5 Big Rental Property Tax Deductions
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If you made money on rental property last year, prepare to pay taxes on it this year. Rental income, like salary, tips and lottery winnings, is taxable. But the expenses related to your rental property can typically be deducted.
How is rental income taxed?
All income you receive from rental property must be included in your gross income amount on your tax return. Income is taxable based on your tax bracket.
Be aware that the IRS' definition of "income" includes more than just what a tenant pays you for rent each month. If you charge a tenant for breaking their lease, or don't refund them their whole security deposit, these things also count as rental income and must be reported on your tax return. You can find a full list of what qualifies as rental income on the IRS website.
Tax deductions for rental property
Owning a rental property can generate some extra income, but it can also generate some great tax deductions. Here are five big ones that tax pros say should be on your radar if own rental property, or are thinking about buying a rental property.
1. Mortgage interest deduction
“Mortgage interest is tax-deductible for your rental property because it's a business expense,” says Thomas Castelli, a certified public accountant in New York City.
Sometime in January or early February, you should have received a Form 1098 from your mortgage lender showing the interest you paid for the year. When you file your tax return, in most cases you take the deduction on IRS Schedule E, which is for residential rental property owners.
» MORE: How to fill out Schedule E
2. Depreciation deduction
Many people think of their homes as investments that become more valuable over time but think of a rental property as more of a business asset, similar to a desk or a forklift.
Many business assets depreciate — that is, they become worth less and less every year until they reach the end of their useful lives. For rental properties, that’s typically (but not always) 27.5 years.
If you own a rental property, you can probably deduct that depreciation each year on your tax return. The math isn’t exactly simple, though. There are different ways to calculate the depreciation on a rental property, which is why it’s a good idea to get help from a qualified tax pro if you’re a landlord. There are also special rules for co-ops and condominiums. Usually, you can start depreciating a rental property when it’s ready and available to rent.
» MORE: How to find a CPA near you
3. Property tax deduction
Property tax is a tax on real estate (and sometimes other property you own). The amount of tax is largely based on where the property is and how much the property is worth.
You can usually deduct the property taxes on a rental property — you just have to remember to do it, Castelli says. Rental owners frequently overlook the deduction, he notes. Although there’s a limit on the property tax deduction ($10,000, or $5,000 if married filing separately, for property taxes and either state and local income taxes or sales taxes combined) — that limit doesn’t apply to business activities.
4. Deduction for repairs
Generally speaking, the cost of things such as fixing busted garbage disposals, swapping out light bulbs or patching holes in the wall is usually tax-deductible in the year you incur the expense.
Sometimes the cost isn’t deductible. Instead, it gets capitalized and could become part of your basis (typically what you paid for the house).
For example, if you buy a $300,000 rental and spend $25,000 adding a fourth bedroom, you may not get to deduct the $25,000 that year. That’s because, in the eyes of the IRS, it’s now as if you paid $325,000 for the house instead of $300,000. That could mean a bigger depreciation write-off.
People misclassify repair costs on their tax returns all the time, Castelli says. Often, they mistakenly deduct capital improvements, which could be a red flag for the IRS, he warns.
“If they see that you have really high repairs and maintenance on your tax returns but you have a small property, maybe some of those should actually be capitalized,” he says.
Here are a few big examples of things the IRS says usually have to be capitalized. You can see more in IRS Publication 527.
Additions.
Landscaping and sprinkler systems.
Storm windows.
New roofs.
Security systems.
Heating and A/C systems.
Water heaters.
Flooring.
Insulation.
5. Other expenses
These things might also be deductible:
Transportation expenses associated with collecting rent, managing your rental or maintaining it.
Advertising your rental.
Insurance on your rental.
Utilities.
In general, you can’t deduct these things:
Travel between your home and the rental property (the IRS considers that commuting unless your home is your principal place of business).
Uncollected rent (but this depends on the accounting method you’re using for your rental income).
Lost income because your rental was vacant.
