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Whether you’re currently representing a real estate investor or believe that you will do so in the future, there are numerous tax deductions that people who purchase and operate rental properties can claim. These deductions are somewhat different from deductions for a primary residence lived in by the owner. As a REALTOR®, your clients will likely ask you fundamental questions about the tax ramifications of owning rental real property. While no one should reasonably expect you to be a tax expert, it is important that you can answer basic questions that your clients might ask. This article examines rental property tax deductions and their meaning for your clients.
Common Rental Property Tax Deductions | Commercial and Investment Real Estate | Which Rental Property Expenses Are Not Tax-Deductible? | Talking to Clients About Rental Property Tax Deductions
Common Rental Property Tax Deductions
The following deductions, which are the ones most commonly claimed by rental property owners, can substantially reduce the cost of purchasing, owning, and maintaining rental property. Understanding the basics of these deductions will allow you to help the client contextualize the purchase price by considering his or her projected net income based on available rental property tax deductions.
Asset Depreciation
Of the many tax benefits of rental property, depreciation might seem somewhat counterintuitive since property values typically increase over time. Yet, in the eyes of the tax law, the depreciable life of real estate generally ranges from 27.5 years for residential property to 39 years for non-residential real estate.
Depreciation is a tax allowance covering the expected wear and tear and obsolescence of the property that will invariably occur over time. Owners can also depreciate certain larger expenditures for personal property over time, such as appliances or furniture.
Mortgage Interest
Of all the investment property tax deductions that your clients may be able to claim, you should be most familiar with the mortgage interest deduction. This deduction not only applies to primary and secondary residences, but also to all kinds of rental real property that have a mortgage. However, for owners who live in a residence with a mortgage, the interest is an itemized deduction (reported on Schedule A) and the interest deduction is generally limited to mortgage debt of $750,000.
Owners of rental properties, on the other hand, will report any mortgage interest paid as an expense on Schedule E of Form 1040 or on a partnership or corporate tax form. And unlike those who itemize mortgage interest deductions, rental property owners are not subject to a limit on the amount of the debt.
Property Taxes
Another tax deduction available to most rental property investors is that for property taxes. This deduction is also available for owner-occupants of primary and secondary residences, but only if they itemize their deductions.
The Tax Cuts and Jobs Act of 2017 temporarily capped the deduction for state and local taxes (SALT) at $10,000 or $5,000 for married people who file separately.
Repairs
Simply stated, a repair involves fixing or replacing something that’s broken or inoperable. If your client needs to fix a broken banister or replace a damaged garage door on a rental property, the expenditures will constitute repairs and they can generally deduct the cost on their tax return. Upgrades or improvements to a rental property generally are not deductible as repairs, but the cost is depreciable over the useful life of the property. Examples of improvements include adding a new shed or remodelling a bathroom.
If your client provides a tenant with a rental credit in exchange for performing a repair, this credit can also be deducted. Let’s say that your client offers a tenant a credit of $500 off their following monthly rent for repairing a door and installing a new shower rod. Even though this $500 will be considered income, it can also be deducted as a repair expense.
Operating expenses
If your client chooses to use the expertise of a property management company to look after their rentals, the associated expenses are generally tax-deductible. Yet if your client also plans to be the property manager, they’ll face operating expenses that arise from handling the tenant relationship and keeping the property in working order.
Any tenant screening costs can be deducted, including background, credit, or reference checks. Other necessary expenses of maintaining the property or landlord-paid utilities are also typically deductible. These may include:
- Lawn care
- Painting
- Appliance care and maintenance
- Carpet cleaning
- Pest control
- Seasonal property maintenance (gutter cleanings, tree pruning, snow removal, etc.)
- HOA dues
Travel and Other Miscellaneous Expenses
Many travel expenses that your client has in connection with his or her rental property may be deductible. If they need to travel to collect rental income or to manage, conserve, or maintain their property, associated expenses are generally tax-deductible. To claim this deduction, you’ll want to advise clients to keep extensive records, ensuring they keep receipts and count mileage from their travels.
According to the tax law, only travel expenses that are ordinary and necessary can be deducted, which means that costs can’t be lavish or extravagant. Nor can they be related to personal travel. Examples of deductible travel expenses include:
- Airfare, train costs, car, or other transportation costs related to the trip
- Taxi or ridesharing fares when traveling from a hotel to the rental property
- Using a vehicle while at the rental property
- Lodging expenses
- Laundry and dry cleaning
- Property-related telephone calls
- Service tips
Expenses related to traveling to make improvements or renovations to a rental property aren’t tax-deductible as these costs are recoverable through depreciation. However, your client may be able to deduct other standard expenses like printing, office supplies, advertising costs, and insurance costs.
Commercial and Investment Real Estate
Commercial real estate can involve all kinds of rental property from hotels and office buildings to shopping centers and multi-family apartment buildings or even bakeries and restaurants. Commercial real estate that can be rented doesn’t only involve apartments or Airbnbs.
Once your client has made their investment, they can earn rental income from the payments they receive from any tenant that has rented the property.
Before advising a client who plans to offer short-term rentals, make sure that you familiarize yourself with any short-term rental restrictions in your area. These restrictions may limit the ability that property owners have to rent out a property on a short-term basis.
Which Rental Property Expenses Are Not Tax-Deductible?
Certain rental property expenses are not tax-deductible, including:
- Lost rent that came about because it wasn’t paid or collected or because the property was vacant. However, if your client is on the accrual basis of accounting, and they included the rent in their income, it may be deductible.
- Personal expenses, such as the cost of commuting to and from work.
- Entertainment expenses.
- Political contributions.
- Fines and penalties.
You should always consult a tax professional about the specifics of tax deductions before you advise a client about claiming any rental property tax deductions.
Talking to Clients About Rental Property Tax Deductions
When speaking with your clients about rental property tax deductions, there are a few key areas you’ll need to cover.
The goal of most real estate investors is to make money, so guiding clients to a property that makes sense for them is your primary role as a REALTOR®. And keep in mind that it’s always best to refer your clients to a tax professional to confirm how a rental property and eligible deductions will impact their financial situation.
