What is a typical example of a passive activity?

A typical example of a passive activity is a limited partnership in which the partner does not participate in the business activities. In the context of tax regulations, particularly under the passive activity loss rules, a passive activity is one in which the taxpayer does not materially participate. Limited partners, by definition, generally do not engage in the active management of a partnership; they invest capital and receive income but have limited involvement in decision-making processes or operations.

This structure allows limited partnerships to often be categorized as passive activities since the income and losses generated by the partnership typically cannot offset other active income the taxpayer may have. This designation is important for tax filing purposes, as it affects how losses can be utilized and taxed. In contrast, a limited partner who participates in business activities would be seen as materially participating, moving that activity into non-passive territory. Therefore, the correct answer exemplifies a scenario that aligns perfectly with the IRS definitions regarding the classification of passive activities.