At-Risk Rules (IRC §465)

What are the At-Risk Rules Under IRC §465?

The at-risk rules limit a taxpayer’s deductible loss from a business or income-producing activity to the amount the taxpayer could actually lose financially. 

A loss exceeding that amount is not deductible for the current tax year but may be available in a later year.

Internal Revenue Code §465 applies this limitation to individuals and certain closely held C corporations engaged in covered activities. The rule focuses on the taxpayer’s genuine economic exposure rather than the activity’s total accounting loss.

For example, an activity may report a $30,000 loss, but that figure does not automatically establish a $30,000 deduction. The taxpayer must first determine how much of their money, contributed property, or qualifying borrowed funds is exposed to loss. The current deduction cannot exceed that amount.

Section 465 prevents taxpayers from using losses supported by financing or agreements that protect them from an actual economic loss. 

This distinction is especially relevant to partners, S corporation shareholders, rental-property owners, and taxpayers participating in other pass-through or income-producing activities.

• The latest IRS Instructions for Form 6198 confirm that Section 465 limits an activity’s deductible loss to the taxpayer’s amount at risk. 

• The IRS uses Form 6198, At-Risk Limitations, to determine the activity’s current-year profit or loss, the amount at risk, and the deductible loss.

This limitation is separate from the tax-basis and passive-activity-loss rules. Each rule answers a different question and must be applied in the required order - a distinction covered later on this page.

Who & What are Subject to the At-Risk Rules?

The limitation can affect individuals, estates, trusts, partners, S corporation shareholders, and certain closely held C corporations that report losses from covered business or income-producing activities. 

For pass-through entities, the applicable owner generally evaluates the limitation using that owner’s financial exposure to the activity.

The current IRS Instructions for Form 6198 identify the following covered activities when they are conducted as a trade or business or for the production of income:

1. Holding, producing or distributing motion-picture films or videotapes

2. Farming, as defined under IRC §464(e)

3. Leasing Section 1245 property

4. Exploring for or exploiting oil and gas resources

5. Exploring for or exploiting geothermal deposits

6. Other activities conducted as a trade or business or for producing income

Because the sixth category is broad, the limitation is not restricted to traditionally high-risk investments. It may also affect operating businesses, rental activities, and pass-through investments when the taxpayer reports a loss, and some invested amounts are not economically exposed.

An exception generally applies to qualifying real property placed in service before 1987 and certain pre-1987 interests in pass-through entities already conducting a real-property holding activity. 

Mineral property does not qualify for that exception. Certain equipment-leasing activities and qualifying businesses of qualified C corporations may also receive specialized treatment under IRC §465.

How is the Amount at Risk Calculated?

The simplified at-risk formula is:

Starting amount at risk + qualifying increases − reductions − losses previously allowed under Section 465 = ending amount at risk

The calculation is updated for each activity at the end of every tax year. 

The result represents the taxpayer’s remaining economic exposure before applying the limitation to the current-year loss.

Amounts That Increase or Decrease the At-Risk Amount

Under IRC §465(b), contributed property is generally included at its adjusted basis, not its fair market value. When outside property secures qualifying borrowing, the includible amount is generally limited to the taxpayer’s net fair market value after superior claims.

The IRS Instructions for Form 6198 also prevent double counting. When borrowed money finances a contribution, the taxpayer cannot increase the amount once for the loan and again for contributing the same funds.

The formal computation may begin with adjusted basis and then remove components that do not represent qualifying exposure. Consequently, tax basis and the amount at risk can differ even when both relate to the same activity.

Finally, Form 6198 compares the activity’s overall loss with the calculated amount at risk. 

What Amounts are not Considered At Risk?

An amount is generally not at risk when the taxpayer is not personally exposed to an economic loss. Common exclusions include ordinary nonrecourse debt, certain related-party loans, guarantees, reimbursement agreements, and other arrangements that protect the taxpayer from losing the invested amount.

Under IRC §465(b)(4), a taxpayer is not treated as economically exposed for amounts protected through nonrecourse financing, guarantees, stop-loss agreements or similar arrangements.

The IRS explanation of amounts not at risk also distinguishes loss-protection agreements from ordinary insurance. Casualty insurance and insurance against tort liability generally do not reduce an otherwise qualifying amount. 

However, insurance or a separate agreement that reimburses the taxpayer for payments made under personal liability can restrict the qualifying amount to the uninsured portion.

A personal guarantee does not automatically resolve the issue. The controlling question is whether the taxpayer bears the ultimate financial responsibility after considering reimbursement rights, indemnification agreements, related parties, and other protections.

Ordinary nonrecourse debt is generally excluded, but a separate statutory exception may apply to certain financing secured by real property. 

How Does Qualified Nonrecourse Financing Affect Real Estate?

Qualified nonrecourse financing may increase the amount at risk in a real-property holding activity, even when the borrower has no personal repayment liability. To receive this treatment, the financing must satisfy the requirements in IRC §465(b)(6).

Requirements for Qualified Nonrecourse Financing

The financing must:

• Be borrowed in connection with holding real property

• Be secured by real property used in that activity

• Be provided or guaranteed by a federal, state, or local government, or obtained from a qualified lender

• Create no personal repayment liability

• Not be convertible into an ownership interest

A qualified lender generally means a bank or another person that actively and regularly lends money. A property seller, certain related parties, and a person receiving a fee connected to the investment generally do not qualify. However, a related lender may qualify when the loan is commercially reasonable and made on substantially the same terms as an unrelated-party loan.

The IRS guidance on qualified nonrecourse financing allows incidental property to be disregarded when reviewing the collateral. Other property may also be disregarded when its gross fair market value is less than 10% of the gross fair market value of all property securing the financing.

Ordinary vs. Qualified Nonrecourse Financing

Mineral property does not receive this special real-property treatment. Qualification depends on the activity, lender, collateral, and loan terms, not simply on describing the debt as “nonrecourse.”

How Do At-Risk Rules Apply to Partnerships and S Corporations?

A partnership or S corporation reports each owner’s share of income, deductions, and losses, but the partner or shareholder determines the applicable at-risk limitation on their own tax return.

Owners of the same entity can therefore have different deductible losses.

Partnership At-Risk Determination

The limitation applies to each partner’s share of net loss attributable to a particular activity, not to the partnership as a single taxpayer. 

The IRS Instructions for Form 1065 therefore require partnerships to report income, deductions, and losses separately when their treatment depends on the activity that generated them.

Item K1 of Schedule K-1 (Form 1065) classifies a partner’s share of liabilities as nonrecourse, qualified nonrecourse financing, or recourse. 

Generally, only qualifying recourse liabilities and qualified nonrecourse financing are considered when evaluating the partner’s exposure. An amount does not qualify merely because it appears in one of those categories; the partner must still evaluate the underlying loan terms and personal liability.

S Corporation Shareholder At-Risk Determination

An S corporation reports each shareholder’s allocated loss, but the corporation does not determine the shareholder’s final allowable deduction. 

According to the Shareholder’s Instructions for Schedule K-1 (Form 1120-S), a shareholder may need to complete Form 6198 when an activity produces a loss and includes amounts for which the shareholder lacks qualifying exposure.

A direct shareholder loan to the corporation may be relevant, but its funding source matters. If the money used to acquire stock or make the loan came from protected, nonqualifying, or restricted borrowing, the corresponding amount may not qualify.

Because Schedule K-1 does not contain every owner-level contribution, distribution, loan term, or protection agreement, it provides inputs for the calculation rather than the final result. 

The partner or shareholder must maintain the records needed to support the amount claimed.

What Happens When a Loss Exceeds the At-Risk Amount?

The deductible loss is limited to the amount available under Section 465. Any excess becomes a suspended at-risk loss allocated to the same activity. The suspended amount may become deductible in a later year if the taxpayer’s qualifying exposure increases.

Suspended At-Risk Loss Carryforward

Under IRC §465(a)(2), a loss disallowed for the current year is treated as a deduction from the same activity in the succeeding tax year. If the taxpayer still lacks sufficient qualifying exposure, the unused portion continues to a later year.

For example:

If the taxpayer adds $6,000 of qualifying exposure in the following year and has no new loss from the activity, up to $6,000 of the suspended amount may become available. The remaining $3,000 continues forward.

The IRS explains that previously suspended losses become available only to the extent an increase in qualifying exposure exceeds losses from the activity in that later year. Other loss limitations may still postpone the deduction.

Recapture When the Amount Falls Below Zero

A different result applies when distributions, debt changes, or similar events reduce the year-end amount below zero. Under IRC §465(e), the taxpayer may have to include previously allowed losses in income.

The recaptured amount is generally the lesser of:

1. The negative year-end amount, treated as a positive number; or

2. Prior losses deducted under Section 465, reduced by amounts previously recaptured.

If the year-end amount is −$7,000, but only $5,000 of relevant prior losses remains subject to recapture, the income inclusion is limited to $5,000.

At-Risk Rules vs. Basis & Passive Activity Loss Rules

A business loss must generally pass three separate limitations before it can be deducted:

Tax basis and the amount at risk are not always equal. Certain liabilities may increase an owner’s tax basis without creating equivalent economic exposure. Therefore, a loss can pass the basis limitation but still be suspended under the at-risk rules.

After these tests, the remaining deduction may also be subject to the excess business loss limitation.

How Do You Report an At-Risk Loss on Form 6198?

1. Complete Form 6198, At-Risk Limitations, to determine the deductible loss from an at-risk activity.

2. Report the activity’s current-year income, gains, deductions, losses, and prior-year losses that were not deductible in Part I.

3. Calculate the amount at risk in Part II using the simplified computation, if applicable.

4. Use Part III for the detailed computation when the simplified method does not apply or does not provide the necessary calculation.

5. Determine the loss permitted after applying the at-risk limitation in Part IV.

6. Allocate income, gains, deductions, and losses separately when the taxpayer participates in multiple at-risk activities.

7. Use separate activity information provided by a partnership or S corporation for each at-risk and not-at-risk activity.

8. Attach the completed Form 6198 to the taxpayer’s federal income tax return.

9. Report the deductible amount from Part IV on the applicable return or schedule, such as Schedule C, Schedule E, Schedule F, or the relevant pass-through reporting schedule.

10. Apply any other applicable tax limitations after calculating the deductible amount under the at-risk rules.

What Records Should Taxpayers Keep for At-Risk Activities?

Relevant records include:

• Proof of cash and property contributions

• Documents establishing the adjusted basis of contributed property

• Loan agreements, promissory notes, and repayment records

• Evidence of personal liability for recourse debt

• Security documents for qualified nonrecourse financing

• Guarantees, reimbursement agreements, and loss-protection arrangements

• Partnership and S corporation Schedules K-1 with supplemental statements

• Records of distributions, withdrawals, and debt conversions

• Previously filed Forms 6198

• A year-by-year schedule of losses not currently deductible

Records should be maintained separately for each activity when a taxpayer owns interests in multiple businesses or income-producing activities.

Records supporting unused losses or an ongoing ownership interest should remain available while those amounts can affect a future tax year. See the IRS guidance on business recordkeeping and how long tax records should be retained.

What are the Common Form 6198 Reporting Mistakes?

Common Form 6198 mistakes include:

• Leaving Prior-Year Unallowed Losses Out of Part I: Prior-year deductions or losses suspended by the at-risk rules must be included with the applicable current-year amounts in Part I. They should not be reported as a separate new activity. 

• Using Part II Without Knowing Adjusted Basis: The simplified computation in Part II may be used only when the taxpayer knows the adjusted basis of the activity or ownership interest. Otherwise, the detailed computation in Part III may be necessary. 

• Entering the Current Loan Balance: For applicable loan entries, Form 6198 generally requires the amount of the loan incurred—not its remaining balance at the end of the tax year. Using the outstanding balance can produce an incorrect result. 

• Reducing Reportable Income Along With the Loss: The at-risk limitation restricts deductible losses, not income or gains. Income and gains from the activity remain reportable even when some deductions cannot currently be claimed.

• Combining Unrelated Loss Items: When the allowable amount in Part IV consists of more than one deduction or loss item, the permitted loss must be allocated proportionately among those items. Reporting the entire allowance against only one item can misstate the applicable schedules.

How Can CPA Pilot Help Explain At-Risk Limitations?

At-risk limitations can affect the loss shown on a completed tax return, but clients may not understand why the entire business or rental loss was not deductible.

CPA Pilot helps tax professionals convert completed Form 1040 information into a plain-English client summary. It can explain how the deductible amount reported after completing Form 6198 affects the return without requiring the client to interpret technical forms or tax-code provisions.

CPA Pilot does not calculate the taxpayer’s amount at risk or replace the tax professional’s review. It helps CPAs and enrolled agents communicate the outcome of the completed return more clearly.

Create a clear client tax summary with CPA Pilot.

At-Risk Rules FAQs

When is a taxpayer’s at-risk amount measured?

The at-risk amount is generally measured at the close of the tax year. Contributions, distributions, debt changes, income, and allowed losses during the year can affect the ending amount under IRC §465.

Can one activity’s at-risk amount support a loss from another activity?

Generally, no. The taxpayer must determine the amount at risk for each separate activity unless applicable aggregation rules permit multiple operations to be treated as one activity.

Does selling an activity automatically release all at-risk suspended losses?

No. Gain or loss from the disposition enters the activity’s loss computation and may allow additional deductions. Any remaining loss must still satisfy the at-risk and other applicable limitations.

Do the at-risk rules limit tax credits?

IRC §465 directly limits deductions and losses, not tax credits. However, credits connected with a passive activity may be separately limited under the passive activity credit rules.

Are real estate activities started before 1987 subject to the at-risk rules?

Generally, holding real property placed in service before 1987 is excepted. Certain interests acquired before 1987 may also qualify, but this exception does not apply to mineral property.