If you claim status as a tax law–defined real estate professional who can deduct his or her rental property losses, your time record for the year must prove that you spent
- more than one-half of your personal service time in real property trades or businesses in which you materially participate, and
- more than 750 hours of your personal and investor services time in real property trades or businesses in which you materially participate.
If you are married, either you or your spouse must individually qualify as a real estate professional. If one spouse qualifies, both spouses qualify.
Achieving real estate professional status is the first of two steps. You face one additional hurdle. To deduct tax losses on a rental, you also must prove that you materially participated in the rental activity. If you are married, you and your spouse may count your joint efforts toward passing the material participation tests.
Most of the tests for material participation are based on hours worked.
What Does This Mean to You?
In simple terms: keep a time log.
In an audit of your real estate activity, the IRS tells its examiner:
Request and closely examine the taxpayer’s documentation regarding time. The taxpayer is required under Reg. Section 1.469-5T(f)(4) to provide proof of services performed and [of] the hours attributable to those services.
If you don’t have what the IRS wants, your odds of winning your rental property tax loss deductions are slim, if that. And don’t think you can create this log after the fact. Most everyone who spends the considerable time it takes to jump through the hoops to create an after-the-fact log of hours using the IRS spreadsheets loses the deductions.