How do I have suspended passive losses if my status is "nonpassive" and how do I get them released?

[Jon Seagull]

I'll try to keep the background info short, but I don't want to leave out anything important.

I'm a long term homeowner in Indiana. In 2020 I bought a second home in Florida, in preparation of retirement. 

In 2021, I rented the house out for 3 months (Jan - Mar), and had some personal use that year as well (over the 14 day, 10% limit). In 2021, my rental income was less than my expenses, so my net income on the rental was $0. My AGI in 2021 was too high to claim any of the Special $25,000 Rental Real Estate Loss Allowance, so I have some Passive Losses Carryover listed on a 2021 Schedule E worksheet, line L for Expenses and line M for depreciation. But the worksheet just above this one lists my Passive Status as "Nonpassive". I believe this is because I had some personal use of the house the same year. How do I have passive losses if the activity is nonpassive?

Fast forward to this year. Again, I rented the house out for 3 months (Jan - Mar) and again more expenses than income. But this year I sold the house in Indiana (8/20/22), made Florida my domicile state, and will convert the rental property in Florida to my main residence. My AGI in 2022 is between $100,000 and $150,000 so I should be able to capitalize on the Special $25,000 Rental Real Estate Loss Allowance, I believe.

Questions:

1) When can I release the suspended passive losses from 2021, and 2022? I know converting to personal use isn't enough to trigger, but when I do sell the house several years from now, it will be tax exempt, won't it?

2) I don't understand why I'm accumulating passive losses if my status is nonpassive.

3) I'm using desktop version of TT H&B. On the "Do any of These Situations Apply to This Property?" page, I tick the box for "I have passive activity real estate losses carried over from a prior year". Then on the next page I enter Sch E regular tax Carryover and AMT Carryover amounts, which I pulled from the 2021 Sch E worksheets mentioned before (and entered as negative numbers). When I did that, my 2022 forms looked like the carryover amounts were credited in two places. I wish I could post a picture, but I'll try and explain. On this 2021 Schedule E worksheet (Carryforward to 2022 Smart Worksheet) I have numbers on Line L (Vacation Home operating expenses) and Line M (Vacation Home Depreciation), but I DO NOT have anything on Line G (Schedule E suspended loss). So, when it asks me for my 2022 taxes if I have any "passive loss carryovers for this rental income which are reported on Schedule E", is the answer YES (because I have numbers on Line L and M), or NO (because line G is blank)?

4) Why am I not able to offset some of my losses from last year and this year since my AGI is under $150,000.

I think I have some flexibility in my "when did the property change from rental to residential" date. If I use the day after the last rental day (April 1) I wouldn't have any personal use dates during the period it was a rental. But if I use 8/20/22, the date I sold my house in Indiana became a Florida resident, my rental expenses would be higher, but I would have some personal use during these 8 months. But perhaps taking the first option would get me out of this passive vs. nonpassive conundrum.

Thanks in advance for any input.

[Jon Seagull]

Just a follow up to my tl;dr post above. This is my main question. From this 2021 Schedule E worksheet...

For my 2022 taxes, is this the correct place to enter the number from Line L and M above?

[MonikaK1]

If you used TurboTax to file your tax return last year, any Passive Loss Carryovers would appear on Schedule E Wks - Carryforward to 2022 Smart Worksheet (note this is a TurboTax supplemental schedule and not an IRS form). This appears to be what you have posted above.

If entering the amounts from this worksheet in the Passive Loss Carryover screen posted above results in a double credit, then TurboTax is picking them up somewhere else. Preview all of the forms TurboTax has prepared from your entries to confirm how they are being reported. See here for details. 

There are two kinds of passive activities:

• Trade or business activities in which you don’t materially participate during the year.
• Rental activities, even if you do materially participate in them unless you’re a real estate professional.

If you or your spouse actively participated in a passive rental real estate activity, the amount of the passive activity loss that’s disallowed is decreased and you therefore can deduct up to $25,000 of loss from the activity from your nonpassive income. This special allowance is an exception to the general rule disallowing the passive activity loss. Similarly, you can offset credits from the activity against the tax on up to $25,000 of nonpassive income after taking into account any losses allowed under this exception.

You can only deduct suspended passive-activity losses in 2 situations:

    Against passive-activity income

    When you dispose of the passive activity in a fully taxable transaction to an unrelated party

When you converted the rental property into a personal home, and the rental home had suspended passive-activity losses, you can continue to deduct the suspended passive-activity losses from other passive income. If you have no other passive income, the suspended losses remain suspended until you dispose of the passive activity in a fully taxable transaction to an unrelated party.

However, if you are able to exclude the gain on the sale of the personal residence, then you still would not be able to use the suspended losses unless you had other passive activity income.

Please see IRS Publication 925, Passive Activity and At-Risk Rules, for more information.

See also this thread and this one for other discussions of these issues.