How One Investor Lost $22,000 in Rental Deductions by Choosing the Wrong Tax Strategy: The Foradis Case

If you're a real estate investor with a full-time job, the Foradis case should be required reading. It's a textbook example of how choosing the wrong tax strategy — even when a better one is available — can turn a perfectly valid rental loss into a completely disallowed deduction.

Let's break down what happened, why the Tax Court ruled the way it did, and what the taxpayer should have done differently.

The Facts

Timothy Foradis and Jessica Moore were Ohio residents who filed a joint federal income tax return for the 2020 tax year. Both held full-time W-2 jobs, reporting combined taxable wages of approximately $161,000, of which $78,000 was attributable to Mr. Foradis.

During 2020, Foradis personally constructed a carriage house on his property. Once construction was complete, he hired a rental management company on October 1, 2020 to manage the property. The management company handled cleaning, vetting prospective tenants, and providing security. The carriage house was rented out as a short-term rental beginning in October 2020.

On their 2020 tax return, the couple claimed a net rental real estate loss of $22,376 from the carriage house activity and deducted it against their non-passive W-2 income. The couple represented themselves in Tax Court (pro se — without professional tax or legal representation).

What Foradis Claimed

Foradis attempted to qualify as a Real Estate Professional under IRC §469(c)(7) in order to treat his rental losses as non-passive. His primary argument was that he had spent approximately 2,500 hours during 2020 constructing the carriage house, and that this time should count toward satisfying the real estate professional requirements.

By claiming Real Estate Professional Status (REPS), the goal was straightforward: reclassify the $22,376 rental loss as non-passive so it could be deducted directly against his W-2 wages.

The Two Tests He Needed to Pass

Under IRC §469(c)(7)(B), a taxpayer must satisfy two requirements to qualify as a real estate professional:

Test 1: More than one-half of the personal services the taxpayer performs in all trades or businesses during the tax year must be performed in real property trades or businesses in which the taxpayer materially participates.

Test 2: The taxpayer must perform more than 750 hours of services during the tax year in real property trades or businesses in which the taxpayer materially participates.

Both tests must be met. Failing either one means the taxpayer does not qualify.

Where It All Fell Apart

The Tax Court zeroed in on Test 1 — the "more than half" requirement.

Foradis worked a full-time W-2 job during 2020. Even assuming (without making a finding) that Foradis did perform personal services related to the rental real estate activity, the court concluded that he could not demonstrate that more than one-half of his total personal services across all trades and businesses were performed in real property trades or businesses.

The math simply didn't add up. A full-time W-2 job typically accounts for roughly 2,000 hours per year. For Foradis to satisfy the more-than-half test, his real estate hours would have had to exceed his W-2 hours — meaning he would have needed to credibly demonstrate well over 2,000 hours of real estate work on top of his full-time job. The court found his claim of approximately 2,500 hours on the construction project, layered on top of full-time employment, implausible.

Making matters worse, Foradis hired a property management company to handle the day-to-day rental operations once the carriage house was completed. This further undermined any argument that he was personally performing substantial ongoing services related to the rental activity.

Because Foradis failed Test 1, the court did not even need to evaluate Test 2 (the 750-hour minimum) or examine the credibility of his time logs and receipts.

The result: the $22,376 rental loss was reclassified as passive, meaning it could not offset the couple's W-2 income. The deduction was denied.

The Missed Opportunity: The Short-Term Rental Loophole

Here's where the case gets particularly frustrating for anyone watching from the sidelines.

The Tax Court itself acknowledged that the carriage house was operated as a short-term rental. Yet no argument was ever made related to the short-term rental exception under the passive activity rules.

Under IRC §469 and the associated Treasury Regulations, a rental activity where the average period of customer use is 7 days or fewer is not treated as a "rental activity" for purposes of the passive loss rules. Instead, it's treated as a regular trade or business activity.

This distinction is critical. If the carriage house qualified as a short-term rental (which the court's own language suggests it did), then Foradis would not have needed to qualify as a real estate professional at all. He would have only needed to demonstrate material participation in the activity — a significantly lower bar than REPS.

There are seven tests for material participation under the Treasury Regulations (Treas. Reg. §1.469-5T). Some of the more accessible tests for a W-2 employee include:

• The taxpayer participates in the activity for more than 100 hours during the year, and no other individual participates more than the taxpayer.

• The taxpayer participates in the activity for more than 500 hours during the year.

Given that Foradis was personally constructing the carriage house, documenting 500+ hours (or even 100+ hours with no other individual exceeding his participation) would have been far more achievable than trying to prove his real estate hours exceeded his full-time employment hours.

The short-term rental approach does not require the taxpayer to work in real estate more than any other occupation. It simply requires that the taxpayer materially participate in the specific rental activity — something Foradis, as the person who built the property himself, was likely well-positioned to demonstrate.

It is unclear from the case whether Foradis was unaware of the short-term rental exception, or whether the property did not meet the 7-day average stay requirement. Either way, no such argument was raised, and the opportunity was lost.

Key Takeaways for Real Estate Investors

REPS and a Full-Time W-2 Job Are a Dangerous Combination

The "more than half" test is the silent killer of REPS claims for W-2 employees. It requires that your real estate hours exceed the hours you spend at your day job — and at every other trade or business combined. If you work a standard 40-hour week, that's roughly 2,000 hours per year your real estate time needs to surpass. Courts are deeply skeptical of taxpayers who claim massive real estate hours on top of full-time employment, and rightly so.

Hiring a Property Manager Can Undercut Your Claim

If you're relying on personal participation to justify a tax position — whether for REPS or material participation — outsourcing the management to a third party works against you. The hours the management company spends are not your hours. If you need to establish participation in the first year, consider managing the property yourself.

Know Your Exit: The Short-Term Rental Exception

If your property has an average guest stay of 7 days or fewer, you may not need REPS at all. The short-term rental exception removes the property from the definition of a "rental activity" under the passive loss rules, meaning you only need to meet the material participation tests — not the far more demanding REPS requirements.

Documentation Matters — But Strategy Matters More

Time logs, receipts, and records are essential. Courts demand credible, contemporaneous documentation. But in the Foradis case, the court didn't even get to the documentation question. The strategy itself was flawed from the start. No amount of record-keeping can save a claim built on the wrong legal foundation.

Get Professional Guidance Before You File

Foradis and Moore represented themselves in Tax Court. While there's nothing wrong with self-representation in principle, the passive activity rules under IRC §469 are among the most complex provisions in the tax code. A qualified tax professional who understands the interplay between REPS, material participation, and the short-term rental exception could have identified the correct approach before the return was ever filed.

An amended return (Form 1040-X) may be an option within the statute of limitations — generally three years from the original due date — but once a case reaches Tax Court, the ability to change strategies becomes significantly limited.

The Bottom Line

The Foradis case is a cautionary tale, not because the taxpayer was trying to do something improper, but because the right strategy was available and wasn't used. The carriage house was a short-term rental. The taxpayer personally built it. The pieces were there for a successful non-passive loss claim — just not through Real Estate Professional Status.

Choosing the wrong path cost the Foradis household over $22,000 in denied deductions. The lesson is clear: in real estate tax planning, the strategy you choose matters just as much as the work you put in.