While owning rental property is a terrific way to generate consistent passive income, preparing your personal and/or business tax returns can get complicated. To offset some of your additional income, as a landlord, you can take advantage of several tax deductions. Specifically, you must have a system in place to maintain all receipts, bills, and statements with ease during the year. Alternatively, you can use rental property software to assist with the process. The key is to be organized throughout the year so you can recognize and take advantage of every deduction you are entitled to receive. Whatever method you use, if you are audited, the IRS wants to see proper back up for every deduction that you take.
Expenses for tax purposes are broken down into two categories, “current expenses” and “capital expenses.” Current expenses are those that are used to maintain the rental property, and/or help you operate your rental company. For an expense to qualify as a current expense, it must meet the following criteria:
- Ordinary and Necessary Expense. These are expenses that are common in real estate, such as interest, taxes, advertising, maintenance, utilities, and insurance).
- Current Expenses related to your rental property, company, or activity. The expense must be something of short-term value and not a long-term improvement, which must be depreciated over many years.
- Reasonable expense. The expense must be in line with the current market rate.
Below, are the top tax deductions that landlords can take in 2020
- Take Advantage of the “Pass-Through” Tax Deduction. Starting in 2018, thanks to the Tax Cuts and Jobs Act, most landlords now qualify for a new pass-through tax deduction. While this deduction is not a rental deduction, it’s one that many landlords can use. Depending on your income, you can either deduct (1) up to 20% of their net rental income, or (2) 2.5% of the initial cost of their rental property plus 25% of the amount they pay their employees.
- Deduct Ordinary, Necessary, and Reasonable Repairs. If the repairs are ordinary, necessary, and reasonable in cost, they are fully deductible in the year in which they are incurred. Painting, plumbing repairs, broken windows, fixture repairs, labor costs, and contractor fees are all deductible expenses.
3. Deduct your Loan Interest. If you have a mortgage on your investment property, the loan interest will probably be your most significant deductible expense. Specifically, you can only deduct interest on money that was spent on your rental business. This deduction includes the following:
- Any Mortgage Interest paid for the primary or secondary loan on the property.
- The interest for HELOC, as long as the loan was used to repair or make improvements to the property.
- Any credit card expenses accrued for expenses related to the property or real estate business.
4. Deduct Federal, State, and Local Taxes. If you have a mortgage on your rental property, then more than likely, you will receivea Form 1098 from your lender in January of each year. This form shows the amount of property taxes that you paid for the year together with any interest you paid for the applicable tax period. Besides, the interest and taxes that are shown on a Form 1098, you may also deduct other business-related taxes, including any State, County and City Taxes, and Medicare and Unemployment Taxes for Employees.
5. Depreciate Your Property and Capital Improvements. To prevent abuses in the tax system, IRS regulation prohibits certain expenses from being fully deductible in a given tax year. Landlords can (and should) depreciate the value of the structure of their property. Additionally, landlords should depreciate those improvements made to the property that do not qualify as current and short-term expenses. Lastly, equipment, such as laptops, computers, and printers, which can be often used for multiple years, should also be depreciated.
6. Flag Regular Maintenance Expenses. Maintenance costs are not repairs. Instead, maintenance costs are the expenses associated with maintaining and upkeeping your property. Monthly lawn services, snow removal service, monthly extermination cost, fees paid for window washing services are all examples of maintenance expenses that landlords can deduct on their taxes.
7. Remember to Deduct Insurance Premiums. Any insurance that you acquired to protect your business or rental property is also tax-deductible. Deductible insurance premiums include but are not limited to homeowners’ insurance, mortgage insurance premiums, fire insurance, and workers’ compensation insurance
8. Calculate Utility Costs. Any rental property utilities that you pay for are deductible on your taxes. In the event that your tenant reimburses you for certain utility expenses, you can still deduct them, but you must also claim the amount reimbursed as income on your Schedule E.
9. Don’t forget to Deduct your Car Mileage & other Travel Expenses.More than half of all landlords live more than 50 miles from their investment property. As such, any travel that is related to running, maintaining, and operating your rental property/business is fully deductible in the year in which the expense is incurred. As such, airline fares, car rentals, taxis, hotels, and 50 percent of meal expenses during long-distance travel are all deductible.
10. Remember that Management Fees & Legal Fees are 100% Deductable. If you need to hire a professional, including a property manager/firm, lawyer, accountant, or tax profession, all the expenses and fees paid to your professional team are tax-deductible. Additionally, any cost and expenses related to evicting tenants are also deductible.
11. Office & Operating Expenses Can be Deducted No Matter Where Your Office is Located. No matter if you run your business from a commercial space or your home office, all office expenses are deductible on your taxes. Office and operating expenses include rent paid for office space, software used to conduct your rental activity, any forms purchase, ink, paper, and office utilities, to name a few.
12. Advertising, Commission Fees & Tenant Referral Fees are Deductible expenses. Lastly,any fees paid to advertise your property, online print ads, or mailer are tax-deductible. Additionally, fees paid for tenant referrals and commission paid to Brokers/Agents to locate tenants for your property may be deducted as well.
Overall, no one enjoys paying taxes. However, fortunately for the 15 million people who own investment property, tax season can be a bit more manageable by taking advantage of the numerous deductions available in the 2020 tax code. Overall, every landlord maximizes his or her deductions by storing all receipts, bills, and statements throughout the year instead of scrambling around tax time. When in doubt about whether an expense is tax-deductible, keep the receipt and consult with your accountant/CPA.
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