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Running a rental business comes with its fair share of headaches, but one upside is that just about every rental activity associated with buying, maintaining, and operating a rental property is tax-deductible. We’ll walk through a checklist so you remember to keep track of your actual expenses and get the maximum tax benefit.
At the end of the day, the logic is that you should only have to pay taxes on your profits, which is your rental income minus all of your expenses. That’s the number that will be entered on Schedule E when you file your taxes.
Common Tax Breaks for Real Estate Investors
For many real estate investors, mortgages play a crucial role in turning that dream into reality. When it comes to seeking tax deductions, mortgage interest emerges as a valuable tax incentive. Mortgage interest becomes deductible when secured by the home, distinguishing it from cases involving personal loans. This secured debt allows the home to serve as collateral for repayment.
To qualify for tax deductions, your property can be a primary or secondary residence or even a rental property with a mortgage. However, there are exceptions, such as the limitation of the interest deduction to $750,000 for married individuals filing jointly and $375,000 for those filing separately. Meeting specific conditions, including filing the appropriate forms, itemizing deductions, and ensuring the mortgage is a secured debt tied to the home, is crucial for claiming the deduction. Consult your mortgage company, which typically provides IRS Form 1098 detailing the interest paid in a given year.
Property taxes, often a significant expense, can be offset through deductions on personal income tax returns. The Tax Cuts and Jobs Act of 2017 capped state and local tax deductions at $10,000 ($5,000 for married couples filing separately). This deduction extends to various property-related expenses, including city-imposed hospitality or occupancy taxes on short-term rental properties like those listed on platforms such as Airbnb or VRBO.
Identifying deductible property taxes involves distinguishing between eligible properties, including primary and vacation homes, and nondeductible payments, such as unpaid taxes, those on rental or commercial properties, transfer sales taxes, costs related to home renovations, and utility bills. Choosing between standard and itemized deductions depends on personal circumstances, and it’s advisable to select the option that provides the greatest tax benefit.
Business expenses are typically deductible in the year incurred, but for long-term assets, a depreciation schedule is followed. Categories and useful life periods are outlined in IRS Publication 946 and 527.
Depreciation applies to items like appliances, furniture, vehicles, buildings, and more. While landlords may find depreciation rules inconvenient, understanding these rules can prevent surprises when claiming deductions.
Insurance premiums, including mortgage insurance, are often overlooked deductions. Landlords can deduct the entire insurance premium for rental properties, whether held personally or in an LLC. This deduction extends to umbrella insurance policies, flood insurance, and even a proportional amount of homeowners insurance for primary residences with tenants.
Unlike long-term assets subject to depreciation, repairs are fully tax-deductible. The distinction lies in whether the expense constitutes an improvement to the property. Routine repairs, like painting, basic landscaping, or replacing fixtures, do not trigger depreciation concerns. Major renovations aimed at increasing property value, however, fall into the “improvement” category.
Cleaning and maintenance
Operating expenses related to employee and contractor wages, as well as materials for cleaning and maintenance, are fully deductible for landlords.
Utilities are deductible if not reimbursed by tenants. While landlords may cover some utilities, deductions are limited to the actual expenses incurred, excluding amounts reimbursed by tenants.
Fees paid to property managers, whether full-time professionals or part-time assistants are tax-deductible. Outsourcing property management tasks offers both convenience and financial benefits.
Legal and professional fees
Fees paid for tax professionals, legal services related to contract reviews, and memberships in professional organizations are deductible when used for legitimate business purposes.
Fees associated with advertising, such as posting on platforms like Craigslist and Zillow, are deductible.
Commissions and referrals
Business-related expenses, including referral fees for finding tenants and commissions paid to current tenants, can be deducted.
Travel and transportation
Landlords can deduct travel expenses using either the standard mileage rate or actual expenses. Keeping accurate records of distances traveled and associated costs is crucial to maximizing deductions. Deductible expenses may include meals, taxis, airfare, and hotels.
For those claiming a home office deduction, maintaining proper documentation and justifying business use is essential. Renting an external office space simplifies this deduction process.
Reporting rental income and expenses
Landlords can use Form 1040 or 1040-SR Schedule E, Part 1 to report rental income and expenses. For more than three rental properties, separate Schedules E should be included for each property.
Rental property owners can benefit from various tax deductions, but attention to documentation and timing is crucial. You should be sure to validate any tax strategies and documents with an accountant and ensure you are adhering to tax law.
Accurate recordkeeping, including receipts, bills, and checks, is vital for substantiating rental income and expense claims. Filing on time ensures alignment with current legal frameworks, and choosing between standard and itemized deductions depends on individual circumstances. By understanding and utilizing these tax advantages, property owners can maximize their financial benefits within the bounds of applicable regulations.
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Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.