Taxes. A necessary evil when it comes to running your own business and managing your rental properties.
If you’re earning an income from your rentals, you will have to report your earnings to the government in order to be taxed on that income.
The good news is that there are certain tax deductions you may be eligible for if you earn money from your rental properties. Here’s what you need to know about rental property taxes so you stay in good standing with the IRS.
Table of Contents:
- Residential Rental Property Taxes
- What are the Tax Benefits of Owning Rental Property?
- How Do I Report My Rental Income and Expenses?
- What Tax Deductions Can I Take as an Owner of Rental Property?
- Rental Property Depreciation
- Get Help from a Property Management Professional
Residential Rental Property Taxes
Before you determine how much you need to pay on your rental property income, you first need to know whether it qualifies as a “residential rental property”. Different tax rules apply depending on if you’re using the property as your own residence during the year.
Residential rental property (otherwise referred to as a “dwelling”) can include an apartment, a single-family house, a condo, a vacation home, or a mobile home. You can use your residential property as a source of income if you plan on living elsewhere for long periods of time.
Types of rental income include:
- Collecting rent payments
- Obtaining payments from tenants canceling a lease
- Expenses paid by a tenant
- Any security deposit amount not refunded
If you, the property owner, collect this income, then you will need to include it on your tax return.
Arizona Rental Property Taxes
According to the state of Arizona, a “residential rental” is the rental of a property for 30 (consecutive) or more days. This is if the rental is for residential purposes and not commercial purposes.
A residential rental income is subject to tax – known as transaction privilege tax (TPT). This is imposed “when renters or property management companies engage in business under the residential rental classification by the Model City Tax Code”, according to the Arizona Department of Revenue.
What are the Tax Benefits of Owning Rental Property?
One of the best benefits of owning a rental property is tax deductions. You’re typically able to deduct your property taxes, property insurance, and mortgage interest. This means that you may be able to operate a rental property near “interest-free” because your income may outweigh the costs.
Are There Tax Advantages of Having a Vacation Rental?
You can claim certain tax deductions on your vacation rental, depending on how long you rent it out for.
If you rent out your property for 14 days or fewer per year, and you live there more than 10% of the time, it’s not considered a rental property. Local and state taxes may still apply, but you’re essentially off scot-free when it comes to federal income taxes.
If you live in your house/apartment part-time – more than 15 days – AND rent it out – over 14 days– you’ll be able to deduct 100% of your direct rental expenses. These expenses include operating costs, repair expenses, and depreciation.
How Do I Report My Rental Income and Expenses?
To file report your rental income, you'll need a Form 1040 and attach a Schedule E: Supplemental Income and Loss. On Schedule E, you will list your net income, your rental expenses, and the depreciation for each of your properties. These expenses may or may not be tax-deductible, but can include advertising/marketing, repairs and maintenance, travel, insurance, and property management fees.
What Tax Deductions Can I Take as an Owner of Rental Property?
If you earn an income from your rental properties, this income must be reported on your tax return. However, there are also some rental expenses you may be able to deduct from your tax return.
Review the rental property tax deductions below to see what expenses may be deductible on your tax return.
Rental Property Deductions Checklist
- Property tax
- Operating expenses
- Mortgage interest
- Interest on credit cards used on the property
- Licensing fees
- Occupancy taxes
- Repairs and improvements ( including labor and materials )
- Tenant placement
- HOA fees
- Travel expenses
- Legal and professional fees
- Property management fees
In other words, you can deduct any “ordinary” expenses that are required in order to manage and maintain your property. You can also deduct any expenses paid by the tenant as long as they are deductible rental expenses.
As for improvements on your property, you can recover some or all of those expenses through reporting depreciation with a Form 4562. To learn more, visit the Deducting Business Expenses page on the IRS website.
Rental Property Depreciation
“Depreciation” is a tax reduction that covers the hypothetical wear and tear that may occur on your property. It essentially estimates how much these eventual repairs may cost, versus covering your actual, current maintenance expenses.
You’ll want to determine what the depreciation figure is so you can get the fairest deduction possible. To do this, it’s best to keep accurate accounting records and hire a certified public accountant (CPA) to help you.
How Do I Calculate Rental Depreciation?
The IRS allows property owners to calculate a tax deduction based on the assumed decrease in the value of their property over the course of 27.5 years.
You can depreciate your rental property value based on this formula:
Cost of the Building- Value of the Land = Building Value
Building Value / 27.5 = Yearly allowable depreciation deduction
For example, if your property is worth $400,000 and the land is worth $25,000, the yearly depreciation value would be $13,636($400,000 - $25,000 = $375,000 ; $375,000 / 27.5 = $13,636 ).
Depreciation is one of the top benefits of owning rental property because it reduces your reportable income and, therefore, your taxes.
Get Help from a Property Management Professional
Rental property taxes seem confusing? You’re not alone. Many landlords struggle to stay on top of all the deductions they are eligible for. That’s why it’s best to hire a professional to make sure you’re being taxed on the lowest amount of net income as possible come tax time.
When you hired a real estate investing or property management professional, they’ll help you stay on top of your taxes. Even better, they’ll make sure you’re not overpaying on your taxes and that you’re keeping the most money as possible in your wallet.
Table of Contents:
Intro: What is Property Management
Chapter 1: Property Management Services
Chapter 3: Property Management Tools
Chapter 4: Rental Property Taxes
Chapter 5: Selling Rental Property
Chapter 6: Buying Rental Property in the Phoenix Market