Q: I own a vacation home on the beach. I want to rent it out for part of the year and use it myself the rest of the time. Can I write off my expenses?
A: The answer depends on how much you use the home yourself. If your property is rented most or all of the time, you should be able to deduct your rental expenses, although you'll also be declaring the rental income. But when you also use a rental property as a home, deductions may be limited.
One key thing to know: The IRS defines personal-use days broadly, including days a property is being used by relatives -- even if they pay market-rate rent -- as well as time the property is being used by non-family members who do not pay market-rate rent. Any days you fully devote to repairing or maintaining the property are not counted as personal use days, however -- no matter how relaxing you find rewiring the bathroom.
Taxpayers tend to fall into three different categories, say CPAs, depending on how often they rent the space and their level of personal use.
Limited Rental Use
If the property is rented for fewer than 15 days a year, or less than 10% of the total number of days you could rent it to others at a fair rental price -- whichever is greater -- you do not have to report or pay taxes on any of the rental income you receive, says Jerry Love, a CPA in Abilene, Texas.
Love calls this the Masters Golf loophole, as it can be a huge boon for owners of properties located near events like the Masters Golf Tournament, the Super Bowl or Mardi Gras that tend to drive up rental rates for a short period of time.
You will not be eligible for a Schedule E deduction for any expenses associated with renting the property. You can, however, deduct qualified residential interest expense and real estate taxes as itemized expenses on Schedule A, as you would with your primary residence or other property used for personal needs.
Hybrid Rental and Personal Use
When you both occupy the property and rent it out for 15 days or more per year, you must report the rental income you receive to the IRS, and you can deduct part of your rental expenses and depreciation.
To determine your deduction, you would need to divide your expenses between personal use days and rental days, says Love. If you plan on renting out the home half the year, for instance, 50% of the property use is rental, meaning you can allocate 50% of your maintenance, utilities and insurance costs to the rental, as well as 50% of your depreciation allowance, interest, and taxes for the property.
Note that your deductions cannot exceed the amount of income you received. "You can’t claim a loss, but you can offset the rental income," says CPA and financial planner Ted Sarenski in Syracuse, N.Y.
The IRS recommends that for the rental portion of expenses, you use the deduction for interest and taxes first, followed by operating costs and then depreciation. Any expenses you were unable to deduct because of the limit can be carried forward for possible future use against rental income.
You can also take separate deductions -- although not the depreciation -- against the portion of personal use days. So in the example above, the remaining 50% of the interest you paid could be deducted on Schedule A.
Limited Personal Use
Use your rental property fewer than 15 days a year, or less than 10% of possible rental days? In that case, the property won't be considered a residence and so your rental expense deductions are not limited to the property's rental income, meaning you can claim the loss.
However, you still must prorate expenses to eliminate any period of personal use. Let's say you stayed in your beach house 10 days a year, and rented it out the other 355 days. In that case, 10/365 (or 2.7%) of each expense you incurred could not be taken as a deduction on Schedule E as a rental property expense.
You do not have to prorate deductions that are directly related to renting it out, such as advertising or listing fees, says Love. You can still deduct any property taxes attributable to the personal portion on Schedule A, but not your mortgage interest, since the property isn't a residence.
You can also deduct travel costs to your vacation home as a business deduction, says Love, as long as the reason for the trip is related to maintenance needs -- like winterizing a ski condo in Colorado before renters arrive -- and is not for your own family vacation.