The short answer
A passive activity loss is the amount by which your deductions from passive activities exceed your income from them for the year, and section 469 does not let you deduct it against wages, interest or other nonpassive income. Rental activity is passive by default whether or not you work at it, so most landlords meet this rule. A disallowed loss is not lost: it carries forward and is released when you dispose of your entire interest in a fully taxable sale.
At a glance
| Rental default | Every rental activity is passive unless you qualify as a real estate professional |
|---|---|
| Special allowance | Up to $25,000 of rental loss against other income if you actively participate |
| Phase-out | Allowance falls by 50 cents per dollar of modified AGI over $100,000, gone at $150,000 |
| Release | Suspended losses are freed on a fully taxable disposition of your entire interest to an unrelated buyer |
The term comes from section 469, which treats rentals as passive regardless of your effort
Section 469(d)(1) defines the passive activity loss as the amount by which aggregate losses from all passive activities exceed aggregate income from them. Section 469(a) disallows that loss for individuals, estates, trusts, closely held C corporations and personal service corporations, and section 469(b) carries the disallowed amount into the next year as a deduction of the same activity.
A passive activity is a trade or business in which you do not materially participate, and section 469(c)(2) adds every rental activity, with section 469(c)(4) saying material participation does not matter for rentals. The only escape for rental real estate is the real estate professional rule in section 469(c)(7).
Section 469(i) carves out a $25,000 allowance for rental real estate in which you actively participate, a lighter standard than material participation that IRS Publication 925 says includes approving tenants, setting rental terms and approving expenditures. You must own at least 10% by value to actively participate.
Worked example: the allowance shrinks fast once income passes $100,000
Hypothetical: you are single, earn $120,000 in salary, actively participate in your rentals and have a $31,000 rental loss. Section 469(i)(3) reduces the $25,000 allowance by 50% of modified AGI above $100,000, so the $20,000 excess cuts it by $10,000 to $15,000. You deduct $15,000 and carry $16,000 forward, which is the same result Publication 925 shows in its own example.
At $150,000 of modified AGI the allowance is zero, and every dollar of rental loss is suspended. Married people filing separately who lived apart all year get half the figures: $12,500 of allowance phasing out from $50,000. Run your own numbers with your CPA.
Where it bites: a 1031 exchange does not release suspended losses
Section 469(g)(1)(A) frees suspended losses only when you dispose of your entire interest and all gain or loss realized is recognized. Publication 925 adds that the buyer must not be related to you. An exchange defers gain by design, so the losses stay suspended and follow you; the mechanics are on suspended passive losses in a 1031 exchange.
Two other events matter. On an installment sale, section 469(g)(3) releases losses in proportion to the gain recognized each year. At death, section 469(g)(2) allows the losses only to the extent they exceed the basis step-up the heir receives.
Replacement property can generate new passive losses of its own. A Delaware Statutory Trust interest is a rental, so DST losses and sale proceeds sit inside the same passive basket, and the landlord's guide to passive loss rules covers grouping and carryforward tracking on Form 8582.
Related questions
Do suspended passive losses expire?
No. Section 469(b) carries them forward indefinitely as deductions of the same activity, usable against future passive income or released on a fully taxable disposition of the whole activity.
Does boot in an exchange free up some of my losses?
Boot is recognized gain, and Publication 925 treats gain on property used in a passive activity as passive income, which suspended losses can offset. The full release under section 469(g) still requires a disposition in which all realized gain is recognized.
Is active participation the same as material participation?
No. Active participation is the lighter test for the $25,000 allowance, while material participation uses the hour-based tests in the regulations and matters for real estate professionals and businesses.
Sources
Checked against these publications on September 30, 2026. Rules and figures change; confirm the current version with your CPA or attorney before you act. This page is general information, not tax or legal advice.