No matter what line of businesses you have worked in or how much experience you have with taxes, tax law will always be confusing.
Stipulations and mandates change over time; exceptions can apply that you knew nothing about.
And though tax law will always be confusing, that does not mean that you shouldn’t try to learn more about the potential for savings that is hidden inside of those complexities.
Since allowable deductions can easily be lost or forgotten throughout the year, it’s a good idea to keep a record and receipts of all the potential allowable deductions on hand for each property that you manage. While you may not need everything you keep, having them on hand when tax season begins will make your work easier.
What can you deduct on your taxes for rental property? There are quite a few areas to focus on, so let’s talk about the seven main rental property deductions that you might be missing out on.
Table of Contents for Rental Property Deductions
- What are necessary expenses?
- Monthly & Other Regular Expenses
- Maintenance & Repairs
- Home Equity Lines & Mortgages
- Paid-for Services & Commissions
The main deduction that you as a landlord can take out while doing your taxes is all necessary expenses. But how are necessary expenses defined?
According to the IRS, these expenses are as follows
“Necessary expenses are those that are deemed appropriate, such as interest, taxes, advertising, maintenance, utilities, and insurance.”
As you can see, these expenses cover a wide range of categories. From monthly bill payments to advertising costs, there are a lot of necessary expenses in real estate.
To make it easier to figure out what specific necessary expenses you can deduct, they’re divided up into more specific categories throughout this article.
Let’s start with the first and most obvious: monthly and regular expenses such as water and electric bills.
As a landlord, you are likely paying for some of the costs of keeping your property running. This would include the bills for things such as:
- Any other utilities
- Local fees and occupancy taxes
- Property taxes
- Homeowners association fees
Any fees that must be paid to make the property liveable can be considered to be deductible. Because the property cannot create rental income for you if these monthly and regular bills are not paid, they are considered to be deductible expenses.
Keep records of every payment you make for this category. For your convenience, keep all of these records together so you can easily find them when it comes time to work on your deductions.
Expenses Paid By Tenant
There are cases where a tenant might be paying some of your costs. This would depend on how you laid out the rental contract that you made with them.
For example, the tenant might pay their own local homeowners association tax or a similar fee, which would be deducted from your usual rental payment.
Any fee that would be paid by you if they were not occupying your property and is taken out of their normal rent is known as an “expense paid by tenant.”
If you have expenses paid by a tenant, here is how you need to work those into your tax filings:
- All expenses paid by a tenant must be included in your rental income, as the tenant is paying a fee that you would otherwise have to pay. Keep a record of these payments and add them to your income when filing.
- All expenses paid by a tenant can be included as a deduction if they fall into a deductible category as outlined above, such as water and sewage.
Legally, you are allowed to deduct all expenses necessary to keep your property in good condition. As long as the supplies and repairs are needed to keep the property livable, it can be deducted from your yearly taxes.
To maintain your business, you have to be able to maintain the properties that your tenants occupy. Often, it will cost you money to keep the properties in working order, and those incurred expenses are deductible because they are necessary expenses to keep the property in a usable condition.
These are some of the most common maintenance fees that landlords incur that can be deducted:
- Landscaping services (lawn mowing, tree trimming, snow removal, etc.)
- Cleaning fees
- Pool maintenance costs (chemicals, cleaning, etc.)
- Homeowner association fees
- Required items you provide for tenants (light bulbs, janitorial items, smoke detector batteries, filters, etc.)
- Pest control (regular treatment to prevent pests, specific treatment for problems, etc.)
- Maintenance fees to keep equipment used on the property in working order (lawnmowers, chainsaws, etc.)
As a landlord, you know how frequently repairs need to be made to a property. From chipping paint jobs to malfunctioning sink faucets, the bills for repairing these items in various rental properties can add up by the end of the year.
Thankfully, repair costs are all deductible. Common repairs handled by landlords include:
- Replacing shelves, door handles, and other fixtures
- Appliance repair (refrigerator, air conditioner, water heater, etc.)
- Labor costs associated with the repair
- Plumbing repairs
- Additional fees caused by repair (for instance, the cost of a hotel for your client while repairs that make the property unlivable are completed)
- Rental fees for tools necessary to complete the repairs
To be considered a repair cost, the item must be replaced to maintain the current working condition. If you instead are replacing the entire object (such as a frequently-malfunctioning water heater), this would be considered an improvement.
See the next tip for more details on how to handle deducting improvement expenses.
There might come a time when you decide that you want to make improvements to your property. From adding on a new screened-in porch to replacing the toilet with an upgraded version, these upgrades may or may not be tax deductible.
If you make an upgrade that will make the property more efficient, you can deduct a certain percentage of the cost. For instance, replacing a hot water tank more than 20 years old with a new, energy-efficient alternative can be partially deducted.
This form gives the specific amount of tax credit that you can apply for depending on the type of appliances used in your properties.
Other energy efficient changes – such as windows – should be treated as either a repair or an improvement depending on the specifics.
Repairs Versus Improvements
Understanding the distinction between repairs and improvements is one of the hardest parts of working through your tax deductions, but you should be very careful because you don’t want to end up dealing with a full tax review for a simple classification error.
You can fully write off any repair that keeps your property in working condition. However, improvements made that add value to the property or make it last longer (such as replacing the entire roof) must be depreciated over a number of years.
Because depreciation is such a complex topic, we have covered it in our #7 tip further down in this list.
The key point to remember is that you cannot fully deduct upgrades and improvements unless they are necessary to keep the property in working condition. Examples include:
- Updating windows, door frames, etc. to match local code. This is OK because it must be done for the property to be livable.
- Upgrading a sink because the old one broke and the previous model is no longer available. The cost for this is deductible because you are making a repair, not an improvement.
- Patching a leak in the roof is a necessary repair, but replacing the entire roof is an improvement.
As a landlord, you pay interest on a number of different loans and fees to keep the property in your possession and in working order. According to tax law, that interest is deductible up to a certain yearly limit.
When you pay on mortgages, you’re paying more interest than principal in many cases. This interest is deductible, so you want to be sure that you are deducting it.
Look at your payment statements, which itemize fees, to see how much interest you paid. This interest can be deducted and there is no limit.
Note: As of 2018 you can deduct up to $750,000 in mortgage interest payments on your personal home.
Additionally, you can deduct any points that you paid when taking out a new loan during the tax year. These points act as a type of prepaid interest, so they can be fully deducted up to the usual deductible limit.
Finally, you can deduct loan origination fees paid whenever you took out a new loan during the current tax year.
Home Equity Debt Interest
While home equity lines put on your home property in order to be able to invest in rental properties would previously set you up for some deductions, there are no longer any deductions for interest paid on this type of credit line.
Credit & Unsecured Credit Lines
Interest paid on unsecured lines of credit may be deductible, but interest paid on credit cards is no longer deductible as of the 2018 tax year.
This is one of the easiest things to forget to deduct from your taxes every year, and that is why it is so important to keep track of right away!
Advertising your properties to find new tenants is a fully deductible cost. Whether you advertise online, in print, or on the radio, this is deductible.
Make sure to keep receipts for all advertising costs that you incur while you are trying to find new tenants for your property. These fees will help to offset your income and lower your taxes later down the line.
There may be times when you as a landlord need to pay some professional fees. From hiring a lawyer to work out a new rental contract to paying an accountant to prepare your tax documents, the fees paid to them are deductible.
Similarly, you can deduct management fees that you pay to property managers, investment managers, and similar services that help to keep your business flourishing.
A few examples of these type of services and commissions that are deductible include the following:
- Paying a property management company to help you find new tenants for your properties
- Commission paid to real estate agents associated with your properties
- Fees paid to investment portfolio managers for your rental business
- Commission paid to a notary involved in business documentation
As you have already learned, repairs made to a property may be fully deducted in the current tax year while improvements cannot be. So how do you deduct the cost of improvements?
Depreciation is used to deduct the value of a new rental property or improvements made to a rental property. It’s a complicated calculation but a very valuable tax break that is worth learning more about.
Home Value Depreciation
Here is how depreciation works when wanting to deduct the value of rental property:
- Start calculating depreciation from when it is ready to be rented.
- You can only depreciate the value of the home, not any value that is in the land connected to the property.
- The value must be divided out over 27.5 years.
- The same amount can be deducted every year for the next 27.5 years until you either have deducted the full cost of the home OR you stop renting it.
For example, let’s say that you buy a rental property that has a fair market value of $100,000. You can deduct $3,600 every year until the value of the home is made up or you stop renting it out.
Doing calculations for depreciation on the value of improvements made to a rental property is very similar, but the timeline of the depreciation may be different depending on the type of improvement.
Some may be depreciated over a period as short as five years while others must be depreciated over the standard 27.5 years. To find out which type of classification you should use for home improvements made to your rental property, use tax form 4562 and consult a tax adviser to be sure you are filing correctly.
Don’t Miss Out On Deductions
Finding all of the allowable deductions for rental property that applies to the land that you manage can be complicated, but it’s worth it as you’ll see a good return on all of the time spent finding these deductions.
By remembering to do just a few key things, you’ll see the biggest return possible:
- Deduct all necessary expenses paid to the property, including utilities, interest, property taxes, and local fees.
- Deduct all fees paid to specialists that keep your business running such as lawyers, accountants, and property managers.
- Keep a detailed record of advertising, repair, and maintenance expenses incurred throughout the year as these are fully deductible.
What can you deduct on rental property no longer has to be a question that you consider every time that you repair, replace, or pay off something related to your business? Now, you can be sure that you are making the fullest use of all tax law.