Converted accumulated NOLs to PALs

Tax888q

I'm a newer tax preparer, so any input would be greatly appreciated.
Has anyone ever converted accumulated NOLs to PALs on a current return instead of
amending prior-year returns?
My client is a Form 1120 filer with only rental income. They’ve been reporting the activity as
an active trade or business and have generated NOLs for the past seven years. Now, they’re
planning to sell some of the properties at a loss. Since only 80% of the NOL can be used,
there will still be tax due due to depreciation recapture.
I’ve heard that some tax professionals have reclassified NOLs as PALs when taking over a
new client from a previous preparer who treated the activity as non-passive when it should
have been passive.
In this case, the client has not been actively participating in the rental activity—possibly for
the past five years—so I believe the income should have been treated as passive. I ran the
numbers, and if the activity had been reported as passive from the beginning, the
accumulated PAL would be about equal to the current accumulated NOL.
Has anyone successfully made this type of change without triggering audit issues?

sjrcpa

I've never done this nor thought of doing it.

But, if the business of the corporation is rental, isn't that an active trade or business for the corporation?

The more I know the more I don’t know.

TaxGuyBill

@Tax888q wrote:

Has anyone ever converted accumulated NOLs to PALs on a current return instead of
amending prior-year returns?

they’re planning to sell some of the properties at a loss ... there will still be tax due due to depreciation recapture.

I'm not aware of any provision to do that without amending. The prior returns stated they were NOLs, and if that is wrong, I'm not aware of being able to 'fix' that on the current year return. If they were passive losses, it sounds like those returns need to be amended.

Are they just long-term rentals? Or any special situation like short-term rentals or other circumstances that make it more likely to be non-passive (although Material Participation may still be required)?

If they were truly sold at a tax-loss (sold for less than the Adjusted Basis), there is no tax. In tax terminology, being sold for more than the Adjusted Basis is still a "gain", even if the selling price was less than the original purchase price.

It is a bit unusual to own a property for seven years and not being able to sell it for more than the purchase price. Is it being sold to a related party or some other circumstance being sold at less than Fair Market Value?

BobKamman

"It is a bit unusual to own a property for seven years and not being able to sell it for more than the purchase price."

Reminds me of the parable of the three blind men describing an elephant, based only on touch. I've been reading news articles lately about how landlords are losing money in NYC because of rent controls, and in Chicago because of derelict buildings (financed by major banks) taken over by undocumented immigrants and then raided by ICE.

I know, I read too much, I should ignore the news about the Senator with an $8 million IRS tax lien or the peacemaker President being played again by Putin. But I try to keep in mind that my clients are not typical and may have little or nothing in common with your clients, who are not typical either. What makes this country great is diversity, equity and inclusion. Now I will go wash my mouth out.

Tax888q

Thank you!

Converted accumulated NOLs to PALs

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