REPS Tax Court Cases: Why Investors Lose (and Who Won)
REPS in Tax Court: What Actually Causes Investors to Lose (and the Cases Where They Won)
The Tax Court has been sending the same message to high-income real estate investors for two decades: claiming Real Estate Professional Status without credible documentation is a gamble you will probably lose. But the reason taxpayers lose is more specific — and more fixable — than "bad recordkeeping."
Under IRC §469(c)(7), REPS allows qualifying taxpayers to treat rental real estate losses as non-passive, so depreciation and operating losses can offset your W-2 salary, S-corp distributions, or business income. It's one of the most powerful strategies available. It also comes with a catch: the burden of proof is entirely on you.
What follows is a walk through the decisions that actually define this area — what each taxpayer claimed, what the court held, and what would have changed the outcome. I've included the taxpayer wins too, because they're more instructive than the losses and almost nobody writes about them.
The Cases at a Glance
| Case | Citation | Outcome | What decided it |
|---|---|---|---|
| Bailey | T.C. Memo. 2001-296 | Lost | Source of the "no post-event ballpark guesstimate" rule |
| Moss | 135 T.C. 365 (2010) | Lost | On-call time doesn't count; services must be performed |
| Kutney | T.C. Summ. Op. 2012-20 | Lost | Same on-call argument, same result |
| Leyh & O'Neill | T.C. Summ. Op. 2015-27 | Won | Genuine contemporaneous log, revised to add omitted travel |
| Gragg | 831 F.3d 1189 (9th Cir. 2016) | Lost | REPS status alone doesn't make losses deductible |
| Hailstock | T.C. Memo. 2016-146 | Won | Poor records, but credible testimony and no competing job |
| Zarrinnegar | T.C. Memo. 2017-34 | Won | Qualified despite running a dental practice |
| Penley | T.C. Memo. 2017-65 | Lost | Claimed hours weren't physically plausible |
| Windham | T.C. Memo. 2017-68 | Won | Documented both real estate hours and non-real-estate job hours |
| Hakkak | T.C. Memo. 2020-46 | Lost | Vague calendars; activities looked like an investor's |
| Dunn | T.C. Memo. 2022-112 | Lost | Vague logs, no aggregation election, two full-time jobs |
Case #1: Moss – Being Available Isn't Participating
Moss v. Commissioner, 135 T.C. 365 (2010) is the case most often cited in REPS content and most often described incorrectly. It isn't really a recordkeeping case. It's a case about what counts as an hour.
James Moss worked full-time as a nuclear technician at a power plant in New Jersey — about 1,900 hours a year — and owned rental properties in New Jersey and Delaware. He documented 645.5 hours of work on the rentals. That's short of the 750 he needed, and he knew it. So he argued that time he spent "on call" for the properties — available during non-work hours in case a tenant needed something — should close the gap.
The court said no, and the reasoning is worth reading closely. Section 469(c)(7)(B)(ii) requires the taxpayer to perform more than 750 hours of services. It does not say available to perform. Being reachable is not participating. Without the on-call hours, Moss fell short of 750, lost REPS entirely, and the court sustained an accuracy-related penalty under §6662 on top of the deficiency.
The court also noted that Moss had reconstructed his hours from a calendar after the year closed, and that the regulations don't permit a post-event "ballpark guesstimate" — a phrase that originates in Bailey v. Commissioner, T.C. Memo. 2001-296 and gets quoted in nearly every REPS case since.
The same on-call argument came back two years later in Kutney v. Commissioner, T.C. Summ. Op. 2012-20, where the taxpayer argued that managing rentals was a "truly full day activity" requiring him to be available all day, every day. The court disagreed, citing Moss.
Key takeaway: if your mental hour count includes time you were reachable rather than working, subtract all of it. Most investors are further from 750 than they think, and this is usually why.
Case #2: Penley – When the Math Stops Being Believable
Penley v. Commissioner, T.C. Memo. 2017-65 is the case that should worry anyone with a demanding day job.
Zane Penley worked full-time as a sterilization technician and sales account representative, logging 2,194 hours at that job in 2012. He and his wife also owned rental properties through an S corporation, handling tenant placement, finances, and repairs. To satisfy the more-than-half test, Penley needed to show more real estate hours than employment hours. He produced a log claiming 2,520 hours of real estate work.
Do that arithmetic and you get roughly 10 to 14 hours every Saturday and Sunday plus 4 to 6 hours most weekdays, on top of a full-time job. The court found the claim not credible, observing that the total wouldn't have left him time for meals, family, or anything else. It read the log as a rough estimate rather than an accurate daily record.
Once the court discounted the majority of the claimed real estate hours, Penley no longer satisfied the more-than-half test in §469(c)(7)(B)(i). The passive losses were disallowed and a 20% negligence penalty was assessed.
What's instructive here is that Penley lost on plausibility, not on missing documents. He had a log. The log described a year no human being could have worked. A time record that's too good is worse than one with gaps in it, because it invites the court to disbelieve the whole thing.
Key takeaway: the more-than-half test is usually the binding constraint, not the 750 hours. And if your log implies you worked 4,700 hours in a year, an examiner will notice before you do.
Case #3: Hakkak – Hours That Look Like an Investor's Don't Count
Hakkak v. Commissioner, T.C. Memo. 2020-46 is the case that gets closest to a problem most investors don't know they have.
Zaid Hakkak practiced law through a wholly owned firm and held ownership interests in LLCs holding rental real estate. To substantiate his hours he produced handwritten calendars plus a stack of supporting material — emails, lease agreements, bank and credit card statements, invoices, loan and insurance documents, property tax records.
He lost on the hour tests. The court found his trial testimony vague, the handwritten calendars short on specifics about what services were performed and how many hours went to each activity, and — a detail worth flagging — he never provided the hours he spent on his legal work, which was generating significant income. You can't win the more-than-half test without documenting the other half.
But the court went further, and this is the part worth sitting with. Even assuming the hour tests were satisfied, it found Hakkak's activities were largely "more akin" to those of an investor than an operator, citing Treas. Reg. §1.469-5T(f)(2)(ii) along with Antonyshyn, T.C. Memo. 2018-169 and Barniskis v. Commissioner, T.C. Memo. 1999-258. Under that regulation, work you do in your capacity as an investor doesn't count toward material participation unless you're directly involved in day-to-day management. The regulation specifically names reviewing financial statements, preparing analyses of the finances for your own use, and monitoring operations in a non-managerial capacity.
The court was also blunt about uncorroborated testimony, citing Shea v. Commissioner, 112 T.C. 183 (1999) and Tokarski v. Commissioner, 87 T.C. 74 (1986). Self-serving testimony without documents behind it doesn't move the needle.
Key takeaway: hours can be real, documented, and still not count. If a year of your log reads "reviewed financials" and "monitored performance," you've documented investor activity, which is the one category the regulation explicitly excludes.
Case #4: Gragg – REPS Status Is Not Self-Executing
Gragg v. United States, 831 F.3d 1189 (9th Cir. 2016) corrects a misunderstanding that costs investors more money than any documentation failure.
Delores Gragg was a licensed real estate agent working full-time for a brokerage. She and her husband deducted roughly $38,000 and $40,000 in rental losses across 2006 and 2007. On audit, they submitted documents establishing that Delores qualified as a real estate professional under §469(c)(7) — and argued that this alone made the rental losses non-passive and fully deductible, with no separate showing of material participation required.
The Ninth Circuit rejected it. Section 469(c)(7) removes rental activity from the per se passive rule in §469(c)(2). It does not remove it from the general rule in §469(c)(1), which makes any activity you don't materially participate in passive. Qualifying as a real estate professional gets you a chance to prove material participation. It doesn't substitute for it.
When the IRS asked for a written log of rental-related activities, the Graggs submitted two undated one-page notes estimating Delores's hours for 2006. That was the whole substantiation record.
Key takeaway: REPS and material participation are two separate hurdles and you have to clear both. Clearing the first one convincingly buys you nothing if you can't clear the second.
Case #5: Dunn – Two Logs, No Election, No Deduction
Dunn v. Commissioner, T.C. Memo. 2022-112 is the most ordinary fact pattern on this list, which is why it's worth including.
A husband and wife owned rental properties individually and through a real estate development LLC. The LLC hired outside consultants to collect rents, show apartments, and manage its property; the couple directly managed everything else. They kept two logs — one for the LLC property, one for the individually managed ones. Both held full-time jobs as computer specialists.
They lost. The court found the logs vague and misleading about time spent and who performed which tasks — the consultants' work and the owners' work weren't cleanly separated. And with full-time jobs outside real estate, neither taxpayer could establish 750 hours individually.
There's a procedural failure layered on top: they never made an election to aggregate their rental real estate activities into a single activity under Reg. §1.469-9(g). Without it, material participation has to be established property by property, which is close to impossible across a portfolio.
Key takeaway: a log that doesn't distinguish your hours from your contractors' hours isn't evidence of your participation. And if you own multiple rentals without a grouping election on file, you've made the case against yourself harder than it needs to be.
The Cases Where Taxpayers Won
Almost every article on this subject stops at the losses. The wins are more useful, because they show where the line actually sits.
Windham v. Commissioner, T.C. Memo. 2017-68 was decided three days after Penley and came out the other way on nearly the same question. Patricia Windham was a part-time stockbroker who managed all aspects of 12 rental properties — finding tenants, collecting rent, coordinating repairs, maintaining insurance and services — and kept records detailing her activity. The court accepted her hours and held she qualified. The difference from Penley wasn't the volume of documentation. It was that her claimed hours were reasonable, and she documented her non-real-estate work too, so the more-than-half comparison could actually be made.
Zarrinnegar v. Commissioner, T.C. Memo. 2017-34 is more surprising: the taxpayer qualified as a real estate professional while running a dental practice alongside his spouse. It's a direct rebuttal to the idea that a professional practice automatically disqualifies you. It doesn't. It just means the more-than-half test becomes very hard, and you'd better be able to document both sides of it.
Leyh & O'Neill v. Commissioner, T.C. Summ. Op. 2015-27 is the one that surprises practitioners. Ellen O'Neill handled 12 rentals — repairs, maintenance, tenant vetting, paperwork, bookkeeping. Her log at audit showed 632.5 hours, under the threshold. She revised it to add travel time she'd omitted, bringing the total to 846, and the court accepted the revision. The IRS argued reconstructed records should be rejected, citing Bailey, Speer (T.C. Memo. 1996-323) and Goshorn (T.C. Memo. 1993-578). The court distinguished those cases: O'Neill wasn't inventing a record after the fact, she was correcting a genuine contemporaneous log that had left out a real category of time. She argued the case pro se and won.
Hailstock v. Commissioner, T.C. Memo. 2016-146 goes further still. Beth Hailstock left her job with the City of Cincinnati and acquired more than 30 rental properties between 2005 and 2009. She spent 40+ hours a week on the venture with no other employment — and kept no time records at all. The court accepted her oral testimony and held she qualified.
Read Hailstock and Penley together and the pattern is clear. Hailstock had no records and no competing job, and her account was plausible on its face. Penley had records and a 2,194-hour job, and his account wasn't. Courts are weighing credibility, and documentation is how you establish it when your facts aren't self-evidently believable. If you have a demanding W-2 job, your facts are not self-evidently believable.
What These Cases Have in Common
Six failure patterns account for nearly every loss:
Counting availability instead of work. Moss and Kutney both turned on this, and it's the correction that most often moves an investor from "I'm well over 750" to "I'm at 500."
Reconstructing after the fact. Bailey gave us the phrase, and it's been quoted ever since. Note the nuance from Leyh, though: correcting a real contemporaneous log is different from building one from memory.
Claiming hours that aren't physically possible. Penley. The court doesn't need to disprove each entry — implausibility in the aggregate is enough.
Logging investor activity as participation. Hakkak. Reviewing financials, monitoring performance, analyzing the portfolio — all excluded by §1.469-5T(f)(2)(ii).
Failing to document the other side. Hakkak never produced his legal-practice hours; Windham did produce her stockbroker hours. The more-than-half test is a ratio, and you have to prove both halves.
Not separating your hours from everyone else's. Dunn. If your log doesn't distinguish your work from a consultant's or a property manager's, it isn't evidence of your participation.
What to Do About It
Log as the work happens, with the date, property, activity type, duration, and a specific description of what you actually did. Reg. §1.469-5T(f)(4) doesn't require daily logs — participation may be established by any reasonable means, including appointment books, calendars, or narrative summaries. But the flexibility is about format, not timing. Bailey and Moss both make clear that a reasonable means is not a retroactive estimate.
Track your non-real-estate hours too. This is the step almost everyone skips, and it's the one that decided Hakkak and Windham in opposite directions. If you can't show what your day job consumed, you can't prove real estate was more than half.
Separate operational work from investor work in your log. Invoicing, paying vendors, coordinating repairs, and reconciling the operating account are operational. Reviewing your P&L to see how the property performed is investor activity under §1.469-5T(f)(2)(ii). Tagging these differently as you go is far easier than untangling them in an exam.
Separate your hours from everyone else's. Ask your property manager, cleaner, and regular contractors for their hours in writing during the year.
File the grouping election if you own multiple rentals. Under Reg. §1.469-9(g), it must be attached to your return as a statement — not filed on Form 8582 — and it's binding for future years unless circumstances materially change. Without it you're proving material participation property by property, as the Dunns discovered.
Keep the supporting material. Calendars, receipts, contracts, tenant and vendor correspondence, bank statements, photos. The IRS Real Estate Audit Techniques Guide lists these as the evidence examiners look for.
Across the REPSShield platform, 404 users have logged roughly 28,000 hours across 678 properties, with an average time entry of 1.94 hours. That granularity — a specific activity, a specific property, a specific duration — is what the entries in a defensible log look like. Round numbers and monthly summaries are what the entries in a rejected one look like.
FAQs
Q: What is the most common reason the Tax Court denies REPS status? A: Failure to substantiate the hour tests with credible evidence. But "credible" covers more than volume of paperwork. Courts have rejected claims because the hours weren't physically plausible (Penley), because the activities were investor rather than operational (Hakkak), because on-call time was counted (Moss), and because the taxpayer's hours weren't separated from a contractor's (Dunn).
Q: Do on-call hours count toward the 750-hour test? A: No. Moss v. Commissioner, 135 T.C. 365 (2010) held that §469(c)(7)(B)(ii) requires services to be performed, not merely available to be performed. Kutney, T.C. Summ. Op. 2012-20 reached the same conclusion.
Q: Are reconstructed logs ever accepted? A: Rarely, and the distinction matters. Courts consistently reject logs built from memory after an audit notice — Bailey, Speer, Goshorn. But in Leyh & O'Neill, T.C. Summ. Op. 2015-27, the court accepted a revision to a genuine contemporaneous log that had omitted travel time. Correcting a real record is not the same as manufacturing one.
Q: If I qualify as a real estate professional, are my rental losses automatically deductible? A: No. Gragg v. United States, 831 F.3d 1189 (9th Cir. 2016) held that §469(c)(7) removes the per se passive rule but leaves the general material participation requirement intact. You have to clear both hurdles.
Q: Can my spouse's hours count toward my REPS qualification? A: Not for the hour tests. IRC §469(c)(7)(B) provides that on a joint return the requirements are met "if and only if either spouse separately satisfies such requirements" — one spouse must clear both the 750-hour test and the more-than-half test alone. Spousal hours do count toward material participation under §469(h)(5), which is a different test. A lot of published guidance has this backwards.
Q: Do short-term rentals automatically qualify for REPS? A: No, and they're a separate analysis. A property averaging seven days or less of customer use isn't a "rental activity" under Temp. Reg. §1.469-1T(e)(3)(ii)(A), so it can produce non-passive losses on material participation alone, without REPS. But it also can't be swept into a §1.469-9(g) grouping election. See REPS vs. STR Loophole for the full comparison.
Q: Can I be penalized for claiming REPS incorrectly? A: Yes. Accuracy-related penalties under §6662 were sustained in Moss and assessed at 20% in Penley. Losing the deduction is the floor, not the ceiling.
Q: What records should I keep to prove REPS status in an audit? A: Contemporaneous time logs with date, hours, activity type, property, and a description of the work; records of your non-real-estate working hours; appointment calendars; receipts for travel and expenses; contracts and leases; tenant and vendor correspondence; bank statements; and your grouping election statement if you filed one.
Q: What happens if I lose REPS status after an audit? A: Rental losses previously claimed as non-passive become passive, which can mean back taxes, interest, and penalties. The losses aren't destroyed — under §469(g) suspended passive losses are released when you dispose of your entire interest in the activity in a fully taxable transaction to an unrelated party — but the benefit is deferred, potentially by years.
Every One of These Taxpayers Had Hours
That's the part worth sitting with. Moss did the work — 645.5 documented hours of it. The Graggs owned and operated rentals for two years. Hakkak managed real property through multiple LLCs. Penley genuinely spent his weekends on his properties.
None of them lost because they weren't working. They lost because of what they counted, what they couldn't separate, and when they wrote it down.
REPSShield captures your real estate hours as the work happens — from Gmail, calendar, geofenced property visits, and manual entry — with the date, property, activity type, and duration attached to each entry, and operational work logged separately from investor-capacity work.
Start tracking your hours with REPSShield
This article is educational and is not tax or legal advice. Case outcomes depend heavily on specific facts. Consult a qualified CPA or tax attorney about your circumstances.
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