Individual taxation
The Loss Limitation Ladder
A loss must clear three gates in order: basis, then at-risk, then passive, and only a full disposition frees what is suspended.
How the exam words it
- -The stem gives a passthrough owner's basis and a loss and asks how much is currently deductible.
- -The at-risk amount differs from basis because of nonrecourse debt.
- -A rental or passive activity produces a loss and it asks whether the $25,000 active-participation allowance applies.
- -The activity is sold and it asks what happens to the suspended losses.
The playbook
- 1Run the gates in order: a loss is limited first to stock and debt basis, then to the amount at risk, then by the passive activity rules.
- 2Reduce basis and the at-risk amount by the deductible loss; anything blocked at a gate carries forward to a year with more basis or at-risk amount.
- 3Allow up to $25,000 of rental real estate loss against active income when the taxpayer actively participates, phasing out between $100,000 and $150,000 of AGI.
- 4Release all suspended passive losses when the taxpayer disposes of the entire activity in a taxable sale to an unrelated party.
The trap
Skipping straight to the passive rules. A loss must first survive the basis and at-risk limits, and nonrecourse debt often adds basis but not at-risk amount.
How the exam varies it
The same pattern, re-skinned along these axes:
Which gate: basis, at-risk, or passiveThe $25,000 active-participation allowance and its phase-outSuspended loss carryforward versus release on a full disposition
Drill this pattern
8 questions of The Loss Limitation Ladder from across the AUD topics. Clear it by getting 5 right with a streak of 3.