Rental Property Tax Deductions: An Overview for New Landlords

Rental income is taxable, but many costs of running a rental can be deducted. Understanding the basics helps you keep better records and ask better questions. Tax rules change and depend on your situation, so treat this as background and work with a CPA.

Depreciation

The IRS lets you deduct the cost of a residential rental building, excluding land, over 27.5 years. On a property with $150,000 allocated to the building, that is roughly $5,450 per year, even though you did not spend that cash each year. Depreciation often makes a profitable rental show little or no taxable income. Improvements you make later are depreciated too.

Common deductions

• Mortgage interest (not principal).
• Property taxes.
• Insurance premiums.
• Repairs and maintenance.
• Property management fees.
• Utilities you pay.
• Advertising and screening costs.
• Legal and accounting fees.
• Travel to the property for management, within IRS rules.
• Supplies, software, and a portion of phone and internet when used for the rental.
• HOA dues.

Many landlords miss small items like mileage, bank fees, and the cost of tools used at the rental.

Repair or improvement?

A repair keeps the property in its normal working condition: stopping a drip under the sink, filling holes in a wall, or swapping out a cracked pane of glass. Repairs can usually be deducted in the year paid. An improvement betters, restores, or adapts the property, such as a new roof, new HVAC system, or room addition. Improvements are generally depreciated over time. IRS safe harbors can allow some smaller expenditures to be deducted, so ask your CPA which apply.

Passive loss limits

Rental activities are usually passive. If deductions create a loss, you may only be able to use it against passive income unless you qualify for exceptions, such as active participation below income thresholds or real estate professional status. Disallowed losses carry forward to future years.

When you sell

Profit is generally subject to capital gains tax, and depreciation you took (or could have taken) is recaptured at different rates. A 1031 exchange can defer both if you buy a replacement property under the rules.

Records to keep from day one

• Closing statements for the purchase.
• Receipts and invoices for every expense, organized by property.
• Mileage logs.
• Records of improvements with dates and costs.
• Rent ledgers and deposit records.
• A separate bank account for rental activity.

Good records make tax time faster and support your deductions if questioned.

Taxes in your underwriting

When you analyze a deal, evaluate cash flow before taxes first. Tax benefits are real, but a property should still make sense without them.