Generally, losses from passive activities that exceed the income from passive activities are disallowed for the current year. Unused passive losses are carried forward to all future years. A similar rule applies to credits from passive activities.

Passive activities are trade or business activities in which you do not materially participate. In general, all rental activities are passive activities, even if you do materially participate. You materially participate in an activity if you are involved in the operation of the activity on a regular, continuous, and substantial basis. Rental real estate activities are not passive activities if you are a real estate professional and meet certain requirements. Guidelines for determining material participation and the rules for a real estate professional can be found in Publication 925, Passive Activity and At–Risk Rules.

A special rule applies for rental real estate activities in which you actively participate. The rules for active participation are different from those for material participation and are also discussed in Publication 925.

Use Form 8582 (PDF), Passive Activity Loss Limitations, to summarize income and losses from passive activities and to compute the deductible losses. Use Form 8582CR (PDF) to report passive activity credit limitations.

Generally, you may deduct in full any previously disallowed passive activity loss in the year you dispose of your entire interest in the activity. In contrast, you may not claim unused passive activity credits upon disposition of your entire interest in the activity. However, you may elect to increase the basis of the credit property in an amount equal to the portion of the unused credit that previously reduced the basis of the credit property.