For more information about personal service corporations, see Regulations section 1.441-3(c).

An activity is not a rental activity if:

If the corporation meets any of the five exceptions listed above, the corporation's rental of the property is not a rental activity. The corporation then must determine:

To report income, deductions, losses, or credits from a trade or business activity in which the corporation did not materially participate, see Trade or business activities without material participation on page 3.

If the corporation meets any of the five exceptions listed above and the activity is a trade or business activity in which the corporation materially participated, report any income, deduction, loss, or credit from the activity on the forms or schedules normally used.

If the rental activity did not meet any of the five exceptions, it generally is a passive activity. Special rules apply if the corporation conducted the rental activity through a publicly traded partnership (PTP) or if any of the rules described under Recharacterization of Passive Income on page 5 apply. See PAL rules for partners in PTPs on page 9.

If none of the special rules apply, use Worksheets 1 and 2 on page 6 to determine the amount to enter in Part I of Form 8810 for each passive rental activity. If the corporation has credits from passive rental activities, use Worksheet 5 on page 9 to figure the amount to enter in Part II of Form 8810.

Participation.   For purposes of the material participation tests listed below, participation generally includes any work the individual did (without regard to the capacity in which the individual did it) in connection with an activity in which the corporation owned an interest at the time the individual did the work.

  Work is not treated as participation, however, if the work is not work that an owner of that type of activity would customarily do, and if one of the individual's main reasons for doing the work is to avoid the disallowance of losses or credits from the activity under the passive activity loss and credit rules.

Proof of participation.   Participation in an activity can be proved by any reasonable means. Contemporaneous daily time reports, logs, or similar documents are not required if participation can be established by other reasonable means. Reasonable means for this purpose may include, but are not limited to, the identification of services performed over a period of time and the approximate number of hours spent performing the services during that period, based on appointment books, calendars, or narrative summaries.

  

Tests for investors.   Work done as an investor in an activity is not treated as participation unless the individual was directly involved in the day-to-day management or operations of the activity. For purposes of this test, work done as an investor includes the following activities.

  If the individual is married for the tax year, the individual's participation in an activity includes any participation in the activity during the tax year by that individual's spouse, whether or not the spouse owned any interest in the activity and whether or not the individual and spouse file a joint return for the tax year.

Tests for individuals.   An individual would materially participate in an activity of the corporation if one or more of the following tests are satisfied.

Special rules for limited partners.   Generally, a limited partner cannot materially participate in an activity. However, the corporation is considered to materially participate in an activity in which it holds a limited partner interest if one or more individuals (each of whom would materially participate in the activity under test 1, 5, or 6, on page 3, for the tax year if the corporation's activity were the individual's activity) directly or indirectly own more than 50% (by value) of the corporation's outstanding stock.

  The corporation is not treated as a limited partner, however, if the corporation was a general partner in the partnership at all times during the partnership's tax year ending with or within the corporation's tax year (or, if shorter, during the portion of the partnership's tax year in which the corporation directly or indirectly owned a limited partner interest).

  A limited partner's share of an electing large partnership's taxable income or loss and credits (including general business credits) from all trade or business and rental activities is treated as income or loss from the conduct of a single passive trade or business activity.

Consolidated groups.   See Regulations section 1.469-1(h)(4) for rules for determining whether a consolidated group materially or significantly participates.

Limitation on grouping certain activities.   The following activities cannot be grouped together.

Activities conducted through partnerships and other C corporations subject to section 469.   Once a partnership or corporation determines its activities under these rules, a partner or shareholder can use these rules to group those activities with:

  A partner or shareholder cannot treat as separate activities those activities grouped together by the partnership or corporation.

Certain “self-charged” interest income or expense can be treated as passive activity gross income or passive activity deductions if the loan proceeds are used in a passive activity. Generally, self-charged interest income and expense result from loans between the corporation and a partnership in which the corporation had a direct or indirect ownership interest. It also may result from loans between one partnership and another if each owner in the borrowing entity has the same proportional ownership interest in the lending entity. The self-charged interest rules do not apply to the corporation's partnership interest if the partnership made an election under Regulations section 1.469-7(g) to avoid the application of these rules. See Regulations section 1.469-7 for details.

Passive activity income includes all income from passive activities, including (with certain exceptions described in Temporary Regulations section 1.469-2T(c)(2) and Regulations section 1.469-2(c)(2)) gain from the disposition of an interest in a passive activity or property used in a passive activity at the time of the disposition.

Passive activity income does not include the following.

Passive activity deductions include all deductions from activities that are passive activities for the current tax year and all deductions from passive activities that were disallowed under the PAL rules in prior tax years and carried forward to the current tax year under section 469(b). See Regulations section 1.469-1(f)(4).

Passive activity deductions include losses from dispositions of property used in a passive activity at the time of the disposition and losses from a disposition of less than an entire interest in a passive activity. See Dispositions, below, for the treatment of losses upon certain dispositions of an entire interest in an activity.

Passive activity deductions do not include the following.

Gains and losses from the disposition of less than an entire interest in an activity are treated as part of the net income or net loss from the activity for the current year.

If the corporation disposed of its entire interest in a passive activity or a former passive activity to an unrelated party in a fully taxable transaction during the tax year, the losses allocable to the activity for the year are not limited by the PAL rules. A fully taxable transaction is a transaction in which all the realized gain or loss is recognized.

If the corporation is using the installment method to report this kind of disposition, figure the loss for the current year that is not limited by the PAL rules by multiplying the corporation's overall loss (which does not include losses allowed in prior years) by the following fraction.

Unallowed passive activity credits, unlike unallowed PALs, are not allowable when the corporation disposes of its interest in an activity. However, the corporation can elect to increase the basis of the credit property by the amount of the original basis reduction of the property to the extent that the credit has not been allowed under the PAL rules. Unallowed passive activity credits that are not used to increase the basis of the credit property are carried forward until they are allowed. To make the election, complete Part III of Form 8810. No basis adjustment can be elected on a partial disposition of the corporation's interest in a passive activity.

A partner in a PTP is not treated as having disposed of an entire interest in an activity of a PTP until there is an entire disposition of the partner's interest in the PTP.

When the corporation completely disposes of an entire interest in a passive activity or a former passive activity, there may be net income or loss and prior year unallowed losses from the activity. All the income, gains, deductions, and losses are reported on the forms and schedules normally used.

Combine all income, gains, deductions, and losses (including any prior year unallowed losses) from the activity for the tax year to see if the corporation has an overall gain or loss.

If the corporation has an overall gain from a passive activity and also has other passive activities to report on Form 8810, include the income, gains, deductions, and losses (including prior year unallowed losses) on Worksheet 1 on page 6. If this is the corporation's only passive activity or a former passive activity, report the income, gains, deductions, and losses (including prior year unallowed losses) on the forms and schedules normally used, but do not enter them on the worksheets or on Form 8810.

If the corporation has an overall loss when combining all income, gains, deductions, and losses (including any prior year unallowed losses) from the activity, report all the income, gains, deductions, and losses on the forms and schedules normally used, but do not enter them on the worksheets or on Form 8810.

If line 1d or 3 shows net income or zero, all the deductions and losses are allowed including any prior year unallowed losses entered on line 1c. Enter the deductions on the appropriate lines of Form 1120, U.S. Corporation Income Tax Return, and any losses from Form 4797 or Schedule D (Form 1120) on that form or schedule, if applicable, including any prior year unallowed losses that are properly entered on those forms.

If the prior year unallowed losses include deductions that would have been reported on page 1 of Form 1120 instead of on Form 4797 or Schedule D (Form 1120), include the prior year unallowed losses on the appropriate line along with any current year deduction or loss from that line.

Example.   The corporation had $1,000 of deductions for current year repairs and maintenance and $500 of deductions for prior year unallowed repairs and maintenance. Enter $1,500 as the deduction for repairs and maintenance allowed from passive activities on the proper line.

Closely held corporations can offset the loss, if any, on line 1d with net active income. Net active income is the corporation's taxable income for the tax year, determined without regard to the following items.

If the corporation disposed of its entire interest in a passive activity to an unrelated party in a fully taxable transaction, figure net active income by taking into account an overall loss from that activity only to the extent it exceeds overall gain from all other passive activities (the gain, if any, shown on line 1d of Form 8810).

If there is an overall loss from all other passive activities (line 1d of Form 8810 is a loss), figure net active income by taking into account all of the overall loss from that activity.

Columns (d) and (e) of Worksheet 2, on page 6, show whether an activity had an overall gain or loss.

Example.   The corporation has one passive activity. The activity has an unallowed loss of $18,000 in column (c) of Worksheet 3 and the following net losses and net gain.

  Add the net losses of $20,000 and $1,000, for a total of $21,000. Divide the net loss reported on each form by the total of the net losses, and multiply the result by the unallowed loss of $18,000, as shown below.

  On Form 4797, report the $2,000 loss and the $5,000 gain. On Worksheet 4, enter the $17,143 of unallowed deductions allocated to Form 1120 in column (c) on the line for total Form 1120 deductions. Enter the $857 of unallowed Schedule D (Form 1120) losses in column (c) of line 2. Use Worksheet 4 to allocate the $17,143 to the Form 1120 deductions and show the allowed and unallowed Schedule D (Form 1120) loss.

Line 1, column (a).   Enter the current year deductions for each Form 1120 expense (lines 6a through 6l of Worksheet 1) plus any prior year unallowed Form 1120 deduction for that activity. For example, if line 6i of Worksheet 1 shows current year depreciation for the activity of $2,200, and the activity had prior year unallowed depreciation of $1,200, enter $3,400 on line 1i, column (a), of Worksheet 4.

Line 2, column (a).   Enter any Schedule D (Form 1120) losses from line 8 of Worksheet 1 plus any prior year unallowed Schedule D (Form 1120) losses for that activity.

Line 3, column (a).   Enter any Form 4797 losses from line 9 of Worksheet 1 plus any prior year unallowed Form 4797 losses for that activity.

Line 1, column (b).   Divide each of the individual Form 1120 deductions shown in column (a) by the total of all of the Form 1120 deductions in column (a) and enter the ratio for each of the deductions in column (b). The total of the ratios must equal 1.00.

Column (c).   Allocate the portion of the loss in Worksheet 3, column (c), among the Form 1120 deductions by multiplying the unallowed loss attributable to the total Form 1120 deductions by each of the ratios in column (b). Enter the portion of the unallowed loss in Worksheet 3, column (c) that is attributable to a Schedule D (Form 1120) or Form 4797 loss in column (c) of this worksheet.

Column (d).   Subtract column (c) from column (a) and enter the results in this column. Enter the deductions allowed for Form 1120 on the proper lines of Form 1120 and enter the allowed Schedule D (Form 1120) and Form 4797 losses on that form or schedule.

Section 469(k) provides that the PAL limitations must be applied separately to items from each PTP.

Losses from passive activities the corporation holds through a PTP generally can be used only to offset income or gain from passive activities of the same PTP. Any unallowed loss from a PTP passive activity is carried forward and allowed in a tax year when the corporation has passive income from the same PTP or when the corporation disposes of its entire interest in that PTP.

Income from passive activities the corporation holds through a PTP cannot be used to offset losses from passive activities the corporation holds through another PTP or losses from any other passive activities.

Column (a).   Convert any current year qualified expenditures into credits before beginning Worksheet 5. Use the following forms.

Form 3800, General Business Credit.   Enter the credits from line 3 of Form 3800 in column (a) of Worksheet 5. If the credits are from more than one activity or more than one type of credit, separate the credits by activity or type before making entries in the worksheet. For example, the corporation has a welfare-to-work credit from one passive activity and a disabled access credit from a different passive activity. Enter the welfare-to-work credit and the disabled access credit on separate lines in column (a) of Worksheet 5.

Form 5735, American Samoa Economic Development Credit.   Enter the portion of the credit attributable to passive activities from line 12 of Form 5735 in column (a) of Worksheet 5.

Form 6478, Credit for Alcohol Used as Fuel.   Enter the credits from line 7 of Form 6478 in column (a) of Worksheet 5. If the credits are from more than one activity, separate the credits by activity before making entries in the worksheet.

Form 8834, Qualified Electric Vehicle Credit.   Enter the credits from line 11 of Form 8834 in column (a) of Worksheet 5. If the credits are from more than one activity, separate the credits by activity before making entries in the worksheet.

Form 8835, Renewable Electricity, Refined Coal, and Indian Coal Production Credit.   Enter the credits from Section B of Form 8835 in column (a) of Worksheet 5. If the credits are from more than one activity, separate the credits by activity before making entries in the worksheet.

Form 8844, Empowerment Zone and Renewal Community Employment Credit.   Enter the credits from line 5 of Form 8844 in column (a) of Worksheet 5. If the credits are from more than one activity, separate the credits by activity before making entries in the worksheet.

Column (b).   In figuring this year's passive activity credit, the corporation must take into account any credits from passive activities disallowed for prior years and carried forward to this year. Enter in column (b) of Worksheet 5 the prior year unallowed credits from column (c) of Worksheet 6 in the 2005 Form 8810 instructions.

If any of the following apply, enter -0- on line 7 and do not complete Part I or Part II of the Computation for Line 7 below.

Use the applicable tax rates in section 11 when figuring the tax attributable amounts. Also, see how to figure tax in the instructions for the tax return filed.

Line C.   Enter the net income, if any, from line 1d of Form 8810. If the corporation has an overall loss from the entire disposition of a passive activity, the amount to enter on line C is the net income from line 1d reduced by the overall loss, but not below zero. If the result is zero, skip the rest of the Part I computation.

Line J.   If the corporation has net passive income, enter the amount from line C on this line. If the corporation has a net loss from line 1d of Form 8810, enter that amount on line J as a negative amount.

A credit from a passive activity held through a PTP is allowed to the extent of the tax attributable to net passive income from that PTP. See page 9 for the definition of a PTP.

Do not enter credits from PTPs on Form 8810 or the worksheets. Instead, use the following steps to figure the allowed and unallowed credits from passive activities held through PTPs.

Check the box on this line if the corporation elects to increase the basis of credit property it used in a passive activity or former passive activity by the unallowed credit that reduced the property's basis.

The election is available for a fully taxable disposition of an entire interest in an activity for which a basis adjustment was made as a result of placing in service property for which a credit was taken. The corporation can elect to increase the basis of the credit property immediately before the disposition (by an amount no greater than the amount of the original basis reduction) to the extent that the credit has not previously been allowed because of the passive credit limitations. The amount of the unallowed credit that can then be applied against tax is reduced by the amount of the basis adjustment.

No basis adjustment can be elected on a partial disposition of the corporation's interest in a passive activity or if the disposition is not fully taxable. The amount of any unallowed credit, however, remains available to offset the tax attributable to net passive and net active income.