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HEADS I WIN, TAILS YOU LOSE
August 21, 2002
The IRS has issued new final regulations on “self-charged” items under the passive loss rules. The new regulations inflict tax pain on many taxpayers with passive activities, but they provide limited relief for some.
A “self-charged” item occurs when a taxpayer has a transaction with an entity that she owns which generates passive losses. For example, if a taxpayer loans money to an S corporation which generates passive activity losses for her, the interest income received would normally be non-passive, but the interest expense paid by the S corporation would pass to her tax return as a passive loss on her K-1. Such “self-charged” interest is allowed to be offset against the passive loss caused by the interest deduction.
The new rules allow taxpayers with two identically-owned pass-through entities to use the self-charged rules. If the taxpayer owns 100% of two S corporations, interest paid by one to the other could be treated as “self-charged.” If the ownership is not identical, however – if even 1% of one of the S corporations is held by her son – the interest is not treated as self-charged; the interest income is 99% offset by the interest expense economically, but not at all on the tax return.
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Joe Kristan writes the Tax Update items, and any opinions expressed or implied are not neccesarily shared by anyone else at Roth & Company, P.C. Address questions or comments on Tax Updates to
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