Real Estate Professional Status and Bonus Depreciation

Introduction: The Tax Code Is Not Neutral—It’s a Playbook

If you’re in the business of real estate—whether that’s flipping homes, managing rentals, or building a portfolio of short-term properties—the way your income is taxed can make or break your long-term gains. While most investors focus on acquisition and appreciation, the savviest ones understand that real wealth is built by reducing taxable income.

This blog breaks down one of the most powerful and misunderstood tools in the tax planning world: the combination of Real Estate Professional Status (REP) and Bonus Depreciation. Used together, these two strategies can legally shelter hundreds of thousands in income.

But this isn’t just about saving on taxes. It’s about strategic planning, intentional action, and long-term advantage. Whether you’re new to real estate investing or deep in the game, understanding this duo could reshape your approach—and your results.

If you plan to explore deeper tax-saving techniques, don’t miss our upcoming breakdown on Passive Activity Loss Rules and Depreciation and Cost Recovery—a critical next step in this journey.

Let’s start with the foundation: Real Estate Professional Status.

What Is Real Estate Professional Status (REP)?

Real Estate Professional Status is a designation defined by the IRS—not a license or credential. It determines how your rental real estate activities are classified for tax purposes, specifically whether you’re allowed to deduct losses against your active income.

The Two Tests You Must Pass

To qualify as a Real Estate Professional under IRS Section 469(c)(7), you must meet both of the following conditions during the tax year:

• More than 50% of your total personal services performed in trades or businesses must be in real property trades or businesses in which you materially participate.

• You must perform more than 750 hours of services during the tax year in those real property trades or businesses.

This means your real estate work needs to be your primary job (or the majority of your working hours) and not a passive side hustle. Activities must include development, acquisition, conversion, rental, management, leasing, or brokerage.

Let’s break it down more simply:

• A part-time investor with a full-time W-2 job? Likely disqualified.

• A full-time realtor managing rentals on the side? Possible, depending on how time is tracked and reported.

Material Participation—Don’t Skip This

Even if you meet the 750-hour and 50% tests, you still need to prove material participation in each rental activity. That means you’re actively involved in the operations, not just signing leases or reviewing reports once a month.

The IRS outlines seven tests for material participation, and qualifying under any one of them could support your claim. But most real estate professionals lean on the tests related to hours worked, such as:

• Participating more than 500 hours in a rental activity

• Doing substantially all the work for that activity

• Participating 100 hours and more than any other individual

You can also file an election with the IRS to treat all your rental properties as one activity, making it easier to meet the participation test across multiple properties. This election is binding and must be properly filed.

Tip: Keep a contemporaneous log of your real estate activities, including dates, times, and tasks performed. In an audit, that documentation can make or break your defense.

Important: If you're married filing jointly, only one spouse must independently meet both REP tests. You cannot combine hours to qualify. However, for material participation, both spouses' hours may count.

Why Real Estate Professional Status Matters

At first glance, Real Estate Professional Status might seem like a technical classification. But its implications on your tax liability are anything but minor. The real reason this status matters is because it can convert passive losses into active deductions—which is especially crucial if you’re earning significant W-2 or business income elsewhere.

Passive vs. Non-Passive Losses

In general, rental income is considered passive, and so are the losses. Passive losses can only offset passive income—not your W-2, business income, or capital gains. That means if you have a high-income job and your rental property loses $40,000 after depreciation, you may not be able to deduct that loss unless you qualify for certain exceptions.

This is where REP status becomes a game changer.

When you qualify as a Real Estate Professional and materially participate in your rentals, those losses become non-passive. That means you can apply them against your ordinary income—potentially wiping out tens (or hundreds) of thousands in taxes owed.

A Simple Example

Let’s say you make $250,000 as a business owner and also own three short-term rentals. One year, after accounting for depreciation and expenses, those rentals show a combined loss of $100,000. If you qualify for REP and materially participate, you can deduct that $100,000 against your $250,000 in income—bringing your taxable income down to $150,000.

At a 35% combined federal and state tax rate, that’s a $35,000 tax savings.

If you’re curious how this fits into a broader asset management strategy, we’ll also be publishing a blog on Trusts: Legal Entities for Asset Management in the coming weeks.

Bonus Depreciation Basics: What It Is and Why It Matters

Bonus depreciation allows you to accelerate the depreciation deduction for qualifying property in the year it’s placed in service. Instead of spreading out deductions over years, you take a significant portion up front—lowering your taxable income dramatically.

A Quick Definition

Under the Tax Cuts and Jobs Act, businesses and individuals could deduct 100% of the cost of qualifying property from 2017 through 2022. Now, bonus depreciation is phasing out:

• 2023: 80%

• 2024: 60%

• 2025: 40%

• 2026: 20%

• 2027 and beyond: 0% (under current law)

What Qualifies?

Bonus depreciation typically applies to property with a useful life of 20 years or less. For real estate investors, this includes:

• Short-term rental furnishings

• Renovations that improve systems (HVAC, electrical, etc.)

• Driveways, fencing, landscaping

• Interior improvements that are not structural

The best way to maximize bonus depreciation is through a cost segregation study, which breaks a property into depreciable components. These studies help you identify the portions of your property that can be depreciated over 5, 7, or 15 years.

A Note on Recapture

Bonus depreciation is a timing tool. You may face depreciation recapture tax when you sell the property, so always consult your advisor about the long-term implications.

The Real Power Move: Combining REP with Bonus Depreciation

Here’s where tax planning gets fun.

When you qualify as a Real Estate Professional and materially participate in your rentals, your losses become non-passive. Then, if you layer in bonus depreciation, you supercharge those losses in the first year.

The Tax Strategy in Action

Let’s take a simplified scenario:

• You buy a short-term rental for $500,000.

• You spend $100,000 on furniture, appliances, and non-structural improvements.

• You do a cost segregation study and identify $120,000 in assets that qualify for 60% bonus depreciation (2024 rate).

• That’s a $72,000 deduction in year one.

• You already qualify as a Real Estate Professional, so this $72,000 loss can be applied against active income (like your W-2, business profits, or spouse’s income).

If your combined tax rate is 35%, that’s $25,200 in tax savings—just from bonus depreciation alone.

Add in other expenses and standard depreciation, and you might end the year with six figures in deductible losses. All legally.

Multiply That by Multiple Properties...

Now imagine doing that with two or three properties per year. You can see how top investors build real estate portfolios that generate income while eliminating tax liability.

But with great tax savings comes great responsibility.

A Word of Caution: Documentation & Audit Risk

The IRS has a watchful eye on Real Estate Professional claims—especially when paired with massive bonus depreciation deductions. But don’t let fear paralyze action; let it sharpen your process.

What the IRS Looks For

Auditors are trained to look for weak REP claims, especially when:

• A taxpayer also has a full-time job outside of real estate

• Hours are rounded or estimated instead of logged

• Multiple rental properties are involved with no clear time tracking

• Cost segregation deductions are taken without proper documentation

The most common reason REP status is denied? Lack of a detailed, contemporaneous log of hours worked and activities performed. You need to be able to prove that:

• You met the 750-hour requirement

• The majority of your work time was spent in real estate

• You materially participated in each rental activity (or made a grouping election)

Documentation Tips

• Keep a log weekly—not at year-end

• Use time-tracking software if you're managing multiple properties

• Document travel, meetings, calls, maintenance, and tenant interaction

• Save receipts, emails, and contractor invoices as supporting evidence

Without documentation, your strategy becomes speculation—and that’s not a position you want to be in during an audit.

Planning Like a Pro: Is REP Status Right for You?

Not everyone qualifies for or even needs REP status. But for the right investor profile, it can be the difference between a good year and a great one.

How to Know You’re a Candidate

• You or your spouse already work in real estate (realtor, property manager, flipper, etc.)

• You own multiple rental properties and actively manage them

• You’re scaling your portfolio and want to optimize deductions

• You’re comfortable tracking time and maintaining records

Still unsure? Work with a CPA who specializes in real estate tax strategy—not just year-end filing. Tax planning should start in January, not April.

We’ll be diving into broader tax-saving ideas in our upcoming post on Self-Employment Tax and Tax Avoidance Strategies—another key read for real estate professionals and entrepreneurs alike.

If You’re Not a Real Estate Professional, What Can You Do?

REP status isn’t accessible to everyone. But even if you don’t qualify, there are still ways to benefit from depreciation and smart planning.

Options Include

• Grouping elections: Combine multiple properties for easier qualification under material participation rules

• Hiring a spouse: Shift labor hours to the spouse if one partner is full-time elsewhere

• Passive income matching: Use rental losses to offset income from other passive activities

• Revisit your business structure: Sometimes switching to an S-Corp or different setup can unlock new strategies (more on this in our upcoming blog on Business Use of Vehicle Deduction and Entertainment).

Even without REP status, your portfolio can be designed for long-term tax efficiency. It just takes intentional structure.

Strategic Takeaways: Make a Move, Not a Mistake

• Start tracking time now—even if you're not sure you’ll meet the 750 hours.

• Run a cost segregation analysis before year-end on any new acquisitions.

• Don’t wait until tax season to bring this up with your advisor.

• Use bonus depreciation before it phases out more in 2025.

• Always keep audit-readiness in mind: documentation is your shield.

Conclusion: Tax Strategy Is Wealth Strategy

Real estate is one of the few industries where tax law is written in your favor—if you know how to use it. Real Estate Professional Status and Bonus Depreciation aren’t loopholes.

They’re incentives designed to reward investors for taking financial risks, creating housing, and stimulating the economy.

But like any tool, they only work if used correctly.

If you’re ready to explore whether REP status and bonus depreciation are right for your situation, let’s talk. And if you’re still learning, bookmark this page and check back soon for our deep dives into:

• Passive Activity Loss Rules

• Cost Segregation Studies

• Estate Planning with Trusts

• Optimizing Home Office Deductions

The tax code is a playbook—and the sooner you start reading it, the better your position will be.