For many Americans, a second home is not just a relaxing retreat but also a source of income. However, with additional income comes additional taxation. While some people accept this at face value, in reality, some simple considerations can lead to additional tax deductions associated with renting your second home.
IRS Classification: Personal vs Rental Use
Access to certain deductions depends greatly on how the IRS classifies the property. If the property is primarily used by you personally, then your deductions will be more limited than if it is primarily used as a rental property. The classification is determined by how many days you personally use the property in a given year.
A property is considered for personal use if you use the home for more than 15 days or 10% of the rental days. If you own a beach house that you rent for 200 days a year, you can use the property for personal use up to 20 days in that year without classifying the property as a dwelling. If you rent your property out for 14 or fewer days in a year, the IRS makes it simple and exempts that income from taxation.
So, you’ve mapped out your personal use days versus your rental days and know that you will not exceed the personal use threshold. What deductions may be available to you?
Common Deductible Expenses
As currently written, the available deductions for a personal use property are pretty limited: mortgage interest on up to $750,000 (or $375,000 if married filing separately) in debt and state and local taxes up to $10,000. The rental use classification opens up a few more opportunities for deductions.
The mortgage interest and state and local tax (SALT) deductions available for personal use property are still available for rental use property. Just be aware that the limit of $750,000 for mortgage interest and $10,000 for SALT applies on a per-taxpayer basis, not a per-property basis.
In addition to these deductions, repairs are a very common deduction available to property owners. However, note that there is a difference between repairs and improvements. A repair keeps the home in good condition and can be deducted in the year it is paid for. An improvement increases the value of the property and is not deductible. Instead, the improvement cost may be depreciated over the useful life of the property to recoup the cost.
Some Hoosier families may own beachfront property. Unfortunately, beachfront property within Indiana is difficult to come by and thus requires significant travel. Fortunately, the required travel opens up an opportunity for additional tax savings! The costs associated with travel to collect rent or maintain the property are deductible. These include fares for planes, trains, or buses, driving expenses, lodging expenses, and meals up to applicable limits, among other expenses. So long as the trip is primarily for rental activity, these expenses are eligible for deduction.
As is often the case for owners of property in another state, a property management service
may be utilized to maintain the property while the owner is gone. However, it is important to note the significance of remaining actively involved in the property when utilizing a property management service.
The IRS considers you actively involved if you regularly participate in property management. This includes regular communication with the property manager, decision making, financial upkeep, and meetings with tenants and managers. So long as you are considered actively involved, the property management expenses may be deducted. Additional expenses eligible for deduction include advertising, employees or contractors, insurance premiums, utilities, and the cost of appliances and furniture.
Summary
The world of rental ownership opens up a plethora of opportunities for tax deductions. However, with these deductions come additional requirements and increased scrutiny from the IRS. If done properly and intentionally, owning a rental property can provide owners with much-needed flexibility come tax time.
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The material has been gathered from sources believed to be reliable, however Bedel Financial Consulting, Inc. cannot guarantee the accuracy or completeness of such information, and certain information presented here may have been condensed or summarized from its original source. To determine which investments or planning strategies may be appropriate for you, consult your financial advisor or other industry professional prior to investing or implementing a planning strategy. This article is not intended to provide investment, tax or legal advice, and nothing contained in these materials should be taken as such. Investment Advisory services are offered through Bedel Financial Consulting, Inc. Advisory services are only offered where Bedel Financial Consulting, Inc. and its representatives are properly licensed or exempt from licensure. No advice may be rendered unless a client agreement is in place.
