.
Two Main IRS Criteria You Must Meet as a Real Estate Professional
Many taxpayers assume that earning the real estate designation simply means getting licensure in their specific state. However, this is not the case. The designation demands involvement and time commitment in real estate activities. Earning the designation of a qualified real estate professional in the United States requires meeting specific IRS criteria.
According to the Internal Revenue Service, you must meet two main mandates to be considered a real estate professional. The first requirement is that more than half of the personal services you perform in all trades or businesses during the tax year must be performed in real property trades or businesses. Put simply: The majority of your time should be spent performing real-estate-related transactions and activities, such as buying, selling, renting, leasing, and/or managing properties.
The IRS also requires real estate professionals to meet a minimum number of hours spent in the field. The second requirement mandates that real estate professionals must perform more than 750 hours of services during the tax year in real property trades or businesses in which the individual materially participates. Material participation is “an income-producing activity that is, generally speaking, an activity that is regular, continuous, and substantial.”
Do You Meet the IRS Criteria as a Real Estate Professional?
If you meet both mandatory IRS requirements for a real estate professional, you can elect to have the designation for tax purposes. This designation allows you to qualify for certain deductions that are not available to taxpayers outside of the field. For example, as a real estate professional, you can offset your rental income against losses from your real estate activities without being subject to the passive activity loss rules. This means that losses from your real estate ventures can directly reduce your overall taxable income.
Consult With a Qualified Tax Professional or CPA
Of course, as with most things tax-related, documentation isn’t just important — it’s everything. When claiming the designation, you should also maintain accurate documents and records to substantiate your claim as a real estate professional in the event of an IRS audit. Additionally, it's always advisable to consult with a qualified tax professional or CPA to ensure that you meet the IRS requirements for real estate professional status and to properly handle your tax filings.