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in which the taxpayer materially participates to be treated as
income not from a passive activity; this is sometimes referred to
as the “self-rental rule” or the “recharacterization rule”. Sec.
469(c)(2); sec. 1.469-2(f)(6)(i), Income Tax Regs. In relevant
part, that regulation provides as follows:
(f)(6) Property rented to a nonpassive activity.
An amount of the taxpayer’s gross rental activity
income for the taxable year from an item of property
equal to the net rental activity income for the year
from that item of property is treated as not from a
passive activity if the property—
(i) Is rented for use in a trade or business
activity * * * in which the taxpayer materially
participates (within the meaning of § 1.469-5T)
* * * for the taxable year.
Simply put, the regulation recharacterizes a taxpayer’s rental
income from property rented for use in a trade or business in
which the taxpayer materially participates as nonpassive income
and therefore not taken into account in the computation of the
taxpayer’s passive activity loss.
A transition rule, however, allows for an exception to the
recharacterization rule. The transition rule provides that:
In applying * * * [the recharacterization rule] to a
taxpayer’s rental of an item of property, the
taxpayer’s net rental activity income * * * from the
property for any taxable year beginning after December
31, 1987, does not include the portion of the income
(if any) that is attributable to the rental of that
item of property pursuant to a written binding contract
entered into before February 19, 1988. [Sec. 1.469-
11(c)(1)(ii), Income Tax Regs.]
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Last modified: March 27, 2008