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Know-the-Vacation-Home-Tax-Rules-Before-Renting

Summer is just around the corner. If you’re fortunate enough to own a vacation property, you may wonder about the tax consequences of renting it out for part of the year. We’ll break down the specifics so that you know the vacation home tax rules before renting this summer.

Duration is a Factor

The tax treatment depends on how many days the home is rented and your level of personal use. Personal use includes vacation use by your relatives (even if you charge them market rate rent) and use by nonrelatives if a market rate rent isn’t charged.

If you rent the property out for less than 15 days during the year, it’s not treated as “rental property” at all. In the right circumstances, this can produce significant tax benefits. Any rent you receive isn’t included in your income for tax purposes (no matter how substantial). On the other hand, you can only deduct property taxes and mortgage interest — no other operating costs and no depreciation. (Mortgage interest is deductible on your principal residence and one other home, subject to certain limits.)

If you rent the property out for more than 14 days, you must include the rent you receive in income. However, you can deduct part of your operating expenses and depreciation, subject to several rules.

First, you must allocate your expenses between the personal use days and the rental days. For example, if the house is rented for 90 days and used personally for 30 days, then 75% of the use is rental (90 days out of 120 total days). You would allocate 75% of your maintenance, utilities, insurance, etc., costs to rental. You would allocate 75% of your depreciation allowance, interest, and taxes for the property to rental as well. The personal use portion of taxes is separately deductible. The personal use portion of interest on a second home is also deductible if the personal use exceeds the greater of 14 days or 10% of the rental days. However, depreciation on the personal use portion isn’t allowed.

If the rental income exceeds these allocable deductions, you report the rent and deductions to determine the amount of rental income to add to your other income. If the expenses exceed the income, you may be able to claim a rental loss. This depends on how many days you use the house personally.

Put it to the Test

Here’s the test: if you use the property personally for more than the greater of 1) 14 days, or 2) 10% of the rental days, you’re using it “too much,” and you can’t claim your loss. In this case, you can still use your deductions to wipe out rental income, but you can’t go beyond that to create a loss. Any unused deductions are carried forward and may be usable in future years. If you’re limited to using deductions only up to the amount of rental income, you must use the deductions allocated to the rental portion in the following order: 1) interest and taxes, 2) operating costs, 3) depreciation.

If you “pass” the personal use test (i.e., you don’t use the property personally more than the greater of the figures listed above), you must still allocate your expenses between the personal and rental portions. In this case, however, if your rental deductions exceed rental income, you can claim the loss. (The loss is “passive,” however, and may be limited under the passive loss rules.)

Rely on the Experts

As you can see, the rules are complex. But knowing the vacation home tax rules before renting can help you plan ahead and maximize deductions. The professional team at Ramsay & Associates can help you better understand these regulations to benefit your specific situation. Contact us with questions.

The recently passed tax reform bill, commonly referred to as the “Tax Cuts and Jobs Act” (TCJA), is the most expansive federal tax legislation since 1986. It includes a multitude of provisions that will have a major impact on businesses.

Here’s a look at some of the most significant changes. They generally apply to tax years beginning after December 31, 2017, except where noted.

Key Provisions Affecting Small Businesses

Replacement of graduated corporate tax rates ranging from 15% to 35% with a flat corporate rate of 21%
Repeal of the 20% corporate alternative minimum tax (AMT)
New 20% qualified business income deduction for owners of flow-through entities (such as partnerships, limited liability companies and S corporations) and sole proprietorships — through 2025
Doubling of bonus depreciation to 100% and expansion of qualified assets to include used assets — effective for assets acquired and placed in service after September 27, 2017, and before January 1, 2023
Doubling of the Section 179 expensing limit to $1 million and an increase of the expensing phaseout threshold to $2.5 million
Other enhancements to depreciation-related deductions
New disallowance of deductions for net interest expense in excess of 30% of the business’s adjusted taxable income (exceptions apply)
New limits on net operating loss (NOL) deductions
Elimination of the Section 199 deduction, also commonly referred to as the domestic production activities deduction or manufacturers’ deduction — effective for tax years beginning after December 31, 2017, for noncorporate taxpayers and for tax years beginning after December 31, 2018, for C corporation taxpayers
New rule limiting like-kind exchanges to real property that is not held primarily for sale
New tax credit for employer-paid family and medical leave — through 2019
New limitations on excessive employee compensation
New limitations on deductions for employee fringe benefits, such as entertainment and, in certain circumstances, meals and transportation

Keep in mind that additional rules and limits apply to what we’ve covered here, and there are other TCJA provisions that may affect your business. Contact us for more details and to discuss what your business needs to do in light of these changes.

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