Table of Contents
You generally must include in your gross income all amounts you receive as rent. Rental income is any payment you receive for the use or occupation of property. In addition to amounts you receive as normal rent payments, there are other amounts, discussed later, that may be rental income.
Example 1.
Your tenant pays the water and sewage bill for your rental property and deducts it from the normal rent payment. Under the terms of the lease, your tenant does not have to pay this bill. Include the utility bill paid by the tenant and any amount received as a rent payment in your rental income. You can deduct the utility payment made by your tenant as a rental expense.
Example 2.
While you are out of town, the furnace in your rental property stops working. Your tenant pays for the necessary repairs and deducts the repair bill from the rent payment. Include the repair bill paid by the tenant and any amount received as a rent payment in your rental income. You can deduct the repair payment made by your tenant as a rental expense.
This section discusses expenses of renting property that you ordinarily can deduct from your rental income. It includes information on the expenses you can deduct if you rent a condominium or cooperative apartment, if you rent part of your property, or if you change your property to rental use. Depreciation, which you can also deduct from your rental income, is discussed later under Depreciation.
Table 1. Examples of Improvements
| Caution. Work you do (or have done) on your home that does not add much to either the value or the life of the property, but rather keeps the property in good condition, is considered a repair, not an improvement. |
| Additions Bedroom Bathroom Deck Garage Porch Patio Lawn & Grounds Landscaping Driveway Walkway Fence Retaining wall Sprinkler system Swimming pool Miscellaneous Storm windows, doors New roof Central vacuum Wiring upgrades Satellite dish Security system |
Heating & Air Conditioning Heating system Central air conditioning Furnace Duct work Central humidifier Filtration system Plumbing Septic system Water heater Soft water system Filtration system Interior Improvements Built-in appliances Kitchen modernization Flooring Wall-to-wall carpeting Insulation Attic Walls, floor Pipes, duct work |
You can deduct the cost of repairs to your rental property. You cannot deduct the cost of improvements. You recover the cost of improvements by taking depreciation (explained later).
In addition to depreciation and the cost of repairs, you can deduct the following expenses from your rental income.
-
Advertising.
-
Cleaning and maintenance.
-
Utilities.
-
Insurance.
-
Taxes.
-
Interest.
-
Points.
-
Commissions.
-
Tax return preparation fees.
-
Travel expenses.
-
Rental payments.
-
Local transportation expenses.
Some of these expenses are discussed next.
-
On a constant-yield basis over the term of the loan.
-
On a straight line basis over the term of the loan.
-
In proportion to stated interest payments.
-
In its entirety at maturity of the loan.
Example of de minimis amount.
On January 1, 2007, you took out a loan for $100,000. The loan matures on January 1, 2017 (a 10-year term), and the stated principal amount of the loan ($100,000) is payable on that date. An interest payment of $10,000 is payable to the bank on January 2 of each year, beginning on January 2, 2008. When the loan was made, you paid $1,500 in points to the bank. The points reduced the issue price of the loan from $100,000 to $98,500, resulting in $1,500 of OID. You determine that the points (OID) you paid are de minimis based on the following computation.
| Redemption price at maturity (principal amount of the loan) | $100,000 |
| Multiplied by: The term of the loan in complete years | × 10 |
| Multiplied by | × .0025 |
| De minimis amount | $2,500 |
The points (OID) you paid ($1,500) are less than the de minimis amount. Therefore, you have de minimis OID and you can choose one of the four ways discussed earlier to figure the amount you can deduct each year. Under the straight line method, you can deduct $150 each year for 10 years.
-
Determine the issue price of the loan. Generally, this equals the proceeds of the loan. If you paid points on the loan, the issue price generally is the difference between the proceeds and the points.
-
Multiply the result in (1) by the yield to maturity.
-
Subtract any qualified stated interest payments from the result in (2). This is the OID you can deduct in the first year.
Example of constant yield.
The facts are the same as in the previous example. The yield to maturity on your loan is 10.2467%, compounded annually.
You figure the amount of points (OID) you can deduct in 2007 as follows.
| Principal amount of the loan | $100,000 |
| Minus: Points | 1,500 |
| Issue price of the loan | $98,500 |
| Multiplied by: YTM | × .102467 |
| Total | 10,093 |
| Minus: QSI | 10,000 |
| Points (OID) deductible in 2007 | $93 |
| Issue price | $98,500 |
| Plus: Points (OID) deducted in 2007 | 93 |
| Adjusted issue price | $98,593 |
| Multiplied by: YTM | × .102467 |
| Total | 10,103 |
| Minus: QSI | 10,000 |
| Points (OID) deductible in 2008 | $103 |
If you rent out a condominium or a cooperative apartment, special rules apply. Condominiums are treated differently from cooperatives.
If you own a condominium, you own a dwelling unit in a multi-unit building. You also own a share of the common elements of the structure, such as land, lobbies, elevators, and service areas. You and the other condominium owners may pay dues or assessments to a special corporation that is organized to take care of the common elements.
If you rent your condominium to others, you can deduct:
-
Depreciation,
-
Repairs,
-
Upkeep,
-
Dues,
-
Interest and taxes, and
-
Assessments for the care of the common parts of the structure.
You cannot deduct special assessments you pay to a condominium management corporation for improvements. But you may be able to recover your share of the cost of any improvement by taking depreciation.
If you have a cooperative apartment that you rent to others, you can usually deduct, as a rental expense, all the maintenance fees you pay to the cooperative housing corporation. However, you cannot deduct a payment earmarked for a capital asset or improvement, or otherwise charged to the corporation's capital account. For example, you cannot deduct a payment used to pave a community parking lot, install a new roof, or pay the principal of the corporation's mortgage. You must add the payment to the basis of your stock in the corporation.
Treat as a capital cost the amount you were assessed for capital items. This cannot be more than the amount by which your payments to the corporation exceeded your share of the corporation's mortgage interest and real estate taxes.
Your share of interest and taxes is the amount the corporation elected to allocate to you, if it reasonably reflects those expenses for your apartment. Otherwise, figure your share in the following way.
-
Divide the number of your shares of stock by the total number of shares outstanding, including any shares held by the corporation.
-
Multiply the corporation's deductible interest by the number you figured in (1). This is your share of the interest.
-
Multiply the corporation's deductible taxes by the number you figured in (1). This is your share of the taxes.
In addition to the maintenance fees paid to the cooperative housing corporation, you can deduct your direct payments for repairs, upkeep, and other rental expenses, including interest paid on a loan used to buy your stock in the corporation. The depreciation deduction allowed for cooperative apartments is discussed at Cooperative apartments, under Depreciation, later.
If you do not rent your property to make a profit, you can deduct your rental expenses only up to the amount of your rental income. You cannot carry forward to the next year any rental expenses that are more than your rental income for the year. For more information about the rules for an activity not engaged in for profit, see Not-for-Profit Activities in chapter 1 of Publication 535.
If you change your home or other property (or a part of it) to rental use at any time other than the beginning of your tax year, you must divide yearly expenses, such as taxes and insurance, between rental use and personal use.
You can deduct as rental expenses only the part of the expense that is for the part of the year the property was used or held for rental purposes.
For depreciation purposes, treat the property as being placed in service on the conversion date.
You cannot deduct depreciation or insurance for the part of the year the property was held for personal use. However, you can include the home mortgage interest, qualified mortgage insurance premiums, and real estate tax expenses for the part of the year the property was held for personal use as an itemized deduction on Schedule A (Form 1040).
Example.
Your tax year is the calendar year. You moved from your home in May and started renting it out on June 1. You can deduct as rental expenses seven-twelfths of your yearly expenses, such as taxes and insurance.
Starting with June, you can deduct as rental expenses the amounts you pay for items generally billed monthly, such as utilities.
When figuring depreciation, treat the property as placed in service on June 1.
If you rent part of your property, you must divide certain expenses between the part of the property used for rental purposes and the part of the property used for personal purposes, as though you actually had two separate pieces of property.
You can deduct the expenses related to the part of the property used for rental purposes, such as home mortgage interest, qualified mortgage insurance premiums, and real estate taxes, as rental expenses on Schedule E (Form 1040). You can also deduct as a rental expense a part of other expenses that normally are nondeductible personal expenses, such as expenses for electricity, or painting the outside of your house.
You can deduct the expenses for the part of the property used for personal purposes, subject to certain limitations, only if you itemize your deductions on Schedule A (Form 1040).
You cannot deduct any part of the cost of the first phone line even if your tenants have unlimited use of it.
You do not have to divide the expenses that belong only to the rental part of your property. For example, if you paint a room that you rent, or if you pay premiums for liability insurance in connection with renting a room in your home, your entire cost is a rental expense. If you install a second phone line strictly for your tenant's use, all of the cost of the second line is deductible as a rental expense. You can deduct depreciation, discussed later, on the part of the property used for rental purposes as well as on the furniture and equipment you use for rental purposes.
Example.
You rent a room in your house. The room is 12 × 15 feet, or 180 square feet. Your entire house has 1,800 square feet of floor space. You can deduct as a rental expense 10% of any expense that must be divided between rental use and personal use. If your heating bill for the year for the entire house was $600, $60 ($600 × 10%) is a rental expense. The balance, $540, is a personal expense that you cannot deduct.
If you have any personal use of a dwelling unit (defined later) (including a vacation home) that you rent, you must divide your expenses between rental use and personal use. See Figuring Days of Personal Use and How To Divide Expenses, later.
If you used a dwelling unit for personal purposes, it may be considered a “dwelling unit used as a home.” If it is, you cannot deduct rental expenses that are more than your rental income for the unit. See Dwelling Unit Used as Home and How To Figure Rental Income and Deductions, later. If the dwelling unit is not considered a dwelling unit used as a home, you can deduct rental expenses that are more than your rental income for the unit, subject to certain limits. See Limits on Rental Losses, later.
The tax treatment of rental income and expenses for a dwelling unit that you also use for personal purposes depends on whether you use it as a home. (See How To Figure Rental Income and Deductions, later).
You use a dwelling unit as a home during the tax year if you use it for personal purposes more than the greater of:
-
14 days, or
-
10% of the total days it is rented to others at a fair rental price.
See Figuring Days of Personal Use, later.
If a dwelling unit is used for personal purposes on a day it is rented at a fair rental price, do not count that day as a day of rental use in applying (2) above. Instead, count it as a day of personal use in applying both (1) and (2) above. This rule does not apply when dividing expenses between rental and personal use.
-
Is it used for the same purpose?
-
Is it approximately the same size?
-
Is it in approximately the same condition?
-
Does it have similar furnishings?
-
Is it in a similar location?
The following examples show how to determine whether you used your rental property as a home.
Example 1.
You converted the basement of your home into an apartment with a bedroom, a bathroom, and a small kitchen. You rented the basement apartment at a fair rental price to college students during the regular school year. You rented to them on a 9-month lease (273 days). You figured 10% of the total days rented to others at a fair rental price is 27 days.
During June (30 days), your brothers stayed with you and lived in the basement apartment rent free.
Your basement apartment was used as a home because you used it for personal purposes for 30 days. Rent-free use by your brothers is considered personal use. Your personal use (30 days) is more than the greater of 14 days or 10% of the total days it was rented (27 days).
Example 2.
You rented the guest bedroom in your home at a fair rental price during the local college's homecoming, commencement, and football weekends (a total of 27 days). Your sister-in-law stayed in the room, rent free, for the last 3 weeks (21 days) in July. You figured 10% of the total days rented to others at a fair rental price is 3 days.
The room was used as a home because you used it for personal purposes for 21 days. That is more than the greater of 14 days or 10% of the 27 days it was rented (3 days).
Example 3.
You own a condominium apartment in a resort area. You rented it at a fair rental price for a total of 170 days during the year. For 12 of these days, the tenant was not able to use the apartment and allowed you to use it even though you did not refund any of the rent. Your family actually used the apartment for 10 of those days. Therefore, the apartment is treated as having been rented for 160 (170 - 10) days. You figure 10% of the total days rented to others at a fair rental price is 16 days. Your family also used the apartment for 7 other days during the year.
You used the apartment as a home because you used it for personal purposes for 17 days. That is more than the greater of 14 days or 10% of the 160 days it was rented (16 days).
For purposes of determining whether a dwelling unit was used as a home, you may not have to count days you used the property as your main home before or after renting it or offering it for rent as days of personal use. Do not count them as days of personal use if:
-
You rented or tried to rent the property for 12 or more consecutive months.
-
You rented or tried to rent the property for a period of less than 12 consecutive months and the period ended because you sold or exchanged the property.
This special rule does not apply when dividing expenses between rental and personal use.
Example 1.
On February 28, you moved out of the house you had lived in for 6 years because you accepted a job in another town. You rent your house at a fair rental price from March 15 of that year to May 14 of the next year (14 months). On the following June 1, you move back into your old house.
The days you used the house as your main home from January 1 to February 28 and from June 1 to December 31 of the next year are not counted as days of personal use.
Example 2.
On January 31, you moved out of the condominium where you had lived for 3 years. You offered it for rent at a fair rental price beginning on February 1. You were unable to rent it until April. On September 15, you sold the condominium.
The days you used the condominium as your main home from January 1 to January 31 are not counted as days of personal use when determining whether you used it as a home.
A day of personal use of a dwelling unit is any day that the unit is used by any of the following persons.
-
You or any other person who has an interest in it, unless you rent it to another owner as his or her main home under a shared equity financing agreement (defined later). However, see Use as Main Home Before or After Renting under Dwelling Unit Used As Home, earlier.
-
A member of your family or a member of the family of any other person who has an interest in it, unless the family member uses the dwelling unit as his or her main home and pays a fair rental price. Family includes only brothers and sisters, half-brothers and half-sisters, spouses, ancestors (parents, grandparents, etc.) and lineal descendants (children, grandchildren, etc.).
-
Anyone under an arrangement that lets you use some other dwelling unit.
-
Anyone at less than a fair rental price.
-
You donate the use of the unit to a charitable organization,
-
The organization sells the use of the unit at a fund-raising event, and
-
The “purchaser” uses the unit.
The following examples show how to determine days of personal use.
Example 1.
You and your neighbor are co-owners of a condominium at the beach. You rent the unit to vacationers whenever possible. The unit is not used as a main home by anyone. Your neighbor uses the unit for 2 weeks every year.
Because your neighbor has an interest in the unit, both of you are considered to have used the unit for personal purposes during those 2 weeks.
Example 2.
You and your neighbors are co-owners of a house under a shared equity financing agreement. Your neighbors live in the house and pay you a fair rental price.
Even though your neighbors have an interest in the house, the days your neighbors live there are not counted as days of personal use by you. This is because your neighbors rent the house as their main home under a shared equity financing agreement.
Example 3.
You own a rental property that you rent to your son. Your son has no interest in this property. He uses it as his main home. He pays you a fair rental price for the property.
Your son's use of the property is not personal use by you because your son is using it as his main home, he has no interest in the property, and he is paying you a fair rental price.
Any day that you spend working substantially full time repairing and maintaining (not improving) your property is not counted as a day of personal use. Do not count such a day as a day of personal use even if family members use the property for recreational purposes on the same day.
Example.
You own a cabin in the mountains that you rent during the summer. You spend 3 days at the cabin each May, working full time to repair anything that was damaged over the winter and get the cabin ready for the summer. You also spend 3 days each September, working full time to repair any damage done by renters and getting the cabin ready for the winter.
These 6 days do not count as days of personal use even if your family uses the cabin while you are repairing it.
If you use a dwelling unit for both rental and personal purposes, divide your expenses between the rental use and the personal use based on the number of days used for each purpose. You can deduct expenses for the rental use of the unit under the rules explained in How To Figure Rental Income and Deductions, later.
When dividing your expenses, follow these rules.
-
Any day that the unit is rented at a fair rental price is a day of rental use even if you used the unit for personal purposes that day. This rule does not apply when determining whether you used the unit as a home.
-
Any day that the unit is available for rent but not actually rented is not a day of rental use.
Example.
Your beach cottage was available for rent from June 1 through August 31 (92 days). Your family uses the cottage during the last 2 weeks in May (14 days). You were unable to find a renter for the first week in August (7 days). The person who rented the cottage for July allowed you to use it over a weekend (2 days) without any reduction in or refund of rent. The cottage was not used at all before May 17 or after August 31.
You figure the part of the cottage expenses to treat as rental expenses as follows.
-
The cottage was used for rental a total of 85 days (92 - 7). The days it was available for rent but not rented (7 days) are not days of rental use. The July weekend (2 days) you used it is rental use because you received a fair rental price for the weekend.
-
You used the cottage for personal purposes for 14 days (the last 2 weeks in May).
-
The total use of the cottage was 99 days (14 days personal use + 85 days rental use).
-
Your rental expenses are 85/99 (86%) of the cottage expenses.
When determining whether you used the cottage as a home, the July weekend (2 days) you used it is personal use even though you received a fair rental price for the weekend. Therefore, you had 16 days of personal use and 83 days of rental use for this purpose. Because you used the cottage for personal purposes more than 14 days and more than 10% of the days of rental use (8 days), you used it as a home. If you have a net loss, you may not be able to deduct all of the rental expenses. See Property Used as a Home in the following discussion.
How you figure your rental income and deductions depends on whether you used the dwelling unit as a home (see Dwelling Unit Used as Home, earlier) and, if you used it as a home, how many days the property was rented at a fair rental price.
If you do not use a dwelling unit as a home, report all the rental income and deduct all the rental expenses. See How To Report Rental Income and Expenses, later.
Your deductible rental expenses can be more than your gross rental income. However, see Limits on Rental Losses, later.
If you use a dwelling unit as a home during the year, how you figure your rental income and deductions depends on how many days the unit was rented at a fair rental price.