Taxpayer's Logs Not Found to Be Credible, Not Qualified as Real Estate Professional

In the case of Escalante v. Commissioner, TC Summary Opinion 2015-47, a taxpayer attempting to claim real estate professional status presented records to show he met the real estate professional status so that his losses could be claimed.

The taxpayer had taken a leave of absence from teaching from July 2005 through July 2006.  During this period he spent more time working in real estate.

The taxpayers had a number of rental properties in California and Nevada.  He also spent time each year teaching.

His logs for the year claimed the following hours for each activity:

The taxpayer’s 2005 hours in real were noted on another page as 2,540 hours, vs. the 4,000 hours shown on the first page.  The taxpayer indicated that the 4,000 represented the hours he had available for real estate while the 2,540 were those of actual activity.

If these hours are taken at face value the taxpayer would be a real estate professional for each year, having spent more than 750 hours in real estate activities each year and also having spent more hours in real estate activities than the other activities in which he materially participated in.

But the Court didn’t take these hours at face value, as the Court noted a number of issues.

First, the teaching hours were a straight 6 hours for each day he worked as a teacher, the minimum required for compensation purposes under his contract.  It failed to record any time spent “off-site” for activities such as preparing for courses, independent reading, faculty meetings, etc.

The Court noted:

We understand from petitioner's testimony that the total of these "off-site" hours might be considerably less than the hours for which he was paid, but his failure to record this time in the logs undermines their reliability. We are reluctant to rely upon the logs to establish the total amount of time petitioner spent as a teacher; and absent that information, we cannot determine whether petitioner spent more time in his real estate activity than he did as a teacher for any of the years in issue.

Note that this failure would have been enough by itself to doom the status—but the Court noted problems with his real estate time log as well.

The Court did not find his claimed time for various items to be believable.  As the Court noted:

In addition to the obvious understatement in the logs of hours petitioner spent as a teacher for each year in issue, the reliability of the logs is also called into question by what appear to be exaggerated amounts of time shown for relatively routine, recurring events, such as check writing. During petitioner's cross-examination respondent's counsel pointed out numerous instances of entries showing one to several hours for such activities. The Court does not exist in a vacuum, and we cannot divorce ourselves from our own experiences of daily life, such as the time it takes to review a mortgage statement and/or bill and pay the item by check. We reject petitioner's claim that the dozens, if not hundreds, of checks that he wrote over the years in issue each took at least an hour to prepare.

Finally, the Court cited one example of what it stated were many issues that the IRS’s cross-examination of the taxpayer brought out:

Other entries pointed out by respondent's counsel during petitioner's cross-examination add to our concerns. Rather than point out each one, however, suffice it to note the following exchange during petitioner's cross-examination after respondent's counsel totaled the hours shown in the logs for time spent on various activities on a particular day:

MR. RICHMOND [respondent's counsel]: And on November 30th [2007], you worked a 25-hour day on your rental properties?

WITNESS [petitioner]: Well, I guess it was a big day.

MR. RICHMOND: I guess it was.

More than 24 hours of activities are shown on the logs for other days as well. Furthermore, some of the entries in the logs are attributable to services performed by Mrs. Escalante; petitioner now concedes that her activities should not be taken into account. See sec. 469(c)(7)(B)(2). Finally, other entries in the logs are simply improbable given the activities described and the locations of petitioner's various properties where the activities are shown to have occurred.

Thus, the Court held that the rentals remained passive activities since the taxpayer could now show he met the requirements to be treated as a real estate professional.