In the case of Okonkwo v. Commissioner, TC Memo 2015-181, the taxpayer argued that he should be able to claim a loss on the rental of a property to his daughter at a below market rental rate because their homeowner’s insurance policy required the property to be occupied.
General IRC §280A(a) prohibits a deduction related to a residence used for personal purposes even if otherwise allowed as a rental or business deduction, subject to certain specific exceptions. Personal use is defined later in that at section at IRC §280A(d)(2) which provides:
(2) Personal use of unit
For purposes of this section, the taxpayer shall be deemed to have used a dwelling unit for personal purposes for a day if, for any part of such day, the unit is used -
(A) for personal purposes by the taxpayer or any other person who has an interest in such unit, or by any member of the family (as defined in section 267(c)(4)) of the taxpayer or such other person;
(B) by any individual who uses the unit under an arrangement which enables the taxpayer to use some other dwelling unit (whether or not a rental is charged for the use of such other unit); or
(C) by any individual (other than an employee with respect to whose use section 119 applies), unless for such day the dwelling unit is rented for a rental which, under the facts and circumstances, is fair rental.
As well, the “vacation home” rules impose a 14 day test on such personal use which will trigger found at IRC §280A(d)(1):
(1) In general
For purposes of this section, a taxpayer uses a dwelling unit during the taxable year as a residence if he uses such unit (or portion thereof) for personal purposes for a number of days which exceeds the greater of -
(A) 14 days, or
(B) 10 percent of the number of days during such year for which such unit is rented at a fair rental.
For purposes of subparagraph (B), a unit shall not be treated as rented at a fair rental for any day for which it is used for personal purposes.
The Tax Court found that these provisions applied regardless of what the taxpayer’s insurance policy required. As it noted:
Petitioners, however, contend that they are real estate developers and rented the Woodland Hills house to their daughter because their homeowners policy required that the house be occupied. Petitioners, in essence, contend that section 280A is inapplicable.
Petitioners' daughter's use of the Woodland Hills house was personal and is attributed to petitioners. See secs. 267(c)(4), 280A(d)(1) and (2)(A). Because their daughter did not pay fair rental, they do not qualify for an exception to this [*6] rule. See sec. 280A(d)(2)(C). Accordingly, deductions relating to the Woodland Hills house are limited to the extent of rental income.3 See sec. 280A(c)(5).
The taxpayers did escape being hit with a 20% substantial understatement penalty under IRC §6662(d)(1)(A) because they had been sought and followed the advice of their CPA who had extensive real estate experience. Having provided that person with all relevant information, the taxpayers were found to have reasonably relied in good faith on that advice and thus were excused from being penalized for that position.