Treas. Reg. §1.469-1T(e)(3)(ii)(A)

Background

Section 469 sorts income and losses into passive and non-passive buckets. Passive losses generally cannot offset wages or active business income. Section 469(c)(2) makes rental activity passive per se, meaning automatically, no matter how hard the owner works at it.

But the statute left rental activity to be defined by regulation. Treasury did that in the 1988 temporary regulations. Paragraph (e)(3)(i) gives the general definition, and paragraph (e)(3)(ii) lists six exceptions where an activity involving property rentals is treated as not a rental activity for the year.

What it established

The first exception, (e)(3)(ii)(A), is the one that powers the short-term rental strategy: an activity is not a rental activity for the year if the average period of customer use for the property is seven days or less.

When that test is met, the per se passive rule of section 469(c)(2) simply does not apply, because there is no rental activity for it to label. The activity is then tested like any other business: the loss is non-passive if the owner materially participates. Two separate gates, and both have to open.

How it shows up in a study

A cost segregation study with bonus depreciation on a short-term rental can produce a large first-year loss. Whether that loss can offset the owner's W-2 or business income depends entirely on this regulation plus material participation. The study's tax summary cites the exact subdivision, (e)(3)(ii)(A), so the position rests on the regulation's own words rather than a loose reference to section 469.

What it does not mean

Meeting the seven-day test alone does not make losses deductible. It only removes the automatic passive label. The owner still has to materially participate in the activity, and without that, the loss stays passive anyway.

The test is also an average for the year, computed across stays. A few month-long bookings can pull the average over seven days and undo the exception for that year. And this rule has nothing to do with real estate professional status; it is a separate path, useful exactly because it does not require that status. The numbers and the guest-stay records have to be kept and checked every year.