Property Never Truly Converted to Rental by Taxpayers, Losses Disallowed as Losses Incurred on Personal Use Asset

The Tax Court found a taxpayer had not managed to convert a property from personal use to being held for profit in the case of Redisch v. Commissioner, TC Memo 2015-95.

Generally under IRC §262(a) no deduction is allowed for any personal, living or family expenses, though a deduction is allowed under IRC 212(2) for “management, conservation or maintenance of property held for the production of income.”  Similarly, while IRC 165(a) allows a deduction for a loss sustained during the year (such as due to disposing of an asset), the deduction is only allowed per IRC §165(c) if it is incurred in a trade or business, in a transaction otherwise entered into for profit or arises from a casualty or theft.

In this case the issue related to expenses claimed that related to a condominium in Florida owned by the taxpayers and the loss incurred when the taxpayers disposed of  the property in 2010.  The taxpayers admitted that they had originally acquired the property for personal purposes and had used it personally spending significant time there with their daughter.

However after their daughter passed away in 2006 they ceased staying at the condominium.  Due to their daughter’s passing, the taxpayers no longer felt they could stay at that property.  Of course by the time they had come to this conclusion in 2008, the real estate market was not exactly robust.  So they decided to rent it out, hoping to generate cash in the short term and sell it for a profit later.

However neither of those wishes came to fruition.  Mr. Redisch contacted a realtor from the realty company involved in the development.  As the Court noted:

Hammock Dunes was still under development, and the realty company showed potential purchasers properties within the community, including those that were newly constructed. Mr. Redisch selected this company because most of the realtors lived within the Hammock Dunes community and he believed they would be in the best position to rent out the Porto Mar property. The realty company also operated an information center within the community that was staffed with realtors who would provide information and tours to potential buyers. Mr. Redisch testified that he entered into a one-year contract with the realty company beginning around April 2008. The Redisches intended to rent out the furnished Porto Mar property under a one-year lease that included the option to assume Mr. Redisch's golf membership. Mr. Redisch determined the monthly rental price on the basis of discussions he had with realtors that he knew and his past experience renting in the community.

The Court continued to describe the relationship with and actions of the realty company as follows:

The Redisches stopped staying at the Porto Mar property after their daughter passed away. In April 2008 they removed most of their personal belongings, but they would visit to ensure the Porto Mar property was in suitable condition for showings. The Redisches did not return in part because of the memories of spending time in the Porto Mar property with their daughter and in part because they had agreed to keep it available to the realty company to show at any time. The realty company maintained an on-call agent at all times to be available to prospective clients. The Redisches were not paid to keep the Porto Mar property available as a model, but the agents would let prospective clients know that it was available to rent. They changed one of the bedrooms into a child's room at the suggestion of the realty company to appeal to potential renters that were grandparents. The Redisches hoped that a potential buyer would decide to construct a home in Hammock Dunes and rent the Porto Mar property during construction, much as the Redisches had. The Porto Mar property was also featured in a portfolio of rental properties in the realty company's office. The Redisches did not offer any evidence to show the efforts that the realtor took to market the Porto Mar property outside Hammock Dunes.

The taxpayers received only two inquiries from potential renters during this period but both renters wanted the property under conditions that would violate the building restrictions. 

The Redisches changed their plans in June of 2009.  As the Court noted:

Because of lackluster interest in renting the Porto Mar property, the Redisches listed it for sale with a different agent in June 2009. The Redisches still hoped to rent it out but were considering other options such as selling or leasing to own because other owners in the building were losing their properties to foreclosure and they were worried about how that would affect the price of the Porto Mar property. Mr. Redisch remained in contact with the agent during 2009 to try to determine why they were not receiving offers. In December 2009 the Redisches took the Porto Mar property off the market to obtain an appraisal in order to price it more competitively. The Porto Mar property sold for $725,000 in December 2010. The furniture in the unit sold for $80,000.

The taxpayer claimed losses on Schedule E from the property in both years.  While they had originally reported the loss on the sale of the property on Schedule D, they now took the position in court that it should have been reported as an ordinary loss on the sale of the property, as it was rental.

The only real question that the Court needed to answer was whether the taxpayers had truly converted the property into a “held for profit” property or whether it was simply a personal use property that never was truly converted to “held for profit” status.  The Court concluded that the latter situation was what truly existed.

The Court started by noting that while a party may hope to make money, if that purpose was secondary to another purpose not motivated by profit.  The Court outlined three general factors that are important in determining if a residence has truly been converted to a “for profit” holding:

  • The length of time the house was occupied by the individual as his residence before placing it on the market for sale;
  • Whether the individual permanently abandoned all further personal use of the house;
  • The character of the property (recreational or otherwise);
  • Offers to rent; and
  • Offers to sell

The Court noted, though, that no single factor will be absolutely conclusive—rather the Court will look at the overall facts and circumstances of the case to see if a true conversion took place.

In this case the Court found:

After considering all of the facts and circumstances, we find that the Porto Mar property was not converted to a rental property. The Redisches used the Porto Mar property for four years before abandoning personal use of it in April 2008. Although Mr. Redisch testified that he signed a one-year agreement with a realty company to rent the Porto Mar property, he did not provide any other evidence of such an agreement. Even if the Redisches had produced the contract, Mr. Redisch stated that the efforts of the realty company to rent out the Porto Mar property were limited to featuring it in a portfolio kept in the company's office and telling prospective buyers that it was available when showing it as a model. It is unsurprising that this minimal effort yielded only minimal interest. Mr. Redisch did not testify regarding any other tactics that he attempted to employ to rent out the Porto Mar property other than getting a new real estate agent. Mr. Redisch also did not provide any evidence, beyond a copy of a multiple listing service listing of the Porto Mar property, of the actions taken by the second agent to rent out the home.

Essentially the Court found that the taxpayers were simply getting rid of a personal asset they no longer wanted and while they had listed the property for rental, they didn’t provide evidence that they had been actively pursuing that use—instead they seem to have just let the realtors take very minimal actions and hope that a tenant would simply drop into the situation.