When a business is formed, it is typically intended that it will generate profit over time. The ownership group may include investors that are not involved in the day-to-day operations. They are described in the tax code as passive participants in the business (passive activity rules). For more detail on the passive activity rules and credits, see this blog from May 16, 2017 Passive activity loss? Clarity in a fuzzy world. Each business started has a risk that it may not be profitable and may eventually wind down due to mounting losses.
The passive investors that participate in these activities are not able to deduct the losses unless they have other passive income. These losses become suspended until the activity is disposed. Unlike suspended passive activity losses, previously disallowed passive activity credits are not automatically allowed when the activity is disposed of in a taxable transaction. However, for determining gain or loss from the disposition of property used in a passive activity, taxpayers may elect to increase the basis of property by the amount of unused credits disallowed under the passive activity rules. If elected, the credit is removed from the credit carryover.
This election is irrevocable and must be made by the due date, including extensions, of the return for the year of disposition. The election is made by completing Part VI of Form 8582-CR (Passive Activity Credit Limitations) or Part III of Form 8810 (Corporate Passive Activity Loss and Credit Limitations) for the year of disposition and attaching the form to the taxpayer’s tax return.
For more information, do not hesitate to contact a tax professional at Henry+Horne. For more information on how Henry+Horne can apply our decades of tax experience to your benefit, check out our Accounting Services page.
Kelly P. Lynch, CPA