How Real Estate Professional Status for Spouses Creates Powerful Tax Savings

When one spouse earns a high W-2 income while the other manages the family’s rental properties, a significant tax planning opportunity emerges. Real estate professional status for spouses is one of the most effective strategies married couples can use to offset substantial active income with rental real estate losses.

During a recent Real Estate Industry Update, Daniel Roccanti and Kyle Paxton from James Moore & Company shared valuable insights on how married couples can take advantage of this tax designation. This discussion highlighted the critical importance of understanding IRS requirements and proper planning to maximize deductions while staying compliant.

What Is Real Estate Professional Status?

Real estate professional status (REPS) changes how the IRS treats your rental property income and losses. For most taxpayers, rental real estate is considered passive activity. This means losses from rental properties cannot offset active income like W-2 wages or business earnings.

As Kyle Paxton explained during the discussion, “One of the major provisions of real estate professional status and kind of how this benefits is if I have losses on rental properties, I am severely limited in my losses as an accountant. Real estate professional status kind of shifts that character of the rental properties such that those losses now get more non-passive treatment and I can offset my other items of ordinary income.”

This distinction matters significantly for high-income earners looking to reduce their tax liability through strategic real estate investing.

The Two Tests You Must Pass

Qualifying for real estate professional status requires meeting two key tests each year. These are not one-time qualifications. You must satisfy them annually to maintain the designation.

The 750-Hour Requirement

First, you must spend more than 750 hours performing services in real property trades or businesses during the tax year. These activities can include managing rental properties, working as a real estate agent or operating a real estate development company.

The More-Than-Half Test

Second, more than half of your total personal service hours must be performed in real property trades or businesses. Kyle noted this is often the catch that trips up most taxpayers: “The catch that gets most taxpayers is the more than half of your personal services. So I use the example of me as an accountant. I’m a full-time accountant and while I focus in the real estate space in accounting, that is not deemed a real property trade or business for this purpose.”

Daniel emphasized an important point about these tests: “This has to be determined at the individual level, not the couple level. So what that means is you can’t share hours. One individual has to meet both of these tests.”

The Ownership Requirement Many Miss

One of the most common mistakes couples make involves ownership structure. To count hours toward the 750-hour test, you must own at least 5% of the real property trade or business.

Daniel highlighted this pitfall: “I have one spouse, high W-2 wages. They own all the real estate directly. And I want their spouse to basically be able to qualify for real estate professional status, but they don’t actually own any of the real estate directly.”

The solution may involve transferring ownership between spouses, creating a partnership or having the qualifying spouse obtain a real estate license to accumulate hours through agent activities.

Where Spouses Can Combine Efforts

While the initial REPS qualification must be met individually, there is a second layer where spouses can work together: material participation.

After qualifying for real estate professional status, you must also materially participate in each rental activity to unlock the non-passive treatment. The IRS provides several tests for material participation, including a 500-hour safe harbor.

“Each spouse can basically combine their participation here,” Daniel explained. “So if one spouse has 300, the other spouse has 200, it doesn’t matter if only one has direct ownership or not. That doesn’t matter. We can combine it here for these purposes.”

This distinction allows the non-qualifying spouse to contribute meaningful hours toward meeting material participation requirements even if they cannot help with the initial REPS qualification.

A Real-World Planning Scenario

Consider a common situation: a physician earning over $1 million annually with a spouse who doesn’t work full-time. The physician cannot meet real estate professional status due to their demanding career. However, their spouse can potentially qualify by managing the family’s rental portfolio.

Daniel outlined how this works in practice: “They need to handle all the rentals. They manage the rental opportunities. Maybe they become a real estate agent, do some real estate agent stuff on the side.”

Once qualified, the couple can purchase rental properties and utilize cost segregation studies to accelerate depreciation deductions. These substantial losses can then offset the physician’s high W-2 income, potentially cutting their taxable income significantly, all because the spouse qualified for REPS on their jointly filed return.

Documentation and Audit Preparedness

With significant tax benefits come increased IRS scrutiny. Both presenters stressed the importance of maintaining detailed time logs.

Kyle advised, “Under audit, the IRS is going to look for time logs, especially if there are gray areas or you have other sources of income that aren’t just from real estate spaces.”

Daniel added a practical perspective: “People going down this route that have high W-2s that are offsetting it with substantial real estate losses. Look, you just got to understand that you’re going to be higher on the list of getting audited when these things kind of happen.”

Make the Most of Current Tax Benefits

The One Big Beautiful Bill Act has renewed advantageous provisions around real estate professional status, making this an excellent time to pursue this strategy. With 100% bonus depreciation back in effect, qualified couples can generate substantial first-year deductions through cost segregation studies.

However, success requires understanding the rules, maintaining proper documentation and working with a knowledgeable tax advisor. As Daniel concluded, “Getting the real estate professional status for your spouse is a powerful tax strategy. Just make sure you understand the rules and you’re keeping logs so if the IRS ever audits you, that you’re able to have all the supporting documentation you need.”

Watch the full Real Estate Industry Update episode to hear Daniel and Kyle break down these strategies in detail and learn more about how REPS could work for your situation.