If you own properties, you should be aware that there are several different rules for reporting rental income, deductible expenses, and gains and losses from the sale of the property, depending on how it is classified. The home you use for the majority of the year would be considered your principal residence. This home should also have the address that’s listed on relevant correspondence and documentation, such as your driver’s license, auto registration, previous tax returns, etc. But what if you’re lucky enough to have another home? It could be a house, boat, trailer – almost anything with cooking, sleeping, and restroom facilities.
Investment properties are the most straightforward to keep track of. An investment property is just that – a residence that’s held for investment. You don’t spend any personal time there and you don’t rent it out. For properties like this, property taxes and casualty losses are tax deductible (just as for your principal residence). Any interest expense associated with the property would also be deductible, limited to your net investment income. As far as selling the property goes, any gain or loss would be considered a capital gain or loss however; your loss could be limited.
Things can get more complicated when dealing with rental properties and second homes. If your property is rented more than 14 days in a year AND your personal use does not exceed the greater of 14 days or 10 percent of the total days rented during the year, it is classified a rental property. In contrast, if your property is rented less than 15 days or if your personal use exceeds the greater of the two thresholds mentioned above, you have a second Home. For both types, rental income is reported to the IRS except when renting fewer than 15 days in a year. Additionally, interest expense (which could be limited), property taxes, and casualty losses are deductible for both. So what’s the difference? Rental properties have two major advantages over second homes: (1) Rental property owners are able to deduct both the rental portion of ordinary and necessary expenses as well as the related depreciation from their rental income and (2) Rental property owners can carry forward “unallowed losses” to offset any gain they might realize from selling their property in the future. If you would like to know more about real estate and property classifications or how they may impact your unique tax situation, please contact your tax professional for assistance with tax planning. Picture by Moyan Brenn (License)