TaxProTalk.com

I have a question about a taxpayer that changes residency to another state and then subsequently frees up suspended passive activity losses.

Taxpayer resides in CA and owns rental property in NV. The NV rental incurs losses for several years that become suspended PALs on both their Fed & CA tax return. In 2018, the taxpayer moves to NV and moves into that rental property. The suspended PALs remain.

In late 2018, the taxpayer sells the property and reports a gain on the sale but also frees up those suspended former passive losses.

Because the taxpayer is a resident of NV at the time of the sale, the gain is excluded from their CA part year tax return.

What about those freed up PALs? Are those reported on their CA part year tax return since they were suspended for CA purposes on their prior CA tax returns?

I don’t think so. R&TC 17041(i)(3) requires a taxpayer who became a nonresident of CA to restate carryover losses as if the taxpayer was a nonresident of CA for all prior years. Since the suspended passive losses, when restated, are NV source, as a nonresident, they wouldn't offset CA source income.

There’s an example of this (Example 4) in section 3840 (page 58) of the FTB’s Residency and Sourcing Technical Manual (FTB 860) that appears to be on point. You can access the manual here:
https://www.ftb.ca.gov/aboutFTB/manuals ... m/3000.pdf

Excellent! Thank you.

I am pretty sure I knew this already... Maybe if they had moved to a taxable state I would have remembered...