Summary: In this article, you will learn about landlord tax deductions that will help maximize your profits. Learning about these rental property tax deductions will minimize your out-of-pocket expenses and ensure you are taking advantage of every landlord tax deduction available.

– Interest From Your Rental Property Loan

Mortgage Payments

Interest will likely be your largest deductible expense, assuming you take out a mortgage loan to buy your property. The most common deductible interest examples include: (1) mortgage interest (primary or secondary) on loans to purchase or improve a rental property, (2) credit card interest used to purchase goods or services for the rental, and (3) HELOC loan interest used to improve or repair property. Utilizing mortgage interest deductions on rental property will save landlords thousands of dollars a year and maximize your profit.

– Depreciation of Rental Property

A rental property will naturally experience wear and tear over time. The process of depreciation basically accounts for the cost of buying and improving rental property and allows money spent to be tax deductible. Instead of one large deduction during the year you purchase or improve your property, depreciation deduction is distributed over the “useful life” of the property. Understanding the specific rules of depreciation will be extremely important when buying and owning a rental property. Keep reading to learn more.

Rental Property Depreciation Rules

• You must own the property.
• You use the property for business or income.
• The property has a “useful life”, in other words, it wears out, decays or loses its value due to natural causes.
• The property is expected to last more than a year.

Things to remember…
If a property meets all of the requirement above, but you stop using it for business purposes in the same year, it no longer qualifies for depreciation. Additionally, land is not considered to be depreciable because it doesn’t wear out or decay. Cost of any changes to the land, i.e. landscaping or clearing, are considered part of the cost of owning the land.

– Repair & Maintenance Costs

While most repairs and maintenance costs are tax deductible, make sure that these expenses are “ordinary” and “necessary”, as outlined by the IRS. Ordinary and necessary means that owning a rental property demands certain repairs and maintenance made by landlords in order to make the property livable. Keep track of all the money you spend throughout the year, as these costs can only be deducted during the year they occurred. Next we will break down eligible deductible expenses.

Supplies

Painting and patching is typically the largest maintenance cost for landlords. The good news is all of these costs are tax deductible. Materials, supplies, labor or any expense it takes to get the job done should be deducted from your current year’s tax return.

Service Fees

If you use a cleaning service for the interior or exterior of your property between tenants, or you perform the cleaning yourself, make sure you keep the receipts so that money isn’t coming out of your pocket. Blowing out a sewer line, mowing the lawn, trimming shrubs, renting equipment or labor costs are all considered maintenance and thus, tax deductible. Broken windows, leaky pipes, plumbing or appliance issues, flooding, mouse traps, etc., are also eligible deductions. Basically any expense to keep your property up and running, without adding market value, will lower your tax liability each year. Again, keep your receipts!

Repairs vs Capital Improvements

The IRS has made a clear distinction between what qualifies as a repair and what qualifies as a capital improvement. If an improvement is made that extends the useful life of your property, or adds value to it, this is considered a capital improvement and is not fully tax deductible during the year it is paid.

For instance, if you replace a broken toilet, this is considered an ordinary repair and is fully tax deductible. On the other hand, if you update an entire bathroom that is outdated, this is considered a capital improvement because it adds market value to your rental and is deducted over a longer period of time. If the new bathroom costs $10,000, a smaller amount of the cost ($364) can be deducted each year for the useful life of the bathroom. The IRS determines the length of the useful life period, but any major improvements will typically be deducted each year for 27.5 years.

– Property Management Expenses

If you plan on deducting the cost of managing your own property or multiple properties (as a sole proprietor), it can be difficult to prove your active management. However, it can be done, especially if you’re using tools like tenant screening systems or property management software. Many property owners who want to manage their property themselves, may choose to establish an LLC or corporation, to make deducting taxes less messy. Let’s say the LLC employs you as the property manager, your salary is considered entirely tax deductible.

Are Property Management Fees Tax Deductible?

If you’d rather invest in a rental property, but don’t want to deal with the demands of being a landlord, consider hiring a management firm. Fees and services paid to a property management firm are 100% tax deductible.

Property Manager Deductions

Onsite property managers are often hired by real estate investors with multi-unit properties or apartment buildings. Any salary or benefits paid are considered deductible rental property expenses.

– Legal & Professional Service Fees

Real estate investment businesses and single proprietary investors often use professionals for accounting or legal work. Any expenses incurred using these services are tax deductible. If it’s a business, the deductions will be made to the overall business. If they are directly related to a specific property, then these expenses can be deducted from the actual property themselves.

– Rental Property Losses

What are rental losses? If your operating expenses are greater than the money you make from the property, this is considered a rental loss. If you have multiple properties, each property is combined or netted to determine if annual income or losses have occurred.

It’s not uncommon to have a rental loss, even if your operating expenses don’t exceed your income made on the property. This is where depreciation comes into play. You can deduct a portion of your rental property costs every year without having to spend more money.

– Start-Up Costs

New to being a landlord? You can deduct up to $5,000 of start-up expenses in the first year of operating your rental property. Any money you spend to get your property ready to rent is considered a start-up cost.

– Landlord Insurance

Is landlord insurance tax deductible? You can and should deduct any amount paid toward insurance premiums related to your rental property. This can include, theft, fire, flood and liability insurance. You can also deduct health and workers’ compensation insurance costs, if you have employees working for you and your properties.

– Rental Property Utilities

The cost of utilities every month can add up fast. If you are paying for any utilities associated with the property, along with trash removal, recycling services and internet or cable, these expenses can be deducted. The most common utility expenses include: heating, electricity, air conditioning, water and sewer. Please note, if you lump utility costs into monthly rent, the landlord must count this as income from the tenant.

– Capital Expenses or Improvement of Property

We touched on capital expenses or improvement of property in section #3 of this article. Capital expenses are defined as anything that increases the value of your property or extends its life. It can sometimes be difficult to decipher between what is considered a repair versus a capital expense or improvement.

A good rule of thumb is if anything you buy for your rental that costs over $100, is likely a capital expense, which adds value to your property and is therefore not fully tax deductible. They can however, be claimed and count towards depreciation over several years, as described above. Examples of capital expenses include, replacing a roof, any major appliances, new flooring or carpet, etc.

– Casualty Losses

In the event that your property is damaged due to a catastrophe, like a fire or flood, some or all of your losses may be deductible. Just how much is deductible will depend entirely upon your insurance coverage and how badly your property was damaged.

Conclusion

It’s never too late to start keeping good records of all your investment property costs. You have already taken the initiative to learn more about all the available tax benefits of buying and owning a rental property. Now it’s time to put that knowledge to use and hold yourself accountable to good record keeping habits, while making purchases and management decisions for your rental property that will take advantage of tax deductions and maximize your profit.

Sources:
https://www.landlordology.com
https://cozy.co/blog
https://www.nolo.com
https://www.irs.gov
https://www.thebalancesmb.com
https://turbotax.intuit.com
https://turbotax.intuit.com
https://sparkrental.com

Credits: By Kate Christensen / Articles & Guides, Tax Strategies / July 8, 2024