Grouping and Separate Activities under section 469 of the Internal Revenue Code

Summary

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Podcast Summary: How Tax Works

Episode 36: Grouping and Separate Activities under Section 469

Host: Matthew Foreman, Co-Chair, Falcon Rappaport & Berkman’s Taxation Practice Group
Date: September 29, 2025

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Overview

In this episode, Matthew Foreman dives into the tax law landscape surrounding grouping and separate activities under Section 469 of the Internal Revenue Code, commonly known as the passive activity loss (PAL) rules. The discussion aims to demystify how and when different trades or businesses should be combined or kept separate for tax purposes, as well as the practical and regulatory implications of those choices. Foreman provides real-life examples, regulatory context, and practical advice for tax professionals, business owners, and anyone interested in tax law intricacies.

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Key Discussion Points & Insights

1. What is Grouping under Section 469?

• Single Economic Unit Concept
  • Activities are treated as a single trade or business if they form an “appropriate economic unit”—meaning they are integrated and interrelated, and conducted in coordination with or in reliance upon each other.
  • Taxpayers are allowed to use “any reasonable method” for grouping (as supported by the 1986 Senate report).
  • Quote: “One or more trade or business activities treated as a single activity if the activities constitute an appropriate economic unit.” — Matt Foreman [02:00]

Factors to Consider in Grouping (per Treasury Reg. 1.469-4(c)(2)):

• Similarities/differences in trades or businesses
• Common control and ownership
• Geographical proximity
• Interdependencies:
  • Cross-selling goods/services
  • Joint customers
  • Shared bookkeeping/recordkeeping
• Quote: “What the IRS and the Treasury Department are trying to get out of this... is the extent to which you view it as a single business.” — Matt Foreman [03:33]

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2. Illustrative Examples of Grouping

• Grouping Allowed:
  • Two partnerships: one sells non-food items to grocery stores, the other owns a trucking business. Under “common control,” this could be a single business if the facts support integration. [04:45]
• Grouping NOT Allowed:
  • Airplane charter used by a real estate developer simply for travel: not considered a single economic unit (Brumbaugh TC Memo 2018-40). [05:00]
  • Quote: “Just because you use one business for another does not group them.” — Matt Foreman [05:27]

The Reasonableness Standard

• The IRS can’t change a reasonable grouping, even if it’s not the ‘best’ or a ‘perfect’ method.
• Quote: “It doesn’t matter whether it’s the right grouping. It matters whether... it is a reasonable grouping.” — Matt Foreman [05:27]

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3. Limitations and Prohibited Groupings

Key prohibitions (with examples from the 1986 Senate report and Blue Book):

• Rentals vs. Trade or Business:
  • Rental activities generally cannot be grouped with an active trade or business.
  • Example: Automobile leasing and automobile manufacturing—cannot be grouped.
  • Travel agency using three floors of its own ten-floor building and leasing the rest—not groupable.
  • Rental apartment vs. hotel—cannot be grouped even if under common control.
• Quote: “The key is whether the grouping is reasonable... I’ve had successful audits with it.” — Matt Foreman [08:06]

Exceptions to the General Prohibition

Grouping may be allowed:

• If the rental activity is insubstantial in relation to the trade or business, or vice versa (e.g., a travel agency owning four floors, using three, and renting out one).
• If all owners of the trade/business also proportionately own the rental.
• Rental of real/personal property together (ex: furnished apartments)—allowed only if the personal property is ancillary to the real property.

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4. Special Rules and Further Limitations

• Limited Partners cannot group with activities unless they are actively involved in management.

  • Quote: “Only people actively involved in the business can group.” — Matt Foreman [10:34]

• Publicly traded partnerships (PTPs): Each is a separate activity.

• Oil/gas working interests: Always separate unless specific exceptions apply.

• Trading activities: Can’t be grouped to manipulate interest deduction limits under 163(j).

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5. Consistency & Disclosure Requirements [12:27]

• Rev. Proc. 2010-13:
  • Outlines exactly how groupings must be disclosed to the IRS.
  • Once you group, you can only regroup if there’s a material change in facts and circumstances or the original grouping was “clearly inappropriate.”
  • Quote: “Once grouped, you cannot regroup unless there is either a material change in facts or the grouping was clearly inappropriate...” — Matt Foreman [12:50]
• Filing Implications:
  • For partnerships/S corps, disclosures are made on Form 1065/1120S schedules.
  • If a partnership groups, a partner cannot create a different grouping.
  • Mistakes can be corrected via Rev. Proc. 2010-13, Sec 4.07, which allows retroactive corrections.
  • “If the partnership groups, the partner may not ungroup or change the grouping.” — Matt Foreman [15:05]
• IRS Regrouping Authority:
  • The IRS rarely invokes its authority to regroup, only if grouping is “not an appropriate economic unit” and the principal purpose is to circumvent Section 469.

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6. Final Practical Notes

• Disposition of Activities:
  • Selling an entire activity frees up the associated passive losses.
  • Partial dispositions only release a proportionate amount; “substantially all” must be sold to fully unlock losses. 50% is NOT enough; think 80% or more.
  • Quote: “Define substantially all narrowly. 50% is not substantially all. 80%, yeah, 60% maybe, but 80% more so.” — Matt Foreman [18:33]

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Notable Quotes & Memorable Moments

• On grouping standards:
  “It doesn’t matter whether it’s the right grouping. It matters whether... it is a reasonable grouping.” — Matt Foreman [05:27]

• On IRS audit focus:
  “They’re actually more focused on substantiating hours, which I find generally is actually the bigger problem.” — Matt Foreman [17:05]

• On practical compliance:
  “If there’s one thing that anyone who interacts with the IRS will tell you, it is that if you do what the IRS tells you to do, they will be happy.” — Matt Foreman [12:50]

• On grouping mistakes:
  “Once grouped, you cannot regroup unless there is either a material change in facts... or you made a whoopsie do.” — Matt Foreman [12:50]

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Timestamps for Important Segments

• [02:00] – Defining “appropriate economic unit” and overview of grouping tests.
• [03:33] – Factors for grouping under IRS regulations.
• [04:45] – Groupable vs. non-groupable real-life examples.
• [05:27] – Reasonableness standard in grouping and IRS audit approaches.
• [08:06] – Rental and trade/business grouping prohibitions with NY real estate examples.
• [10:34] – Limited partners and grouping—restrictions and definitions.
• [12:27] – Consistency and disclosure requirements, how to report groupings.
• [15:05] – Partnerships, K-1 disclosures, partner limitations.
• [17:05] – IRS regrouping authority and practical audit focus.
• [18:33] – How passive losses are freed up upon sale or partial sale.

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Tone & Style

Matt Foreman’s tone is approachable and conversational, mixing technical depth with humor (“whoopsie do,” “big honker,” “my battleship”) and practical anecdotes. He emphasizes reasonable compliance, real-world pitfalls, and how to efficiently interact with IRS procedures.

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For listeners looking to grasp the essentials of Section 469 grouping and separate activities, this episode serves as a practical, example-driven guide, full of technical insights and real-world advice.

Transcript

[A]

Foreign welcome to the 36th episode of How Tax Works. I'm Matt Foreman. In this episode, I'll discuss grouping and separate activities under section 469 of the Internal Revenue Code. That's passive activity loss rules. But these general rules also also encompass 465, 199 cap. A grouping is pretty universal. Anyway, How Tax Works is meant for informational and entertainment purposes only. This may be attorney advertising and it is not legal advice. Please hire your own attorney. How Tax Works is intended to help listeners navigate through intricacies and complexities of tax law, regulations, case law, and guidance to demystify how taxes shape the financial and business decisions that we all make. Right before we start, get some administrative stuff out of the way. New episodes in two weeks. The next episode is going to talk about. I don't, I don't really know how to how to title it yet, but it's based off the prompt that my cousin asked me. He said, why do people say this? If you win the lottery, the first thing you should do is call a tax attorney.

[B]

Why?

[A]

And I'm going to try to answer that question. But you know, we'll see how that goes. If you have any questions, comments or constructive criticism, you can email me at my FRB email address, which you can find via your favorite search engine. Upcoming Webinars I have four webinars. They are free. They are on Thursdays in November and December. They're at 1 o' clock Eastern Time. The topics are 11-6-C allocations November 20th is succession planning at the margins using profits interests not as at the margins as some as it the title may suggest. December 4th Stock Sales Taxes asset sales Also going to talk about, you know, in that 338 channel elections sale of subsidiaries December 18th changes to qualified small business stock section 1202 under OB thrice is what I'm calling it. All right, so now we're talking about grouping and separate activities under section 469. One or more trader business activities treated as a single activity if the activities constitute an appropriate economic unit. You have to look at the relevant facts or circumstances and the taxpayer may use any reasonable method when grouping according to a 1986 Senate report. All right, so not that recent. What undertakings consist of an integrated and interrelated economic unit conducted in coordination with or reliance upon each other are to be considered a single economic unit. All right, so what does that mean? All right, undertakings integrated and interrelated economic unit conducted in coordination with or conducted in reliance upon each other. That is a Single economic unit. There are factors for this. They're in the regulations. All right, Treasury Reg. 1.469 dash 4C.2 similar you look at. Here's what you look at.

[B]

All right.

[A]

The similarities and differences in types of a trade or business. The extent of common control, the extent of common ownership, geographical location, specifically proximity and the interdependencies between or among the activities. Such as the extent to which. One, the activities purchase and sell goods between and among themselves. Two, they involve products or services normally provided together. Three, they have the same or very similar customers. Same is a tough one, but very similar.

[B]

Right.

[A]

And four, accounted for with a single set of books and records. What the IRS and the Treasury Department are trying to get out of this, this analysis is the extent to which you view it as a single business. You, the business owner and the extent to which you treat it as a single business. And the extent to which a reasonable person who is very disinterested would view this as a single trade or business. Right. To be grouped. Excuse me, a single economic unit. We're talking about economic. We're hearing about a lot of units, right? The big unit, right. Randy Johnson. All right, before we get into examples. All right, lots of examples. Let's get some music in here. Come back in a sec. All right, we're back with examples. There are many examples. Many, many examples. Many, many, many, many, many, many, many examples. There's a lot of case law on this. There's a lot of stuff. I'm not going to go through it all because I'm only doing this in 20 minutes and I don't think it's that interesting. But I think a lot of them go into it.

[B]

Right?

[A]

So two partnerships under common control. One sells non food to grocery stores. One owns and operates a trucking business.

[B]

Right?

[A]

This is a single business. The key is whether, you know one, it could be a single business. Would it be reasonable to sell non food items to the grocery store and have your own trucks?

[B]

Yeah, right.

[A]

Treasury Regulations 1.469434 c.3. Example 2, the second one, an airplane charter and a real estate developer. He used the chart. He chartered the airplanes to visit sites. Not a single business. That's Brumbaugh TC Memo 2018 40. Really, really, really, really, really, really, really important. Just I have seen people group charter airplane businesses in with other businesses. Just because you use one business for another does not group them.

[B]

Right.

[A]

Three, the this is not really an example, but it's an important point, right? The IRS cannot change a reasonable grouping. Harding Hard D 201634022 the key isn't whether it's the best grouping. The key is whether the grouping is reasonable. I often talk to clients about this because the IRS in audit and I've dealt with this enough. 469 audits over the years that I've dealt with this. The IRS will be like, well, we have to see if it's the right grouping. And I respond, friend, thank you for your message. It doesn't matter whether it's the right grouping. It matters whether it's the or the best grouping. It matters whether it is a reasonable grouping. And I cite that and I have never had the IRS push back on that. I suspect, expect that even if you did not push back on it and you had a reasonable grouping, they would let it go. And they would let it go for one specific reason. They don't want to lose as to what is a reasonable grouping because every time they lose, it gets chipped away and it's harder for them to audit. So they'll phrase it poorly. But I suspect they'll come to the right conclusion. There are also many limitations on grouping.

[B]

Right.

[A]

The first one, the big one, the big honker rentals and the trader business activity, you generally cannot group rentals with a trader business. Treasury Regulations 1.4694 d.1 Romanet 1 Romanette 1 For those who haven't listened before, is that little I right? Number two in the 1986 Senate report. Also in the 1986 Blue Book. Yes. For those wondering, yes, I really do read Senate reports and blue books as part of this. You know, you find examples, you read in history and you sit down and you read it. I do prepare for these. It may not sound like it sometimes, but I do. There's no so, you know, going through it. So an example in the 86 Senate report. 86 Blue Book is an automobile leasing and an automobile manufacturing. That is no group. Thought that was really interesting, but nope, no dice there. Number two, a travel agency owns a building that's 10 floors, uses three of them and leases the other seven. Nope, not a group. Not a group at all. The next one is the a rental apartment building and a hotel. Not a group. Not a group. Thought that was a really interesting one. I get clients all the time who have residential buildings and commercial buildings or if you live and, you know, you rent in a city. Right. I always think about New York, where I live. But if you've ever spent any time in New York, you'll see that there are a Lot of buildings. Not so much in Midtown, although it does exist in Midtown a little bit, but less so the more residential areas, SoHo, whatever, the first floor is almost always commercial. Okay. And then the second floor and above, you know, sometimes first two are commercial.

[B]

Right.

[A]

Madison Avenue has a lot that are like two commercial than residential or whatever, where they'll have it in one building, residential, commercial. But there's a number who have some straight commercial buildings and some residential buildings. And the question is whether they can be grouped. And it's a question again. And I always go back to this. Is the grouping reasonable? I've had successful audits with it. So clearly the IRS is, is going to look at it.

[B]

Right?

[A]

And it's not just, you know, between how the buildings are done, it's also how you look at it. And I always talk about that. How do you look at it? And people say, well, you know, each building has a P and L ledger. That's fine. How's it reported? Is it consolidated up? How's it reported for tax return purposes? Has a return for audited financials. A lot of these have a lot of debt on them. So banks want to see it. How's that viewed?

[B]

Right.

[A]

Exceptions to the general prohibition. So rentals and a trade or business activity, these are exceptions to prohibition. So these are things where grouping is permitted if the rental activity is insubstantial in relation to the trade or business. Okay. So you know, you're, you are renting space, but the trader business is really it. You know, that one's really interesting. I go back to that travel agency. If they owned four floors, they used three, and one of them they rented out, I bet you you could group it. So. So they kind of sunk their boat there, right? My battleship two. If the trader business is insubstantial in relation to the rental activity, again, I go back to the travel agency owning the building. So if that were they used one floor and rented nine, I bet that's okay. If each owner of the trade or business has some proportionate ownership in the rental, has the same proportionate ownership in rental activity. So that that is an exception. You still need other stuff to kind of work out there, but, you know, it's not that bad. Rentals of real estate, this. The second limitation is a rental of real estate and a rental of personal property at the same time generally not allowed. The exceptions are where the personal property is provided in connection with the real property and vice versa. The example they give is a furniture rented with an apartment. Thought that was a really interesting one. You know, look, the furniture could be a pretty big chunk of the thing. You know, I've never, I've never rented a furnished apartment before. I guess my dorms were in college, if I think back to that. So maybe that was. But not for profit entities. So it didn't really matter. So that's something you want to do, you know, is it substantial? And that's the key, right? You're really renting the real estate so the personal property's ancillary. Next one, you can't group if the limited partners or persons are not sufficiently involved in management.

[B]

Right.

[A]

So if you're a limited partner, you can't group activities. You know, I think this makes sense, right, because only people actively involved in the business can group. So that's it. So the way this is defined is if you are a limited entrepreneur. That's the term they use, say you can't group. Limited entrepreneur is defined as any person other than limited partner who does not actively participate in the management of the enterprise. IRC461K4. There are additional limitations on this. This is some really mechanical stuff. So I know it's really exciting. Each publicly traded partnership is its own activity from K1 or oil and gas is not passive but it is separate from any other activity, from any other activity that is not related to the oil and gas working interests. All right, that's in the 1986 Senate report. So kind of a loose one there. No code, no regs. But 86 senate report is kind of tough to do. Very taxpayer friendly. IRS to my knowledge, has not, I actually looked this up, has not challenged it in a meaningful sense. And if it has, no one has litigated it. So I don't know. And finally, additional limitations. You can't group trading activities to prevent 163 limitation issues. Treasury regulation 469 4d6. So you can't group trading activities. You must split the interest for 163J between partners who materially participate and those who don't. Right. So you're not going to group trading activities to deal with 163J. So if you have one activity has a whole lot of debt and a lot of interest payments, you can't really group it with the other one simply to get 163J. So that may be an exception to the rule that any retail reasonable one is done because it may not be reasonable and that may push it out. All right, let's get some music in and then we'll bring this bad boy home.

[B]

All right.

[A]

Hope you enjoyed the. The final little musical bit. Bringing it, bringing us down. Bad boy home right now. So consistency and disclosure requirements are really, really important. Revenue procedures 2010-13 has reporting requirements for the grouping procedures. If you are preparing a return and you are doing it for the first time or the second time or the third time, I would not be averse to the idea that you read RevProc 20 because it's important, it is very detailed, and it is the IRS telling you explicitly what it wants. And if there's one thing that anyone who interacts with the IRS will tell you, it is that if you do what the IRS tells you to do, they will be happy. And if you don't do what the IRS tells you to do, and in fact you do something else, they will be grumpy and they will not like you from the start. Right, so let's talk about the requirements in RevProc 2010 32. Once grouped, you cannot regroup unless there is either a material change in facts and circumstances or the grouping was clearly inappropriate, which is under Treasury Regulation 1.4. So basically, material change in facts and circumstances, or you made a whoopsie do, right, and you're correcting it and you're required to correct it. Right, you have a whoopsie doo. I know I'm using very technical terms there, but if you have a mistake, you have to do it right. And the phrase they use is clearly inappropriate. That doesn't mean not perfect. Again, reasonable is okay. Perfect not required. Number two, if group are grouped within the partnership. In S Corp, you don't use Revenue Procedure 2010-13. You disclose per instructions in Form 1065 or 1120s, as appropriate. If you have a partnership that owns five businesses and you're grouping five of the businesses or three of the businesses you actually disclose in the instructions in the 1065. Same rule for S Corps. I have seen people in situations say, hey, my accountant, you know, my old accountants and moron, you know, he's, he's, he's dumb. He used RevProc 2010 13, not the instructions in the 1065. Do I have to disclose? The technical answer is probably yes. I would make the argument as long as it was properly disclosed in the partnership return, albeit not perfectly, I would say you're probably okay. Really what the IRS is looking for here is a certain set of information. They don't terribly care how. They just want to make sure they get that information. I know I said do what the IRS said, but, you know, we're all human. We're going to make mistakes, as I tell our associates, so it's best to just look, did I do it right? If you have to come clean to fix it, fix it. Be honest. Might not trigger an audit. You know, these days, who knows? There are rules around grouping information. There are rules around how you put the grouping information into your partnership partners. K1s.

[B]

Right.

[A]

If the partnership groups, the partner may not ungroup or change the grouping. That's in RevProc 2010 13. So we all sign. And anyone in partnership signs testing. You know, you won't do anything different than the partnership says. If the partnership does a bad grouping, you're actually not allowed to do it. You're not allowed to change it. How do I say this politely? However, if it is wrong, you are actually required to not follow it and you are required to group it or ungroup it yourself.

[B]

Right.

[A]

So what happens if you're not so. So it's important to note you have to of course, disclose that to the irs. You're effectively causing an audit. So don't, don't take that lightly. Talk to, talk to a tax professional about it. What to do if you didn't comply with RevProc 2010-13, they are all separate activities and you may be able to fix it. Section 4.07 in RevProc 2013-10 allows for a way to you to basically retroactively correct what you did, regroup or just sort of fix how it was done. Highly recommend finding that one, the IRS may regroup and it requires both.

[B]

Okay.

[A]

The rules for this, this is in treasury regulation 469 for one. And this is, you know, any of these.

[B]

Right.

[A]

Any of the activities from the taxpayers grouping is not an appropriate economic unit. Appropriate.

[B]

Right.

[A]

It only has to be reasonable. And, and the. A principal purpose, not V, but a principal purpose of the taxidermist grouping or failure to regroup under Treasury Regulation 4E is to circumvent the underlying purposes of 469. So if you grouped to get around 469, then, then that, then that's allowed. You know, as I always say, a mistake maybe.

[B]

Right.

[A]

You need a principal purpose. The IRS regrouping authority is used infrequently. It's in the preamble to treasury decision 8565, which are the regs under 469.4F. I actually think that's true. I really do. I've dealt with situations where the IRS has, where you have some less than stellar grouping and the IRS is pretty reasonable about it. You know, know, again, it's a high bar.

[B]

Right.

[A]

They could, they're going to regroup if any of the activities are not part of an appropriate economic unit. And the principal purpose of the taxpayers grouping or failure to regroup is to circumvent, you know, the underlying purposes of 469. That's a pretty high bar. The group only has to be reasonable, not perfect, et cetera, et cetera. So I think this is one where the audits are more focused on. They're not as focused on the grouping, whether it's appropriate. They're actually more focused on substantiating hours, which I find generally is actually the bigger problem. I know I've talked about it in a couple of the prior podcast episodes 13 and 31. I think that's important. Finally, one thing that, that happens a lot under 469. If you sell the act, if you sell the business, you sell the investment, you get to use the losses, losses get freed up. Great. Oh, you know, because of that, because the disposition of the activity allows for the passive losses to be used. They're no longer in suspension. There's always a question about what about partial dispositions. What if you sell half.

[B]

Right.

[A]

And the answer is, if you dispose of substantially all of the activity, the disposed part, right. Frees up the portion of the passive losses attributable to the disposed part. The other losses remain suspended. I have never dealt with this. There's not really a whole lot that deals with what is substantially all. So I'm going to explain this to you very carefully because I think this is important. Define substantially all narrowly. 50% is not substantially all. 80%, yeah, 60% maybe, but 80% more so.

[B]

Right.

[A]

You know, and that's what's important. It's, it's a pro rata. It's like sort of tax onto the basis in the same way. And I think that's what they were trying to get. I'm trying to do in that situation. All right, well, you know, thank you so much for listening. That was the 30 episode of how Tax Works. Hope you come back for two weeks. In two weeks, 37th episode, we're going to talk about what to do if you win the lottery. I think that's an interesting one. And now for the very, very best song of all time, SA.