By Jason Watson (Google+)
For rental properties, the issue is nearly moot since active participation relates only to rental real estate activities and is a less stringent standard than material participation. As long as a taxpayer participates in management decisions in a bona fide sense, he actively participated in the real estate rental activity. Activities include new tenant approval, rental terms, repairs, capital expenditures, etc.
According to the IRS Audit Techniques Guide there is not a specific hour requirement. Even if you use a management company, you will be considered active if you are involved with the operation of your rental. However, the taxpayer must be exercising independent judgment and not simply ratifying decisions made by a manager or management company. In addition, the taxpayer must have at least a 10% interest in the rental activity.
To recap for married taxpayers, passive activities such a rentals or investment partnerships have a loss limit of $25,000 in offsetting non-passive income such as W-2 wages or other earnings. And it is reduced $1 for every $2 over $100,000 in adjusted gross income. Any disallowed passive loss is carried forward until you dispose of the property or investment. For example, you make $120,000 at your regular job and have $30,000 in rental losses. Your passive loss deduction is $15,000 ($25,000 minus $10,000) and the remaining $15,000 is carried forward.
So active participation only matters for those taxpayers who are not limited on their passive losses. In other words, if you do not exceed the passive loss limits you only need to demonstrate active participation. However, to avoid the passive loss limitations of $25,000, a taxpayer must be considered a real estate professional who also materially participates in the rental activity.
The rules for material participation are considerably more stringent, and are discussed in a separate FAQ called What are the general tests for material participation?
You can also read our Real Estate Professional and Material Participation tax article at-