How To Use Rental Property for Tax Deductions
Owning a rental property comes with an array of responsibilities and associated expenses. However, you can deduct those expenses if they relate to the purchase, operation, and maintenance of your property. The following rental property tax deductions can significantly reduce your tax bill, increase your profits, and facilitate your success as a rental property owner:
Mortgage Interest
Like homeowners, rental property owners often take out mortgages to purchase their real estate, and the interest accrued on their loans tends to be one of their largest operating expenses. With a mortgage interest deduction, however, they can subtract their interest charges from their total taxable amount. The deduction limit varies depending on when you took out your mortgage. For mortgages from before Dec. 16, 2017, the limit is $1 million; for those that came after, it’s $750,000.
Bear in mind that the mortgage interest deduction relates only to interest charges. It doesn’t apply to the portion of your payment that goes toward your principal. Fortunately, as a rental property owner, you won’t have to keep track of how much interest you’ve accrued on your loan. Within the first couple of months of each year, you should receive an IRS Form 1098 from your mortgage lender, which indicates how much interest you paid in the applicable tax year.
Property Depreciation
Depreciation refers to the gradual reduction in an asset’s value over time. Even with a rental property, which has a high likelihood of increasing in value as time passes, tax law allows the owner to deduct depreciation as an expense to account for wear, tear, and obsolescence, as well as modifications that may improve or add value to the property, such as new appliances or furnishings.
Depreciation isn’t a one-off deduction; rather, you apply it across a property’s useful life — the amount of time that it’s estimated to remain in profitable service. As the IRS sets the useful life of a rental property at 27.5 years, you can use the straight-line method (asset cost minus salvage value, divided by the useful life) to calculate your yearly deduction.
It’s worth noting that you can start to claim depreciation as soon as your property becomes available to rent. You can also apply the deduction to other items that allow you to conduct your rental business, such as vehicles and office equipment.
Property Taxes
Property owners generally pay tax on every property they own. Depending on where the properties are located, that could amount to hundreds of thousands of dollars annually. However, with the property tax deduction, you can write off a portion of the taxes as an expense. If you only have passive participation in rental activities, the deductible limit is $10,000, or $5,000 for married owners filing separately (that applies to your property taxes combined with either state/local income taxes or sales taxes).
The limit doesn’t apply to business activities, however, so a higher level of involvement may allow you to write off all your property taxes.