Can I Deduct Rental Property Losses in 2025?

Investing in rental property—whether it’s a cozy single-family home, a multi-unit complex, or a commercial space—can be a bold financial move. It adds diversity to your portfolio, generates potential retirement income, and breaks the dependency on stock market volatility. But when it comes to income taxes? The benefits aren’t always as straightforward.

Sure, profits are taxed like regular income (hello, higher tax brackets 😬), but losses? Now that’s where things get tricky—and potentially limiting.

Why Can’t I Deduct All My Rental Losses?

Rental/Income losses are considered passive by the IRS, even if managing the property feels anything but passive. That means if your rental expenses exceed your rental income, the loss typically can't offset your regular W-2 wages or self-employment income.

Since the 1986 tax reform, passive losses have been tightly restricted. But here’s the silver lining: certain taxpayers can claim a special loss allowance—up to $25,000 per year—if they meet specific criteria.

The $25,000 Special Allowance: Do You Qualify?

To qualify in 2025:

• You actively participate in the rental property (think: choosing tenants, approving repairs).

• You own at least 10% of the rental.

• Your Modified Adjusted Gross Income (MAGI) is under $100,000.

  • Between $100,000–$150,000? The deduction phases out.

  • Above $150,000? The special allowance disappears completely.

Example (Updated for 2025):
Emma, a single taxpayer, earned $135,000 from her job in 2025. She also owns a rental that reported a $20,000 loss. Her allowable loss is only $7,500.
Here’s the math:
$135,000 - $100,000 = $35,000
$35,000 × 50% = $17,500 reduction
$25,000 - $17,500 = $7,500 allowed

Married filing separately? Your cap is $12,500, and the phase-out range starts at $50,000 and ends at $75,000.

Inflation Hasn’t Caught Up (Unfortunately)

One frustrating truth: these income limits haven’t been adjusted for inflation—they're still stuck in 1986! In today’s market, more taxpayers are phased out simply because salaries and costs have risen across the board. It’s not you—it’s the tax code.

What Counts as “Active Participation”?

To get the special allowance, you need to show active participation. This doesn’t mean you’re fixing the toilet yourself—but you do need to be making key decisions.
✅ Approving new tenants
✅ Making or authorizing major repairs
✅ Deciding lease terms

Hiring a property manager? That’s okay—as long as you're still involved in oversight and key choices.

What If You Don’t Qualify?

If your losses are limited in the current year, don’t worry—they’re not gone forever.
❗️Unallowed passive losses roll forward indefinitely
📊 They’re tracked on Form 8582
📉 You can use them in future years when:

• Your rental turns a profit

• You dispose of the property

• You generate income from another passive activity

Selling the rental? Even better, all suspended losses become fully deductible in that year.

Exceptions, Loopholes & Gotchas

There’s a lot more fine print than most people realize. Some extra restrictions include:

• Entity issues: Only individuals or disregarded entities (like single-member LLCs) can use the $25,000 special allowance.

• Ownership tests: You must own at least 10% of the rental (by value).

• Participation tests: If someone else makes all the decisions, you're not actively participating—even if you’re on the title.

Own just 5% of a property with your cousins? You likely can’t deduct the loss. Own it through a limited partnership? Same answer—no deduction.

What About Renting Part of Your Home?

Renting out a room in your primary residence? Different rules apply. The IRS considers that “mixed-use” property. You can deduct expenses up to your rental income—but you can’t create a loss to offset other income.

The Real Estate Professional (RE Pro) Loophole

Yes, there is a workaround—but it’s risky, complicated, and audit-triggering.

If you qualify as a Real Estate Professional, your rental losses become fully deductible, regardless of income. But here's the catch:

Two tests must be met:

1. More than 50% of your personal service hours are in real estate.

2. You log 750+ hours in real estate trades or businesses in which you materially participate.

That means:

• You work in real estate full-time (not just as a hobby).

• You track your time with a detailed log—dates, hours, activity.

• Investor-type activities don’t count (e.g., reading Zillow listings doesn’t qualify).

Bonus tip: If you manage multiple rentals, you can elect to treat them as one activity—but beware, this decision has long-term implications.

Caution: Hiring a property manager? You’ll likely fail the material participation test.

TL;DR: Are Rental Losses Deductible in 2025?

✔️ Yes—but only under certain conditions.
✔️ If your MAGI is under $100K and you’re actively involved, you may qualify for up to $25K in deductions.
⏳ If not? Carry the losses forward—you’ll get to use them eventually.
🚨 If you want unlimited losses? You’ll need to qualify as a Real Estate Professional, and that’s a whole different ballgame.

Final Word

Rental properties can be a great long-term play. They offer cash flow, equity growth, and passive income. But if you're banking on immediate tax write-offs to sweeten the deal, hit pause and consult with a tax professional first. A smart strategy now can save you big time later.

Need help? Book a call with Lisa Brugman, EA & Associates, and get clarity on your next move.