Owning and leasing vacation rental property can boost your income and be a great investment. However, it can also become a hassle at tax time. In this month’s article, we will show you the ins and outs of tax rules relating to vacation rental property to help you maximize your real estate rental income deductions.
So, what makes a rental property different from your personal residence? To understand the tax differences the IRS considers: how often it is used, for what purpose, plus the amount of rental income earned.
First, the IRS defines “personal use” as use by the owner, owner’s family, friends, other property owners and their families. Personal use includes anyone paying less than fair market rental rates. In other words, you can’t let family stay at your beach house for a month rent-free and still deduct the rental expenses from your taxes.
Your property is classified by the number of days you personally use it and the number of days it is rented out.
If you rent your home for less than 14 days per year, any income you earn is tax-free. No matter how much you make, you don’t have to report this as rental income on your taxes. But you also cannot deduct any expenses associated with renting your property on your taxes either.
If you rent your property for 15 or more days a year (or 10 percent of the total number of days it’s rented out, whichever is greater) it qualifies as a rental property. You must report any rental income and pay taxes on it. However, the good news is that you also get to deduct any rental expenses. This is where the tax rules get a bit complex. So, let’s walk through the details.
In addition to money you receive as normal rent payments from tenants, there are other amounts that the IRS considers as rental income and must be reported on your tax return.
Advance rent is any amount you receive before the rental period and must be included on your tax return in the year you receive it. You do not have to include a security deposit in your income when you receive it if you plan to return it at the end of the lease.
But if the deposit is used as a final rent payment, it’s also considered advance rent. If your tenant pays you to cancel a lease, the amount you receive is rent and is also rental income
Any expenses your tenant pays for the rental must also be included in your rental income. But you can still deduct the expenses if they are qualified deductible rental expenses.
Here’s a list of common rental expenses that are tax deductible against rental income:
In general, you should file rental property tax deductions the same year you received the rental income and pay the expenses using a Schedule E on Form 1040. There are many valuable rental property tax deductions available to you, as listed above.
The filing process gets a bit more complicated if you also use your rental property as your primary residence at any point during the tax year. But each year’s Schedule E should clearly list the number of days that you personally use your home and the percentage of days the property is rented.
Be sure to allocate mortgage interest, property taxes and other expenses listed above between rental and personal use. You can deduct the rental portion of these expenses on Schedule E.
Meanwhile, you can write off your personal use percentage of expenses on Schedule A of Form 1040 as long as you choose to itemize your deduction rather than take the standard deduction.
To sum it all up, the tax rules for vacation rental property may seem complex, but there are valuable tax-saving deductions readily available to you that can put money back in your pocket for your rental home. Just be sure that your rental income and expenses are well documented. At TSP Family Office, we can make even the most complex tax rules simple to follow. Just give us a call at (772) 257-7888 and we can walk you through all the steps to do it right and take full advantage of the tax savings.