Client Profile
| Industry | Property Management + Rental Portfolio |
| S-Corp Revenue | $420,000 (property management fees) |
| Rental Portfolio | 6 Properties (combined basis: $3.2M) |
| State | Indiana |
| Key Metric | 2,100+ hours in real estate activities |
| Annual Tax Savings | $118,000 |
The Problem
This client owned a property management S-Corp managing 45 residential units for other investors, generating $420,000 in annual revenue. The client also personally owned 6 rental properties with a combined depreciable basis of $3.2 million. The prior CPA treated all rental losses as passive.
With $420,000 in active income and $280,000 in suspended passive rental losses, the client was sitting on deductions that could not offset the S-Corp income.
AE Tax Strategy
1. Real Estate Professional Status Under IRC §469(c)(7) and Treas. Reg. §1.469-9(g)
The client logged over 2,100 hours in real estate activities (1,400+ in the property management S-Corp plus 700+ managing personal rentals). Under Treas. Reg. §1.469-9(g), we elected to treat all rental activities as a single activity.
2. Grouping Election Under IRC §469
We filed the grouping election to aggregate all six rental properties into a single activity.
3. Cost Segregation Under IRC §168
Cost segregation studies on all six properties ($3.2M combined basis) reclassified approximately $960,000 to accelerated periods. With bonus depreciation, first-year depreciation increased by $740,000. Combined with REPS status, the entire loss flowed through as non-passive, offsetting the $420,000 in S-Corp income.
Before & After Comparison
| Category | Before | After | Benefit |
|---|---|---|---|
| Rental Loss Classification | Passive (suspended) | Non-Passive (usable) | Losses unlocked |
| Annual Depreciation | $116,000 | $856,000 | +$740,000 |
| Active Income Offset | $0 | $420,000 | $420,000 |
| Tax Savings | $0 | $118,000 | $118,000 |
Key Takeaways
- Property management business owners often qualify for REPS status automatically due to hours spent in real property trades.
- The grouping election under Treas. Reg. §1.469-9(g) is essential for owners with multiple rentals to aggregate hours and losses.
- Cost segregation combined with REPS status creates massive non-passive losses that offset any type of income.
- Contemporaneous time logs are the single most important piece of documentation for defending REPS status in an IRS examination.