lossespassive

Lossespassive, or passive activity losses (PALs), refer to losses generated by passive activities under U.S. federal tax rules, typically described in IRC Section 469. These losses generally cannot be deducted against wages, salaries, or other active income. Instead, PALs can offset income from other passive activities, and any excess is carried forward to future years.

Passive activities include most businesses in which the taxpayer does not materially participate and most rental activities. Material participation tests determine whether the taxpayer is sufficiently active; thresholds include hours-based and other participation criteria. Rental real estate can be treated as passive even if the taxpayer participates, with certain real estate professionals exceptions allowing active treatment if specific requirements are met.

Limitations and treatment: PALs are subject to at-risk and basis limitations, which limit the amount of loss a taxpayer can claim. Generally, unused PALs are carried forward to offset future passive income. There is a special current-year deduction for rental real estate activities of up to $25,000 for individuals who actively participate, phased out as adjusted gross income rises and eliminated entirely at higher income levels. PALs cannot offset significant non-passive income unless offset rules or dispositional events apply. When a passive activity is disposed of, the remaining suspended PALs may be deductible in full in the year of disposition, subject to other limitations.

Practical considerations: Taxpayers must track participation, basis, and at-risk amounts to determine PAL eligibility. Planning around PALs can influence investment structure and participation levels, including whether to pursue active involvement or to defer losses until disposition of the activity.