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Rationale for the At-Risk and Passive Activity Law Limits

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What is the rationale for the at-risk and the passive activity law limitations? Do you think the at-risk and the passive activity law limitations should be changed? Why or why not?

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Solution Summary

The 606 word solution presents a detailed explanation of at risk and passive activity loss limitations with examples.

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The 'at risk' and passive activity loss limitations came into law as part of the Tax Reform Act of 1986. It was a landmark change to tax law and the concepts continue to be debated and tested even after 25 years.

Prior to 1986, there was considerable abuse in the reporting of losses, mostly generated from what were called 'tax shelter partnerships'. Many of the tax shelter partnerships were scams invented by bright individuals and sold for their ability to reduce income tax for individuals. In these partnerships, the 'investors' were usually passive partners who were allowed to deduct losses prior to the tax act. After the new law, passive partners were only able to deduct passive losses to the extent of passive income. Any excess amount was suspended for use in a later year.

For a list of the massive changes that were included in the 1986 tax act, refer to ...

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