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were specifically designed to limit a taxpayer’s ability to use
deductions from one activity to offset income from another
activity. These rules were designed to curtail the use of losses
generated by passive activities to offset unrelated income
generated by nonpassive activities.4 Under the section 469
passive activity loss rules, income generated from nonpassive
activities cannot be offset by deductions generated from passive
activities.
Although section 469 was designed to stop these practices,
Congress recognized that it would be inappropriate to treat
certain transactions between related taxpayers as giving rise to
one character of expense and another type of income. See H.
Conf. Rept. 99-841 (Vol. II), at II-146 to II-147 (1986), 1986-3
C.B. (Vol. 4) 1, 146-147. The House conference report, in the
4 Use of losses from one activity to offset income from
another drove the “tax shelter industry” of the 1980’s.
Transactions were fashioned to generate losses through the use of
accelerated depreciation, interest, and other deductions that
were used to offset the taxpayer’s other income such as salary,
interest, and dividends. The passive activity loss rules in sec.
469 were designed to curtail the use of tax shelters by
restricting a taxpayer’s ability to use the losses sustained in
the operation of a trade or business to shelter unrelated income,
unless the taxpayer materially participated in the operation of
that trade or business. See Schaefer v. Commissioner, 105 T.C.
227, 230 (1995) (“Section 469 represents the congressional
response to the widespread use of tax shelters by some taxpayers
to avoid paying tax on unrelated income.”); S. Rept. 99-313, at
716 (1986), 1986-3 C.B. (Vol. 3) 1, 716. We note that in the
present case, petitioners reported substantial taxable income
from their activities and do not appear to be engaged in any tax
sheltering activity.
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