How One Investor Lost REPS in Court and What You Can Learn

A recent tax court case—Foradis v. Commissioner—offers important lessons for real estate investors who want to use tax losses to reduce their other income. The crux?

A taxpayer attempted to deduct losses by claiming real estate professional status (REPS), but failed because both spouses worked full-time and did not properly document their hours.

Even more surprising, the property in question appears to be a short-term rental, which has an entirely different (and usually more favorable) set of rules for offsetting income. Here’s what went wrong—and how you can avoid a similar fate.

The Key Mistakes: Full-Time Jobs & Management Company

In the Foradis case, both the taxpayer and spouse each held 40-hour-a-week W-2 jobs, yet the taxpayer claimed 2,500 hours on the rental property in the same year.

While it’s possible for someone to hustle nights and weekends, courts rarely believe a person can log 4,000+ total work hours. The taxpayer also used a property management company, which makes it even harder to argue he was the one actively running the rental.

The result? The court quickly disallowed around $22,000 in rental losses that were supposed to offset W-2 income.

Short-Term Rental Loophole: A Missed Opportunity

If this truly was a short-term rental—where the average guest stay is seven days or less—the taxpayer likely could have sidestepped real estate professional status altogether. That’s because short-term rentals are exempt from the passive activity rules that typically trap rental losses in the “passive” bucket.

All you need to qualify is material participation, which generally involves either:

• 500 total hours on the rental, or
• 100+ hours and more time than any other individual (like cleaners or co-hosts).

If you prove it’s a short-term rental and document your hours, even full-time employees can offset W-2 income with short-term rental losses. The Foradis case shows how crucial it is to pick the right tax approach.

Documentation & “Real Estate Professional Status” Pitfalls

The case also underscores what most tax advisors already know about REPS:

• More Than Half Your Working Time
  You must spend more hours on real estate than on your W-2 or other active income sources—extremely difficult if you’re full-time elsewhere.
• 750 Hours Minimum
  Even if you do have time logs, the court is skeptical of any scenario where you’re logging huge real estate hours on top of a 40-hour-a-week job.
• Property Management Red Flags
  Hiring a manager undercuts the claim that you’re doing the day-to-day tasks. If you want to prove REPS, you generally can’t outsource most of the work.
• With poor or incredible (“not credible”) time records, the IRS and courts will almost always side against the taxpayer, as happened here.

Potential Tax Savings—If Done Right

Had the taxpayer used the short-term rental loophole and documented the time spent, the outcome might have been drastically different. In real numbers, for a typical $750,000 short-term rental, strategic cost segregation and bonus depreciation can generate tens of thousands of dollars in paper losses—potentially offsetting your W-2 earnings at the highest tax brackets.

The Foradis case proves that missing (or misusing) your best strategy can cost thousands in extra tax.

Action Steps to Protect Yourself

• Confirm Your Rental’s Average Stay
  If guests stay seven days or less, aim for short-term rental material participation, not REPS.
• Ditch the Full-Service Manager (Year One)
  If you need the hours, you must handle management yourself initially. Hiring a management company can sink your material participation claim.
• Keep Bulletproof Logs
  Courts and the IRS want time logs that show tasks, dates, durations, and details.
• Seek Qualified Advice
  Don’t rely on hearsay or influencer tips. Speak to a real estate-focused CPA who knows how to document short-term rental or REPS strategies correctly.

Final Thoughts

Real estate investing can deliver powerful tax advantages, but Foradis v. Commissioner reminds us that you must pick the right path—and thoroughly back it up. If both spouses work 2,000 hours a year in W-2 jobs, trying to claim real estate professional status usually fails.

A short-term rental strategy may be a better fit, as it removes the need to spend 750+ hours and half your total work time in real estate. As always, get expert guidance before filing your taxes to avoid a costly lesson in tax court.

Get started on optimizing your portfolio with a tax strategist. Reach out today.

Transcript

0:00 – 0:29 | Introduction & Welcome

Nathan Sosa, CPA (00:01.39)
I’d like to be the first to welcome back Ryan Carriere to the podcast. He’s been on paternity leave for the past month, following the birth of his little one.

We’re super happy Ryan got a chance to spend time with his family—so important—and we’re thrilled everyone’s doing well. But we’re also glad to have him back with us now.

Ryan Carriere, CPA (00:29.062)
Thanks, Nathan. My family’s doing great. I’m glad things ran smoothly while I was gone. You and Justin filled in admirably.

Also, a note for everyone: Tom is out this week—he’s moving to Miami, which has been years in the making if you’ve followed this show. He’s been talking about it forever, and now it’s finally happening. But yeah, things are good on my end. My wife and daughter are doing fantastic; the baby’s about a month old.

We’ll dive right in today: we’re from Hall CPA / The Real Estate CPA, where we specialize in helping real estate investors save significant taxes. Our topic is a brand-new court case, Foradis v. Commissioner, from summer 2024.

The taxpayer tried to use real estate professional status (REPS), but it didn’t work. We’ll unpack why, highlight red flags, and show what could’ve been done differently.

0:30 – 2:50 | Introducing the Foradis Case

Ryan Carriere, CPA
Nathan, can you start us off with the general context of this Foradis case?

Nathan Sosa, CPA (02:51.566)
Sure. The citation is TC Summary Opinion 2024-13—it’s spelled “Foradis,” though we’re guessing on the pronunciation. This case is interesting because it involves both real estate professional status and short-term rentals. The taxpayer built an ADU (carriage house) on his property, presumably for short-term rental use. However, instead of relying on the short-term rental exception under Section 469, he claimed real estate professional status.

He and his wife both had full-time W-2 jobs. He did a lot of the construction personally, but also used contractors. Ultimately, he tried to use REPS to deduct roughly $22,000 in losses against his W-2 income. The court disallowed those losses, reclassifying them as passive, meaning he couldn’t offset his W-2.

2:51 – 5:15 | Why It Failed: Key Red Flags

Ryan Carriere, CPA (02:51.795)
Right—full-time W-2 is often a big red flag for claiming REPS, because you have to spend more than 750 hours and more than half of your total working time in real property trades or businesses. That’s tough if you’re already working 2,000+ hours a year.

Nathan, from your read, what else stuck out?

Nathan Sosa, CPA
He had a property management company operating the ADU, which undercuts the idea he was personally spending all those hours. He tried to say he spent 2,500 hours on the property, which might be possible for some extreme “grinders,” but the court just didn’t buy it.

They never even deeply analyzed his time logs; they said it defies credulity that he’s working 40+ hours a week in a W-2 and still logging an additional 48 hours a week on the ADU.

Also, interestingly, if this really was a short-term rental with an average stay under 7 days, he wouldn’t have needed REPS. He could’ve qualified for material participation under the short-term rental rules. But he never made that argument.

5:16 – 8:06 | The Missed Short-Term Rental Angle

Ryan Carriere, CPA (05:16.507)
Yes, that’s huge. If he’d shown the average stay was under 7 days, the ADU wouldn’t be a “rental activity” per Section 469. Instead, it’d be classified as non-passive if he materially participated—which is generally 100 hours and more than anyone else, or 500 hours total, etc.

Full-time W-2 is no problem in that scenario; you don’t need 750 hours or “more than half your time” in real estate. So that’s a prime example of a taxpayer using the wrong strategy.

Nathan Sosa, CPA
Exactly. He might’ve spent enough time constructing and self-managing to blow away the 500-hour test in year one. Instead, he tried to prove real estate professional status, which is a much tougher bar for a full-time W-2 earner—especially if you also list property management fees on your P&L. That’s a surefire red flag for the IRS.

8:07 – 10:00 | What Happens When You Lose?

Ryan Carriere, CPA
So the court reclassified his $22,000 of losses as passive. Because his income exceeded certain thresholds, he couldn’t claim the $25,000 special allowance either. So those losses just sit, carry forward until there’s passive income or he sells the property. Plus, he likely owes back taxes—maybe around $5,000—plus penalties and interest.
Imagine if he’d done a cost segregation or had even bigger losses. The stakes could’ve been far higher.

10:01 – 12:30 | Practical Takeaways

Ryan Carriere, CPA
Nathan, if we’re advising a couple in a similar situation—both spouses working full-time—how do we steer them?

Nathan Sosa, CPA (10:14.318)
We almost always say REPS isn’t feasible if both spouses work 40 hours a week, unless one is part-time. Instead, use the short-term rental strategy. Ensure your average stay is under 7 days, you log enough hours to materially participate, and you avoid handing everything to a property manager the first year. That might mean no manager (or minimal help) so you can show you spent more time than anyone else (cleaners, etc.). If done correctly, you can claim your short-term rental losses against W-2 income—potentially huge savings.

Ryan Carriere, CPA
Exactly. Also, keep bulletproof time logs and records—the court sees bad or fabricated logs constantly. Prove you’re the one handling turnovers, guest communication, price setting, everything.

12:31 – 15:00 | Illustrating Potential Tax Savings

Ryan Carriere, CPA (12:31.179)
Let’s do a quick hypothetical for the short-term rental approach:

• Purchase price: $750,000
• Allocation to building: 70% (i.e., $525,000)
• Cost Segregation: Let’s say 25% of that building portion qualifies for accelerated depreciation ($131,250).
• 2024 Bonus Depreciation at 60% = $78,750 immediate write-off.

If you’re in a 37% federal bracket, that’s about $29,000 in potential tax savings in year one. You can see why high earners love short-term rentals.

15:01 – 19:59 | IRS Audits & Documentation

Nathan Sosa, CPA
We’ve seen an uptick in audits lately—especially for short-term rentals or REPS. The IRS has more resources now, and they’re scrutinizing these big write-offs. The best defense is correct strategy plus thorough evidence (time logs, receipts). If you do it right, you can usually prevail in an audit. If you mix strategies or guess incorrectly—like Foradis did—you risk losing thousands.

Ryan Carriere, CPA
Yes. Some folks rely on influencers or generic advice. But every situation is unique. If you’re serious about short-term rentals or REPS, get personalized guidance from a real estate-focused CPA. We’ve helped many clients successfully navigate both strategies, even through audits.

20:00 – 23:59 | Q&A and Common Misconceptions

Ryan Carriere, CPA
Nathan, let’s talk a bit about common misconceptions. People often ask, “Can’t I just do REPS if I work 40 hours a week, but also put 2,000 hours into real estate on nights and weekends?”

Nathan Sosa, CPA
Technically you can attempt that argument, but you’ll need extreme documentation. The court rarely believes 4,000 total hours a year. Realistically, you’d have to show a day-to-day breakdown that’s absolutely flawless.

And the moment you have a property manager, the IRS wonders if you’re truly spending all that time. It’s an uphill battle that almost always fails, as we saw in Foradis.

24:00 – 26:59 | Estate Planning & Future Outlook

Ryan Carriere, CPA
We won’t go deep into estate planning here, but real estate can be part of a bigger wealth strategy. Short-term rentals might yield immediate tax benefits, while a long-term approach might be best for generational wealth. As the IRS invests more in audits, we expect more real estate cases. People should be prepared with thorough records.

Nathan Sosa, CPA
Absolutely. This Foradis case shows that even moderate-income taxpayers can face scrutiny if something smells off to the IRS. If you’re claiming big losses, get your approach validated by a professional who understands the code.

27:00 – 30:00 | Correcting Past Returns

Ryan Carriere, CPA
Nathan, what if someone like Foradis hears this and realizes they should have used the short-term rental exception? Is there any fix?

Nathan Sosa, CPA
Sometimes we can file amended returns (Form 1040-X) if it’s within the open statute of limitations—generally three years from the original due date. But if you’re already in a tax court case, or if that year is closed, it might be too late. The key is to get it right from the start.

30:01 – 32:59 | Managing Multiple Properties & Partnerships

Ryan Carriere, CPA
What if people have a mix of short-term and long-term rentals in their portfolio?

Nathan Sosa, CPA
We see that a lot. Typically, the long-term rentals remain passive. The short-term rentals qualify as non-passive if you meet material participation for each property (or group them if appropriate). Some folks want to convert a property from long-term to short-term. That can trigger partial dispositions and depreciation recapture. So it’s best to plan carefully.

33:00 – 35:59 | Handling Construction & Renovations

Ryan Carriere, CPA
In Foradis, the taxpayer did extensive construction. Sometimes that can help you meet material participation if you do it yourself. But it doesn’t necessarily prove REPS. You must fit the right bucket. For short-term rentals, that time usually counts if you’re truly doing the work personally, not just supervising contractors.

Nathan Sosa, CPA
Exactly. You also need to pay attention to when the property is “placed in service.” If it’s still under construction the entire year, you might not have actual rental use. You need at least a couple of short-term stays to establish an average stay length. No guests means no average.

36:00 – 38:00 | Summarizing Lessons Learned

Ryan Carriere, CPA
So, big lessons:

• W-2 + REPS = High scrutiny and likely a losing battle unless you’re truly part-time.
• Short-Term Rentals provide a “loophole” that bypasses REPS, but you must show material participation.
• Management Companies can kill your hours.
• Document everything meticulously—time logs, average stay, placed-in-service date.

Had Foradis done these steps properly, he might’ve offset $22,000 of W-2 income without drama. Instead, he lost in court.

38:01 – 39:00 | Closing Remarks

Ryan Carriere, CPA
Thanks for walking us through this case, Nathan. If anyone out there wants to avoid these pitfalls, talk to us or another real estate-focused CPA before claiming big losses on your taxes. Don’t rely on guesswork or incomplete advice.

We appreciate you tuning in. We’ll be back next time—hopefully Tom will be settled in Miami and can join us. Until then, take care and keep investing smart!

Thanks for tuning in, and we’ll see you on the next episode of the TaxSmart REI Podcast!

If you’re interested in reducing taxes through real estate investing, feel free to contact us for more information or consultation.

Disclaimer: This podcast summary and transcript were partly generated by AI and may contain some errors or miss key points from the audio recording.