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<p align=”center” style=”text-align:center;line-height: 200%”>Abstract</p>
<p style=”line-height:200%”>The researcher seeks to differentiate Passive and non-passive investment income from a tax court perspective. The study will give the IRS definition of the two activities and provide a brief history of the inception of the Tax Reforms Act in 1986 noting its significance in eliminating tax shelters. The examiner will review the IRS and establish its oversight role in the taxation of income and collection of revenue to finance its budgets. Furthermore, the researcher will review the IRC codes and publications to gain insights on passive and non-passive activities. It will introduce the aspect of active and material participation and present their significance in classifying an activity as passive or active; furthermore, it will state how traders and investors qualify activities in the income statement for tax computation purposes. A number of case laws that are either in favor of the IRS or taxpayer will facilitate understanding of the two distinct types of activities from a legal perspective. The researcher will also review the significance of the Attorney General&rsquo;s Office in classifying the nature of activities for tax computation.</p>
<p style=”text-indent:.5in;line-height:200%”><i>Keywords: </i>passive activity, income, taxpayers, IRC codes, Tax Reforms Act.</p>
<p>&nbsp;</p>
<p style=”text-indent:.5in;line-height:200%”>&nbsp;</p>
<p>&nbsp;</p>
<p align=”center” style=”text-align:center;line-height:200%”>What is Passive Activity?</p>
<ol>
<li><b>Introduction</b></li>
</ol>
<p style=”line-height:200%”><b>Passive Activity</b></p>
<p style=”text-indent:.5in;line-height:200%”>Passive activity is a type of investment that does not involve the active participation of an individual. Rent from property owned by an individual and income from a limited partnership are examples of this type of investment. The investor does not take part in management but only provides funds to support a business venture. Analysts have varying opinions as to whether income from dividends is passive or non-passive. Despite passive income being taxable, it has a different treatment from active income&nbsp;(IRS).</p>
<p style=”text-indent:.5in;line-height:200%”>The Internal Reporting Service (IRS) articulates two meanings for such ventures. Passive activity is a trade or business undertaking when the taxpayer does not materially participate in operations during the year. It may also be a rental that a taxpayer does not partake with the exception of real estate professionals. Someone who invests in a restaurant but spends no time working in the business, for example, is a type of a passive activity; profit or loss from operations is a sort of investment. Individuals are reluctant in stating them to reduce their taxable income.</p>
<p style=”line-height:200%”><b>Non-passive Activity</b></p>
<p style=”text-indent:.5in;line-height:200%”>This is a type of investment where the taxpayer regularly participates in the operations and administration of an undertaking. Salaries, guaranteed payments, 1009 commission, and investment income are examples of non-passive activities. Someone who participates actively in management of a restaurant is another example; the income or loss resulting from undertakings is a non-passive activity. Generally, net earnings accruing from the following activities are non-passive: salaries, wages, forum 1099 commission income, guaranteed payments, Interest, dividends, stocks, and bonds. The sale of undeveloped land, investment property, revenues accruing from ordinary course of business, sole proprietorship, and a farm in which an individual actively participates are non-passive sources of income. Trusts where the fiduciary actively participates, partnerships, S-Corporations, and a liability company where a taxpayer actively participates.</p>
<p style=”text-indent:.5in;line-height:200%”>There are various ways for satisfying material participation assessment to avoid characterization of income as a passive activity; the most common one is working in the premises for more than 500 hours annually. To be a real estate professional, one must have 750 hours a year in real estate trades or business, which constitutes more than half of services discharged annually by an individual.</p>
<p style=”text-indent:.5in;line-height:200%”>An individual may materially participate in the operations of an entity if they partake in day-to-day operations on a regular, continuous, and substantial basis. The IRS created tests to establish material participation based on the amount of time you participate in a business undertaking. In general, an individual materially participates in an activity during a tax year upon satisfaction of established conditions. They must partake in operations for more than 500 hours in most areas of operations; however, the investor can discharge duties for more than 100 hours, which should not be less that of any other individual in the business and qualify. The undertaking should be &lsquo;a significant participation activity&rsquo; and investors who participate in operations for five years in a ten-year period preceding the year in question can qualify their net earnings as non-passive. Moreover, individuals should partake in &lsquo;personal service activity&rsquo; and materially participate for any three years preceding the year in question to qualify their incomes. Additionally, investors should satisfy a fact and a circumstance test, which requires them to prove participation in operations on a regular, continuous, and substantial basis for more than 100 hours during the tax year (IRS, publication 925). Material participation is an essential concept in the passive loss rules as it treats a taxpayer&rsquo;s trade or business as a passive activity if they fail to meet the set out qualifications.</p>
<p>&nbsp;</p>
<p style=”line-height:200%”><b>History</b></p>
<p>&nbsp;</p>
<p style=”text-indent:.5in;line-height:200%”>Section 469 of IRC, which was enacted in 1986, limits the amount of loss accruing from passive activities annually to the amount of passive income accrued during the year; it disallows and carries forward excess passive activity to the succeeding financial period. The Tax Reform Act (1986) is an effort of the Congress and the President to enhance the efficiency and perceived equity of the tax system. Investments known as tax shelters received attention in legislative debates; they supported the need for special treatment on this type of income&nbsp;(Mc Lure, 1992). Tax shelters are investments designed to report losses for tax computation purposes by totalling loses generated with other positive incomes to offset the taxable amount of income. Tax shelters are limited partnerships if the financier does not have management role; a high-income taxpayer can utilize a tax shelter loss to reduce the average tax rate below those of low-income taxpayers, thus undermining the principle of equity enshrined in the federal tax system. A group of investors earning more than $250000 annually and a having tax burden of 5% or less reported losses in their partnerships to offset more than 40% of their positive income.</p>
<p style=”text-indent:.5in;line-height:200%”>The enactment of rules of &lsquo;passive loss&rsquo; in TRA86 section 469 of the IRC mitigated such abuse of the tax shelter; they limit the extent to which an investor can offset positive income, such as wages, capital gains, and dividends, with operations that they do not materially partake. Only income from passive activities can offset passive losses after enactment of the above section; it disallows any excess loss not unless the taxpayer disposes such an activity or accrues sufficient incomes to offset the balance.</p>
<p style=”text-indent:.5in;line-height:200%”>In the 1980s, wealthy individuals invested in real estates, limited partnership, and other forms of tax shelters to generate losses as a result of increase in expenses, such as depreciation, interest, and other deductions; they would offset the deficit from other real incomes, hence yielding a tax-benefit from the tax shield. The trend, however, came to a stop following the enactment of passive activity loss rules by Congress in 1986; they limited the ability of a taxpayer in using either rental or business losses to lower their taxable income (I.R.C. Section 469). The rules of Passive Activity Loss (PAL), despite being applicable to all business transactions, emphasize more on rental real estates as they were the primary tax shelters used to lower taxable income in the 1980s. the legislations created a special category for classifying passive income or loss. Passive incomes accrue either from rental properties or business operations that one does not participate in materially; this limits individuals from deducting losses from other non-passive incomes.</p>
<p style=”text-indent:.5in;line-height:200%”>President Ronald Reagan is credited for tax reforms in the U.S; he enacted the Tax Reform Act 1986 into law, which eliminated loopholes for evasion and lowered the tax burden on the citizens. The tax system in place prior to enactment of the Reforms Act in 1986 overlooked equity- an essential principal in taxation; the rate of taxing ordinary income was more than that of capital gains. Enactment of the legislation simplified the U. S. tax code and other notable achievements include a reduction in tax rate of: top marginal individual income, corporate tax rate, and number of income brackets&nbsp;(Radman &amp; Walsh, 2013).</p>
<p style=”text-indent:.5in;line-height:200%”>The establishment of Taxpayers Pro in 1965, a milestone in the taxation system of the US, which supports computation of income tax with its filing system software. Incorporation of an income tax school complemented computation of taxes. The program consolidates e-filling and financial institutions to establish borrowing of taxpayers with advanced features, such as test alerts, marketing tools, signatures, and mobile reporting. Research conducted by National Tax Preparers Authority in 2011 credits Taxpayers Pro for efficiency in computing taxes. The system provides a framework for book-keeping, control checks and procedures, and offers a web tool that is compliant to the tax system.</p>
<p>&nbsp;</p>
<ol>
<li><b>Internal Revenue Differentials</b></li>
</ol>
<p>&nbsp;</p>
<p style=”text-indent:.25in;line-height:200%”>The Internal Revenue Service (IRS) is a government agency working under the Department of Treasury. Its duties include administration of the Internal Revenue Code (IRC), a statutory tax law governing taxation of various sources of income; IRS is also responsible for collecting tax in an efficient and effective manner, which is essential in financing government budgets to avoid deficits and administering the tax system. It also gives assistance to taxpayers on matters surrounding taxes and safeguards compliance in filling of taxes by the US citizens. Enhancing voluntary compliance reduces the tax gap, which is the difference between tax owed and tax paid in a timely manner&nbsp;(IRS). IRS responds to transforming conditions and requirements in the business environment to align them with tax requirements of the U.S; a challenge to their response programs, however, is lack of adequate funding due to budget reduction&nbsp;(IRS, 2016).</p>
<p style=”text-indent:.25in;line-height:200%”>The U. S. Congress, after passing tax laws, requires compliance from taxpayer who recognizes his/her obligation. IRS facilitates majority of the compliant taxpayers with tax laws and sanctions tax evaders. Section 7801 of IRC provides the responsibilities of the secretary of Treasury and they are undertaken by IRS; they have authority over enforcement and administration of internal revenue laws. Section 7803 articulates the procedure for appointing a commissioner to oversee and administer both the application and execution of laws governing internal revenue&nbsp;(IRS, 2016).</p>
<p style=”text-align:justify;line-height:200%”><b>Internal Revenue Codes (IRC)</b></p>
<p style=”text-indent:.25in;line-height:200%”>IRC are laws governing taxation in a country; they were first published in 1926 and the IRS is the enforcing authority. It provides a code for taxing revenues accruing from: income, estate and gifts, employment, alcohol and tobacco, and other sources. 26 U.S. Code &sect; 469 distinguishes between passive and non-passive activities to qualify and disallow deductions&nbsp;(IRS, 2011). It defines metrics of establishing material participation to determine the nature of an activity undertaken by a taxpayer. It contains special rules for classifying an income or loss as passive or active.</p>
<p style=”text-align:justify;line-height:200%”><b>Publications</b></p>
<p style=”text-indent:.25in;line-height:200%”>Publication 17 of the IRS provides a guide to traders and investors, who are taxpayers, on filling of income tax returns. It states who qualifies to file returns, forms to fill, submission deadlines, and other general information. The publication helps the taxpayer in establishing their taxable income and if they can claim any dependents. Furthermore, it articulates standards for reporting deduction, deductible expenses, and credits, which influences reporting of incomes and losses to reduce the amount that is subject to taxation. Publication 17 also shows examples of applications of tax laws in typical situations and provides updates on return of income tax&nbsp;(Department of Treasury, 2016).</p>
<p style=”text-indent:.25in;line-height:200%”>Publication 925 articulates regulations that govern deduction for losses accruing from an undertaking, rental, or trade; these are passive activity rules and at-risk rules. It states that individuals are subject to passive activity rules, which includes corporations that are closely held by the taxpayer. It gives indicators that facilitate identification of disallowed deductions of passive activity, which has an effect on reporting of income and losses for taxation purposes. At-risk limits, on the other hand, limits losses accruing from activities to the amount of risk in the undertaking. The taxpayer can carry them forward to the succeeding tax reporting period. Form 6198 provides procedures for establishing the allowable limit for deducting losses&nbsp;(IRS, 2017).</p>
<ol>
<li><b>Who Qualifies From A Tax Point Of View As A Passive Or Non-Passive Activity</b></li>
</ol>
<p style=”text-indent:.25in;line-height:200%”>In general, incomes accruing from passive activities are the only ones that can offset losses generated from such undertakings with the exception of rental estate losses amounting to $25000 and disposition to unrelated party. IRC 469 articulates two types of passive activities; these are rentals, which include rental real estate equipment leasing, and business lacking active participation of taxpayers, such as sole proprietorships and partnerships. Non passive incomes include salaries guaranteed payments, portfolio income, royalties, and partnerships.</p>
<p style=”text-indent:.25in;line-height:200%”>Tax regulations allow a taxpayer to consolidate several businesses into a single economic unit. Since the level of engagement in business operations activities establishes material participation, the above combination is of the essence. The basis of grouping them may premise on geographical location, interdependence, similarities or difference in activities, and both the extent of common control and ownership.</p>
<p style=”text-indent:.25in;line-height:200%”>Two distinct types of participation rules, which qualify an income as passive or non-passive, are material and active participation. The former articulates that the losses of a taxpayer are non-passive if they work in an entity for a regular, substantial, and continuous basis; this applies to business undertakings. Active participation, on the other hand, touches on real estate operations and have less stringent standards when compared material participation. In the presence of active participation, taxpayers engaging in management activities can deduct up to a maximum of $25000 against their non-passive income; this is, however, subject to a limitation set by Modified Adjusted Gross Income (MAGI) at $150000. Neither of these participation standards applies to long-term rental of equipment; losses accruing from leases are passive irrespective of the level of participation and are only deductible from other sources of passive income.</p>
<p style=”text-indent:.25in;line-height:200%”>Form 8582 provides a framework for incorporating income and losses and it breaks passive activities into three broad categories. It articulates rental real estate activities in line 1, which qualifies for special allowances subject to MAGI limitations. Line 2 in the form contains deductions from commercial revitalization; it allows a taxpayer to have this tax reduction irrespective of participation or income level. Line 3 has a list of the remaining types of passive activities; unless the taxpayer has other sources of passive income, accruing losses are not deductible non-passive income.</p>
<p style=”text-indent:.25in;line-height:200%”>Interest expenses incurred as a cost for financing a purchase of a leasing equipment or rental real estate but lacking material participation of the taxpayer is a passive activity; it is, however, not deductible in the absence of passive income. Sole proprietorship activities involving charter boats located away from the taxpayer, hotels and vocational cottages with on-site employees, and leasing of vehicles, airplanes, and equipment qualify as passive activities for tax computation purposes. Net rental income accruing either from an undertaking that involves the taxpayer or leased land is, however, a non-passive income.</p>
<p style=”text-indent:.25in;line-height:200%”>A loss in rental income is deductible if: there is a passive income, taxpayer qualify for allowance, and meet requirements set out for real estate professionals. However, various types of activities qualify as no rental activities, thus treated as businesses. An undertaking involving the use of rental property by a customer for less than 7 days qualifies as a passive activity. A second scenario treated similar to the above is if the customer uses the rental for less than 30 days and enjoys the personal services provided during their stay. Extraordinary personal services provided in a rental and incomes incidental to non-rental operations are not passive forms of income; the scenario is similar if the taxpayer makes the property available to customers at defined operating hours of business.</p>
<p style=”text-indent:.25in;line-height:200%”>Material participation of a taxpayer influences the decision to classify an activity as passive or inactive. It is possible for a taxpayer to have a passive income in one year and a non-passive one in another; the determination of material participation is done annually. Material participation, however, does not materialize in rentals as they are generally passive; this excludes: professionals in real estate, individuals with interest in oil and gas activities, and income from portfolio and partnership.</p>
<p style=”text-indent:.25in;line-height:200%”>Grouping of activities into a single economic unit can enable a taxpayer to meet the hour test, which is essential for establishing material participation. A Significant Participation Activity (SPA) is critical in determining if a trader or investor participated in a passive or non-passive activity. Indicators signalling the absence of material participation include lack of compensation for services rendered by a taxpayer. A trader or investor does not qualify as one who participated actively in an activity if they reside far from the business undertaking and more spend 40 hours or more in a compensating job. Another pointer signalling the absence of material participation is if the taxpayer has other undertakings, such as rentals and business activity, which are time intensive. It is also possible to establish a subset of those lacking material participation by identifying old taxpayers and those with health issues; they are less likely to partake in business operations. The presence of on-site management and business activities that operate uninterrupted in the absence of a taxpayer are indicators of passive income.</p>
<p style=”text-indent:.25in;line-height:200%”>Despite spending time in business operations, certain activities fail to capitalize in the test for material participation. A review of financial reports, analysis for individual gain, and monitoring operations or finances in a non-managerial capacity are non-qualifying times, which do not add up to hours of material participation. Travel time and work not done by the owner in ordinary course of business are other examples of non-qualifying times. Interest expenses accruing from renting of a second home or personal residence and costs attributable to rental activity are subject to passive loss rules. Investors in financial markets, dealing with bonds, stocks, and other securities, have non-passive activities, and so is the case with trading partnership. Credits granted by business operations are passive activities, which are deductible to the extent of the net passive income after deducting losses.</p>
<p style=”text-indent:.25in;line-height:200%”>The presence of a qualifying disposition warrants the deduction of both current and suspended losses. IRC 469 qualifies a disposition if: it is to an unrelated party, is a fully taxable event, and involves disposition of a partial or entire interest; the presence of these conditions warrants deduction of losses against non-passive income. Incomes accruing from disposition of a passive activity is a passive income and so is the case with the sale of property used in a passive activity. However, gains from sale of land, self-rented property, and a building not used in a passive activity in the reporting period are not passive incomes; consequently, they should not offset passive losses. The scenario is similar for real estate professionals having a gain from the sale of rental property.</p>
<p style=”text-indent:.25in;line-height:200%”>Passive loss rules apply to investors in Personal Service Corporations (PSC) and closely held entities. An individual(s) holding more than 50% of outstanding equity must participate in activities of a business undertaking; this guarantees that they meet standards of material participation in PSC, which include professionals such as accountants, doctors, and engineers.</p>
<ol>
<li><b>Tax Court Cases</b></li>
</ol>
<p style=”text-indent:.25in;line-height:200%”>Passive income are earnings received by an individual, which accrue from a limited partnership, rental estate, and other businesses that one fails to participate in materially; determination of materiality bases on a number of articulated guidelines.&nbsp; Non-passive income concerns any type of active income accruing from wages, investments, and business activities; the trader or investor has an active role in foreseeing operations. Taxation rules and regulations prohibit a taxpayer from deducting passive losses against their active income; instead, they advocate carrying them over to the succeeding taxation period in the following year. A review of the ruling of tax law cases in favour of both the taxpayer and IRS will help the researcher in gaining insights of passive and non-passive activities from a legal perspective</p>
<p>&nbsp;</p>
<p style=”line-height:200%”><b>Court Rules In Favor of IRS</b></p>
<p>&nbsp;</p>
<p style=”text-indent:.5in;line-height:200%”>A case study of Carolyn D. Fenderson vs Commissioner (2007) highlights basic features involving passive income. The case involved a determination by court as to whether the deduction of a loss accruing from involvement of the petitioner in real estate activities is plausible in relation to the laws of passive and non-passive income. Noted in a passive activity is the absence of participation of an individual&nbsp;(Carolyn D. Fenderson Vs. Commissioner of Internal Revenue, 2007). The judgement involves a question as to whether application of section 469(c)(7) is valid for the petitioner upon consideration of the year of issue.</p>
<p style=”text-indent:.5in;line-height:200%”>The definition of activity for tax computation purposes is any business operation established with the sole intention of generating income. Determining the level of participation of a trader or investor establishes if an activity is passive or non-passive. Section 469(c)(7) stipulates that any activity deemed rental is passive unless there is material participation in business or trade with real property. Additionally, it requires the individual to have 750 hours of personal service; this should represent more than 50% of all services discharged by a tax payer considering the trade and businesses activities.</p>
<p style=”text-indent:.5in;line-height:200%”>The findings of the case between Carolyn D. Fenderson vs Commissioner reveals that the complainant owned a total of 10 units of rental houses, which generated an average loss of $57,906. In 2005, she submitted her returns for the year 2002 and listed rental incomes and deductions articulated in schedule C. The ruling was in favour of the plaintiff, which deemed it fit to treat the activity as being a non-passive activity of the real property. Upon thorough scrutiny of her calendar records, the court established that she worked for 759 hours out of the 1062 hours initially claimed of personal service as for the rental activity; this is less than 780 hours that is characteristic of a software manager in the sales account. Considering the above fact, the petitioner failed the 50% participation test.</p>
<p style=”text-indent:.5in;line-height:200%”>A second case study giving more insights on passive and non-passive activity is Gregory J Farris vs. Commissioner. It involves a partnership in a law firm where the petitioner obtained an interest of 50% and decided to rent 3 buildings in 1985&nbsp;(Gregory J. Farris Vs Gregory J Farris vs. Commissioner, 2007). Following the destruction of the original document, a number of replacements took place leading to the execution of another lease agreement in 1992. The plaintiff eventually became the sole owner of the rental property and claimed a net passive income of $34,839, $46,168 and $48, 391 for the years 2000, 2001 and 2002 respectively to enable him deduct equal passive losses. Under its determination, the IRS did not approve such deductions, citing the absence of passive income, which is essential in offsetting the deduction; the self-rental rule deems such rental income as accruing from a non-passive activity. The petitioner alleged that the effected lease of year 2000-2002 was a continuation of the contract dated back to 1985. If such a lease was acceptable, it exempts this income as accruing from a non-passive activity. The tax court ruled that the lease failed to be a continuation as neither party involved in the 1985 lease agreement was present during the signing of the 2000 lease contract. Attempts to consider the law firm as an ongoing legal partnership raised varying opinions both under state and income tax laws. The above case study establishes how to classify an activity either as passive or active. As for taxpayers with passive losses, they can obtain a deduction only from passive income earned. In the absence passive income, activities registered as non-passive are only offset by non-passive income. Findings of the case study indicate a procedure on how to qualify an activity as passive or non-passive.</p>
<p style=”line-height:200%”><b>Court Rules In Favour of Taxpayer</b></p>
<p style=”text-indent:.5in;line-height:200%”>Tax courts need to establish material participation and time invested in an undertaking to establish if an activity is passive or active. Looking at a precedence in the case of Speer vs Commissioner, the court handling tax matters proved material participation in respect to Speer&rsquo;s business. Through this case and Lamas vs. Commissioner, T.C. Memo 2015, the court made a decision on how to view partial participation in conjunction with the rules on investor participatory hours as well as the validity of election grouping&nbsp;(Jose A. Lamas Vs Lamas vs. Commissioner, 2015).</p>
<p style=”text-indent:.5in;line-height:200%”>The Lamas Vs Commissioner case seeks to establish active material participation; this will avoid any passive characterization in reference to section 469. Normally, losses derived from passive activities are deducted passive income; any outstanding balance is carried forward to the next period of tax computation. These rules are essential following the enactment of section 1411, which, together with other regulations, imposed a tax rate of 3.8% over the net investment income for the year 2013.</p>
<p style=”text-indent:.5in;line-height:200%”>Under Section 469, Net Investment Income is a passive income; it requires a taxpayer to engage materially in an activity to avoid a passive status during tax computation. The regulation supports establishment of the taxpayers&rsquo; material participation by providing a seven-step test to address this issue. Upon concluding its investigation, the IRS defended itself arguing that the plaintiff did not meet the requirement of more than 500 hours. The court, to a great extent, admits phone records and testimonies during proceedings; this brings up more substance in respect to claims of participating numerous hours by the plaintiff. The regulations give taxpayers the mandate to prove participation using any reasonable means. The ruling of the tax court in Lamas Vs Commissioner was in favour of 10 witnesses who backed their evidence with phone records; this was sufficient to prove participation. Section 469 enables the taxpayer to group activities into a single economic unit regardless of the resulting controversy.</p>
<p style=”text-indent:.5in;line-height:200%”>An analysis of the disqualification of participation hours is beneficial in tax computation; a review of Tolin Vs Commissioner gives more insight of the scenario. Section 1.469-5T(f)(2) excludes any job done by an investor under his/her individual capacity as material participation. The argument of the IRS is that hours spent by Lamas in active material participation failed to qualify under the rule. The court&rsquo;s opinion is that efforts by Lamas to promote the activity materialized, thus treated as having taken an active role in management of the activity. Consequently, all hours, including investor hours, add up to an individual&rsquo;s level of participation. The ruling of the case in Tolin Vs Commissioner is that the act of horse promotion in conjunction with interest solicitation amounted to participation. It, therefore, follows that promotional activities materialized as part of the daily operation and management of a business, leading to its categorization as non-passive income. The IRS raises issues if a taxpayer keeps no record of business directed efforts; the government agency becomes sceptical when they fail to avail records of appointment books, calendars and other important documentation. IRS is also keen on addressing complaints of a matter of concern raised by a taxpayer; the surest way of asserting such claims is by analysing the books of account.</p>
<p style=”text-indent:.5in;line-height:200%”>In the case of Hegarty v Commissioner, the tax court dismissed the position of the IRS. The grounds of dismissal of the case was that it deems a taxpayer having interest vested in a company as a limited partner. This standard, as illustrated by the IRS, presumes losses of interests of a partner as a passive loss. However, a limited partner can reverse the above upon attaining the prerequisite material hours of participation, which is at 100 hours per year.</p>
<p style=”text-indent:.5in;line-height:200%”>The respondent, in a deficiency notice dated June 25 1990, noticed a deficiency in federal income tax in 1987 adding up to $4,244. The subject matter entailed determination of adequate charges to impose on termination of a stock ownership as an employee plan by a taxpayer. The petitioner argued that taxpayers have a right to include the averaging method for 5 or 10 years. The respondent justified the inclusion of the above distribution as a component of the taxable income in 1987. It is possible to extract a lump sum distribution from a qualified payment plan due to: death of an employee, attainment of the age of 59 &frac12; years, separation from service, and disability.</p>
<ol>
<li><b>Attorney General&rsquo;s Office</b></li>
</ol>
<p style=”text-indent:.25in;line-height:200%”>An Attorney General (AG) is a state officer mandated with playing a unique role of a minister. While working in the above capacity, the AG represents ministerial perspectives and interests during cabinet meetings. The AG is the chief law officer mandated to discharge duties by the council of executives. The role of the law officer differs from other state ministerial functions; it is judicial in nature and champions the interests of the public. The AG has unique obligations to the crown, court, executive, and the legislature; they have more responsibilities to the nation as opposed to their political counterparts.</p>
<p style=”text-indent:.25in;line-height:200%”>Section 5 of the Attorney General Act states that the AG shall oversee administration of public affairs in accordance to the governing laws and superintend upcoming matters.&nbsp; The officer gives advice to the government on matters of tax law and legislative enactment. The AG works in collaboration with IRS, which discharges duties under the Department of Treasury. They advise commissioners of IRS and the minister of finance, who has an authoritative role under the department of treasury. Moreover, the AG conducts and regulates litigations for the crown, ministry, or agency in respect to tax matters as provided by the laws. The AG also performs tax functions allocated to them by the legislature and council of governors.</p>
<p style=”text-indent:.25in;line-height:200%”>The Attorney General&rsquo;s Office ensures adherence to laws and regulations governing taxation, and it gives legal advice to the government on tax matters. The AG partakes in prosecution of tax offenders by enforcing the legal criteria of a matter of interest; the state office can also institute litigations on behalf of citizens. Additionally, the AG warrants that legislative enactment of tax issues abide by the principles of civil rights and natural justice; they also give advice to taxpayers over the legality and constitutionality of legislation.</p>
<p style=”text-indent:.25in;line-height:200%”>Loss generating entities became important in the 1980s as they offered tax shelters; taxpayers deducted losses from incomes accruing from other sources to reduce their taxable income. The AG&rsquo;s office identified the above practice as abusive; individuals invested in limited partnerships and real estate tax shelters that reported losses due to accruing expenses, such as depreciation and interest, to offset other real incomes gained from other sources. The derived taxes exceeded sums spent for tax shelters, hence reducing government revenues accruing from taxation of income.</p>
<p style=”text-indent:.25in;line-height:200%”>The enactment of rules pertaining to passive activity in 1986 offered a remedy to mitigating the adverse effects of the tax avoidance strategy. Section 469 of the I.R.C limited taxpayers from using business or rental losses to offset real incomes; it provides a special category of loss or income. The rules, despite also covering business activities, emphasized more on real rental income; they acknowledge this source of revenue as the primary form of tax shelter. It is easy to establish income and losses accruing from real estate rentals than establish material participation of a taxpayer in an income generating activity. In principal, passive activity regulations prevent a taxpayer from deducting passive losses from non- passive income; this lead to a stop of the abusive practice as they could no longer use the loophole to reduce or avoid tax expenses.</p>
<p style=”text-indent:.25in;line-height:200%”>The tax court works closely with the office of the Attorney General in order to bring sanity through justice. Tax evaders happen to be doing injustice to the legal process as they deny a nation its legal taxes. A tax evader bears the thought that he/she is obliged to pay up taxes but fails to do so. Another subset of the above group are people who promote as well as facilitate unrecognised tax shelter processes that end up defrauding the IRS. In addition, fraudsters tend to go against the laws provided through the use of fake documents. However, the office of the Attorney general has put up strict regulations relating to breaking of tax laws. In addition, the taxation process has been made more accountable through the use of computer software used to capture and relay information. Moreover, the Attorney General&rsquo;s office has emphasized on electronic payment as a means of curbing fraudulent activities. &nbsp;&nbsp;</p>
<p align=”center” style=”text-align:center;line-height:200%”><b>Conclusion </b></p>
<p style=”text-indent:.25in;line-height:200%”>In conclusion, the study commences with introducing passive activities and indicates characteristics of such losses or profits; it also gives the IRS definition of a passive activity. Noted in this section are the aspects of a non-passive activity and the study states examples of this type of undertaking. The researcher articulates ways of justifying material participation to avoid classification of income as passive during computation of tax. It states conditions that the taxpayer must meet to justify categorization of income as non-passive. The review highlights the history of taxation of income in the US and acknowledges the milestone of President Reagan following enactment of Tax reforms into law in 1986, which simplified the tax system in the US&nbsp;(Advisory Commison on Intergovernmental Relations, 1988). The research emphasizes how the legislation eliminated tax shelters, an abuse adopted by taxpayers in the 1980s to reduce their taxable income. It limits them from offsetting passive losses with non-passive income to reduce the amount of tax that they remit to the government. The researcher introduces the IRS, which is under the Department of Treasury. The study articulates duties of the agency and highlights its role in administration of IRC. It highlights how IRS collects revenues to finance the national budget and efforts in sensitizing the public to enhance the level of compliance and awareness of taxpayers. Noted in the review is how IRS adapts to emerging changes and trends in the tax environment. The researcher highlights how the IRC codes govern taxation in the US, which distinguishes passive and non-passive activities. The review also establishes metrics for determining material participation of a taxpayer in an activity. The study shows how publication 17 guides taxpayers in remitting income tax returns by articulating provisions for filling and standards for deduction; it also provides updates of the process and gives examples to enhance understanding of its application. Publication 925, on the other hand, indicates how to deduct loses upon successful establishment of the nature of activity. The researcher articulates provisions of IRC 469, which qualifies an activity as passive or non-passive. The study highlights the essence of both material and active participation in establishing the nature of an activity for tax purposes while acknowledging the influence of MAGI. The investigator analyses case laws that are in favour of IRS and those inclined to the advantage of the taxpayer. This enables the examiner gain more insight of passive and non-passive activities from a legal perspective. Furthermore, the examiner highlights the influence of the Attorney General&rsquo;s Office in differentiating passive and non-passive activities for purposes of taxation. It highlights the active roles of the state office, noting their contribution in cabinet meetings and upholding tax laws. Moreover, the research state the role of the Attorney General in administration of public affairs and abusers of the office.</p>

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