Q&A With Bill: Is Renting My Home or Apartment Taxable?
With the growing popularity of residential rental services like Airbnb, VRBO and Flipkey, more and more home owners are taking advantage of this alternative source of income - particularly during the warm, vacation-heavy summer months where rents fetch a premium.
I often get asked if this additional income is taxable and while the simple answer is YES, different tax rules apply depending on if the taxpayer renting the property used the property as a residence at any time during the year. To avoid breaking out in a “sweat” at tax time, it’s a good idea to understand the facts about reporting rental income!
Residential Rental Property
Residential rental property can include a single house, apartment, condominium, mobile home, vacation home or similar property. These properties are often referred to as dwellings. Taxpayers renting property can use more than one dwelling as a residence during the year.
A dwelling is considered a residence if it’s used for personal purposes during the tax year for more than the greater of 14 days or 10 percent of the total days rented to others at a fair rental value. In general, “personal use” includes use of the property by:
Any person who owns an interest in the property
A family member of any person who owns an interest in the property (unless it’s the family member’s principal residence and the owner receives fair rental value)
Anyone who has an arrangement that lets the owner use some other dwelling
Anyone using the property at less than fair rental value
Personal use doesn’t include days of repair and maintenance, if the taxpayer is doing the repairs and maintenance on a largely full-time basis. IRS Publication 527, Residential Rental Property (Including Rental of Vacation Homes), has more details about personal use.
Types of Rental Income
Rental income includes:
Normal rent payments
Advance rent payments
Payments for canceling a lease
Expenses paid by the tenant
Rental income generally doesn’t include a security deposit if the taxpayer plans to return it to their tenant at the end of the lease. But if the taxpayer keeps part or all of the deposit during any year because the tenant doesn’t live up to the terms of the lease, then the taxpayer includes the amount kept as rental income in that year.
Rental Expenses and Deductions
If a taxpayer claims any personal use of a rented dwelling, they must divide their expenses between rental use and personal use, even if the dwelling doesn’t meet the definition of a residence. They may deduct only rental expenses on Schedule E (Form 1040). They may be able to deduct some of their personal expenses on Schedule A (Form 1040) if they itemize deductions. Furthermore, the amount of rental expenses that a taxpayer can deduct may be limited if the dwelling is considered a residence.
Here are some additional facts about dividing expenses and deduction limitations:
Ordinary and Necessary Expenses. Taxpayers can deduct “ordinary and necessary expenses” for managing, conserving and keeping their rental property. Ordinary expenses are common and generally accepted in business, such as depreciation and operating expenses. Necessary expenses include interest, taxes, advertising, maintenance, utilities and insurance. If the taxpayer includes expenses paid by a tenant, the fair market value of the property or services given by a tenant in their rental income, then normally they can deduct that same amount as a rental expense.
Improvements. Taxpayers may not deduct the cost of improvements to better, restore or change the property to a different use. The cost of improvements is recovered through depreciation using Form 4562. Taxpayers can only deduct a percentage of these expenses in the year that they incur them. See the Tangible Property Regulations FAQ on IRS.gov for more information about improvements.
Depreciation. The general recovery period for residential rental property is 27.5 years. The Tax Cuts and Jobs Act changed the alternative depreciation system recovery period for residential rental property from 40 years to 30 years. Under the new law, a real property trade or business electing out of the interest deduction limit must use the alternative depreciation system to depreciate any of its residential rental property. These changes apply to taxable years beginning after Dec. 31, 2017.
Reporting Rental Income and Expenses
In most cases, a taxpayer must report all rental income on their tax return using Schedule E (Form 1040). If a taxpayer has a loss from rental real estate, they may have to reduce their loss or it may not be allowed. Taxpayers must refer to rules for personal use of a dwelling that they rent, at-risk rules and passive activity loss rules. These rules tell them if they can take the loss against other income. For detailed information about these rules, see Publication 925, Passive Activity and At-Risk Rules, and Publication 527. In addition, Net investment income tax may apply to rental income. Taxpayers should use Form 8960, Net Investment Income Tax Individuals, Estates and Trusts, to figure the amount of this tax.
If you have questions about the reporting requirements for your residential rental income or would like help planning for a future rental, please CONTACT US right away. We’re here to help!