Erline Begins Investing in Various Activities During the Current Year

Essay

Erline begins investing in various activities during the current year. Unfortunately, her tax advisor fails to warn her about the passive loss rules. The results of the three passive activities she purchased for the current year are:
$\begin{array}{lc}&\text { Income (Loss) }\\\text { Passive Activity } 1 & \$(36,000) \\\text { Passive Activity } 2 & 22,000 \\\text { Passive Activity } 3 & (4,000)\end{array}$

a.
If Erline's adjusted gross income is $\$ 170,000$ before considering the effect of the passive activities, what will Erline's adjusted gross income be for the current year? Fully explain the effect of the passive activity investments on her adjusted gross income.

b.
Because Passive Activity 1 has been such a loser, Erline is considering selling it. However, she is concerned about the effect of the sale on her taxable income because her tax advisor told her that her basis in the activity is only $\$ 14,000$ and she could sell it for $\$ 32,000$ . Explain the effect on her taxable income if she sells Activity 1 for $\$ 32,000$ .