Can Mortgage Brokers Qualify as Real Estate Professionals
02.19.2015 - Activities related to financing real property, such as bringing together lenders and borrowers, do not constitute a real property brokerage business. As a result, mortgage brokers do not qualify as real estate professionals exempt from the passive loss rules.
Activities related to financing real property, such as bringing together lenders and borrowers, do not constitute a real property brokerage business. As a result, mortgage brokers do not qualify as real estate professionals exempt from the passive loss rules. That is the conclusion of the IRS Chief Counsel’s office in a recent legal memo involving two state-licensed real estate brokerage firms.
Facts of the Case
Two individuals sought designation as real estate professionals. Taxpayer 1 was a state-licensed real estate agent who worked full-time as an independent contractor for a real estate brokerage firm. Although not licensed as a real estate broker under state law, Taxpayer 1 brought together buyers and sellers of real property and negotiated sales contracts and other agreements between buyers and sellers. Taxpayer 2 was a state-licensed mortgage broker who marketed mortgage loans and brought together lenders and borrowers. Under state law, the mortgage broker’s business was considered to be a real property brokerage business.
State Law Not Followed
The issue before the IRS was whether each of these individuals was a “real estate professional” exempt from the passive loss deduction limitations. In particular, the IRS considered whether the state law designations applied. The federal tax law definition of “real property trade or business” does not address the type of financial brokerage activities performed by Taxpayer 2, so the IRS had to decide whether the state definition should be used. The IRS determined that nothing in the federal rules require that state law definitions of “real estate agent” and “mortgage broker” be followed, so the IRS moved to its own conclusions.
Buyers and Sellers, Lenders and Borrowers
The IRS concluded that the real estate agent was a real estate broker under the plain meaning of the term because the agent brought together buyers and sellers of real property. However, the mortgage broker was not in a real estate brokerage business because that taxpayer brought together lenders and borrowers, which made Taxpayer 2 a broker of financial instruments, not real estate.
The result? A real estate agent is able to sidestep the passive loss rules, while a mortgage broker does not qualify for the real estate professional exemption from the passive loss deduction limits.