If you're working in real estate as a licensed real estate agent and you don't claim the Real Estate Professional status on your tax return, you could be paying more tax than you need to. In fact, if you also own rental real estate and aren't claiming Real Estate Professional status, you're almost certainly paying more tax than you need to.
Why? Because Real Estate Professional status gives you access to some incredible tax deductions. You may even find that you're able to eliminate most if not all tax.
In order to qualify though, there are some very specific tests you need to meet. The first test is ownership. You've got to own a business that carries out real estate activities. So if you're a licensed real estate agent, being paid via a 1099, you're considered self-employed, and that makes you a real estate professional. If you aren't licensed, but you own 5 percent or more of a real estate business, you're a real estate professional.
Another way to qualify is the "majority of time" test. This 2-part test applies to people who work full-time or part time and also do real estate activities. You've got to spend more time in real estate activities than you do at your other job to qualify here (that's Part 1), and you must meet a minimum time requirement of 750 hours per year (that's Part 2). That works out to just over 2 hours per day every single day of the year. If you don't have a full or part-time job, it's easier; you just need to meet the 750 hours/year requirement.
Pretty much anything that can be considered "material participation" in real estate is considered a qualified real estate activity. That includes things like buying and selling properties, renting or leasing properties, construction, deconstruction and remodeling, property management, including setting rents, approving major expenses and qualifying new tenants, converting properties and operating real estate rentals.
If you can pass the test, here's the prize: a truly fantastic tax deduction. Normally you can deduct real estate losses of up to $25,000 against your other income, so long as you make less than $100,000. That deduction phases out as your income moves between $100,000 and $150,000, and once you top $150,000, you lose the deduction entirely. Your losses don't disappear, but they are suspended until you sell the property. A real estate professional, on the other hand, can deduct unlimited paper losses against his or her income each year.
In order to truly maximize this powerful tax tool, you've got to own some rental property. Imagine that -- you can make money by owning real estate and get to take advantage of paper losses, perfectly legally.
Let's talk about one more huge advantage of real estate investments. That's the phantom expense of depreciation. Most of you know about how depreciation works. Even though real estate tends to go up in value over the long term, the government gives you a huge break when it comes to your real estate. In fact, the government says, "You poor thing! You have real estate. We think it'll be worth nothing in 27.5 years if it's residential or 39 years if it's commercial."
Depreciation is the number one reason why real estate is such a great tax reduction strategy. This is a deduction that you get to take and it doesn't cost you a dime. In fact, depreciation is the reason why you can have a property making you money, month after month; money you put in your pocket … and yet still show a loss on your tax return.
You can even take depreciation a step further. Personal property items (things like refrigerators, ceiling fans, furnaces, water heaters, air conditioning units, etc.), within your real estate property can be depreciated even faster, which means a bigger deduction. This one takes a bit of extra work, though -- you'll need a proper Cost Segregation Study beforehand.
The more you know, the more you can deduct. These are just two ways to save money, but there are thousands more. If you like to learn more, sign up at this website. It's free, and gets you access to many extras. This month's Special Report is entitled, "Thirty-One Tax Law Changes You Need to Know for 2007" and it's available free to everyone who signs up.