Top 10 Tax Deductions for Landlords
Posted on Monday March 01, 2021 at 09:20PM in General
Top 10 Tax Deductions for Landlords
As a landlord, it is essential to understand the expenses you need to pay on your rental income, and the amounts you are able to deduct from your taxes. Taking advantage of the tax deductions available to you can help you reduce your tax burden, avoid overpaying, and maximize the profit of your properties. Rental real estate properties provide more tax benefits than almost any other investment you can make. In order to properly take advantage of these deduction, it is important to know what they are and how to use them.
What qualifies as an expense?There are two types of expenses you should understand: current expenses and capital expenses.
Current expensesCurrent expenses are usually items that keep your property habitable and in working condition, or help you operate your rental business. On your taxes you can deduct the entire expense if it was incurred in the same year (that’s why they are called current expenses). Generally, repairs that restore an item to its previous, working condition are deductible.
Here are some qualifications of current expenses:
- The expense must be ordinary and necessary. Ordinary expenses qualify as those that are common and generally accepted in the rental business. Necessary expenses that you can encounter are those that are deemed appropriate such as advertising, utilities, maintenance, insurance, interest, and taxes.
- They must be current. Current expenses have more of a short-term value, than a long-term value. An example of short vs long term value is fixing a hot water heater (short-term value) or replacing an appliance (long-term value). Fixing an appliance updates and adds value to the property while fixing a hot water heater restores the property back to its original condition.
- It has to be related directly to your rental activity. These expenses must be business related.
- It must be a reasonable amount. You will get audited if you report an unreasonable amount such as a $600 toilet seat.
Capital ExpensesA capital expense can be anything that increases the value or extends the life of your rental property. Anything that increases value is considered an improvement and must be capitalized and depreciated over many years. It is a good idea to deduct any capital expense that costs hundreds of dollars (or even more) to replace. Examples include new appliances and a new roof.
Keep records and stay organizedIt is essential to keep detailed and accurate records of all expenses and payments on your rental properties. It is especially important when you are claiming anything on your taxes. Documents that provide proof of what you are claiming are essential if you ever get audited. As part of Schedule My Rent’s landlord software, you are able to enter all your expenses in an organized, easy to access screen. You can enter an expense, upload an image (so you don't have to keep a shoebox full of receipts), and split the expense across multiple different units. For example, a landscaping company many mow the lawn and trim the trees across all of your 3 properties and send you one bill. You can enter the bill, upload an image, and split the total amount into separate amounts for each unit. At tax time, you can see all of the expenses, by tax category that you assign, for each unit. For more information, visit our Landlord Software.
InterestGenerally, interest is a landlord’s largest deductible expense. It is such an important deduction because you are able to deduct the interest payments on your mortgage loans that were used to acquire or improve your rental. You can’t deduct the mortgage payments themselves, but the interest deduction will save you a lot of money. Another common example of interest deductions is the interest on credit card payments. You can deduct interest on goods or services used in rental activity paid through your credit card. It is important to remember that you can only deduct interest on the money that was used on your rental business.
InsuranceYou are able to deduct premiums for almost any insurance related to your rental activity. This includes accident, causality, flood, theft, health, fire, vehicle, and landlord liability. Along with these, if you have employees involved in the management of your properties, you can deduct the cost of their workers’ compensation insurance, and their health insurance.
TravelLandlords are entitled to tax deductions for certain local and long distance travel expenses relating to their business. This means you can deduct mileage for driving done in order to manage your rental property. For example, if you drive to the rental property for a tenant complaint, or drive to a hardware store for parts to repair your property. However, you are not able to deduct the cost of driving to your properties for the purpose of improving your rental.
For long distance travel, if you don’t live near your rentals you can deduct costs of travel related to business expenses. This includes airline fares, hotels, car rentals, and 50% of meal expenses.
You have two options for deducting vehicle expenses relating to business activity. One option is to deduct your actual expenses (upkeep, repairs, gasoline). The other option is to use the standard mileage rate (check the IRS website for the current rates). In order to qualify for the standard mileage rate, you need to use it during the first year of using the car for your rental activity. If you don’t use your own vehicle, you can deduct the costs of public transportation expended for business purposes.
In order to take advantage of this deduction, it is important to carefully and precisely track your travel. The IRS closely scrutinizes travel deductions (especially those related to overnight travel).
RepairsYou are able to deduct the cost of repairs in the given tax year. Repairs are considered work that is necessary for maintaining the condition of your property, and don’t add significant value to the property. The repairs also must be ordinary, necessary, and in reasonable amounts. Examples of repairs include repainting, plastering, fixing floors, repairing gutters, fixing leaks, replacing broken windows, and air conditioning repairs. It is very important not to deduct costs that are considered improvements. Any work that adds value to the property is considered an improvement. A good general rule, is anything that is a replacement most likely will add value to the property and will not be a repair (for tax deduction purposes).
DepreciationAnother major deductible for landlords is property depreciation. There are three types of costs that you should depreciate: value of the structure (not the land), equipment/laptops/computers, and the value of improvement (appliances, windows, carpets, countertops). Some general rules are that expenses should be expected to last for longer than a year, bring value to your business, and lose its value/wear out over time. These expenses are not able to be deducted in a single year, and they must be spread out (depreciated) over multiple years.
The way in which you will depreciate an asset will depend on what the asset is. Assets such as refrigerators or buildings, will have useful lives different from other assets and could need accelerated depreciation or straight line depreciation. You are able to consult the IRS or your accountant to help determine which type of depreciation to use based on the assets and their useful lives.
Employees and Independent ContractorsWhen you hire someone to do work or perform services for you on your property, you can deduct the wages you pay them as business expenses. The worker can be a full-time employee (such as a property manager) or a part-time employee (such as an independent contractor). Independent contractors can be plumbers or electricians (anyone you hire to do work at the property).
Personal PropertyThe cost of personal property that is used in your rental activity can be deducted in one year. This deduction is possible under the de minimis safe harbor deduction and is applied for property costing up to $2,000. Personal property can include appliances (washing machine, fridge, etc.), furniture in a furnished rental, and gardening equipment.
Home OfficeIf part of your home is used exclusively as an office for your business, landlords are able to deduct their home office expenses from their taxable income. In order to claim the deduction, you must conduct the majority of your business in your home office. The amount of deduction available to you depends on the percentage of your home that the office takes up. When applying this deduction, it is essential that you properly apply it. Home office deductions are the most common type of deduction flagged by the IRS because many businesses abuse it. You should keep accurate records of the time you spend using your home office and subtract any personal usage of the space.
Pass-Through Tax DeductionPass-through tax deduction is an income tax deduction instead of a rental property-specific deduction. Most landlords qualify for this deduction established by the Tax Cuts and Jobs Act. Depending on the landlord’s income, they can deduct up to 20% of their net rental income or 2.5% of the initial cost of their rental property plus 25% of the cost they pay their employees. This deduction is set to expire after 2025.
Legal and Professional ServicesIf you need to hire a professional such as an attorney, financial advisor, accountant, or tax professional you can deduct these fees as operating expenses as long as the fees are related to work on your rental property. As a landlord you will inevitably be put in a position where you need to evict a tenant. All reasonable court and filing fees relating to the eviction of your tenant can be covered by this deduction.