What are rental write offs?

Question

Hello All,

I am closing on my first rental property this week and am extremely excited to get started. I am trying to prepare as best as I can before closing to get everything setup as needed. Once the property is mine I am wondering what is classified as a tax write off for my rental property and what are my best ways of tracking my expenses? When it comes tax time am I going to need a list of receipts or how does that work? Any input would be awesome. Thanks guys!

Joe Splitrock · Answer

Write off is a legitimate business expense. I would recommend reading the book, "Nolo: Every Landlords Tax Deduction Guide". If you think anything could be a business expense, keep the receipt. Even if your tax professional decides it is not a legitimate expense, it is better to have the receipt just in case.

A couple things to understand.

- Some items are depreciated, which means only part of the expense is claimed every year over the depreciation period. Review tax documents explaining what is depreciated and work with your tax professional to categorize correctly.

- Second thing to remember is that your time is not an expense. If you spend 3 hours cleaning, you cannot claim your time. If you hire someone to clean, you can claim the expense.

- Third thing is that expenses are claimed after a property is put in service as a rental property. In service means rent ready and advertised to rent. Rent ready means someone could move in today. Advertised to rent means you are promoting it to the public (yard sign or listing). Expenses prior to in service may be handled differently.

- Some expenses are split between business and personal. For example, if you own one property, it is hard to claim a home office or full cell phone expense. If a cell phone is used 90% personal and 10% business, you need to spit the expense. There is no firm rule here, but it needs to be reasonable. Someone with 100 properties could write way more than someone with one property. Unreasonable claims will be a problem during an audit.

Another good place to look is review the Schedule E form that where you will claim expenses. The form lists the typical categories:

1. Advertising - this would cover things like a website or paid services like if you pay for Zillow

2. Auto and travel - for one property this is based on mileage. Keep track of miles driven to property or for property. Log date, purpose and distance of the mileage.

3. Cleaning and maintenance - this covers paid items for cleaning or maintenance, but does not include your time.

4. Commissions - fees paid

5. Legal and professional fees - Tax preparation, attorney fees, CPA, BiggerPockets PRO membership, local landlord associations.

6. Insurance - Property insurance or liability insurance

7. Management fees - Property manager

8. Mortgage interest - This is the interest portion of your payment. Mortgage company sends a statement end of year. Important to note this doesn't include the principal portion of your payment. Principal pay down is not a tax deduction.

9. Other interest - Other interest paid in pursuit of business expenses.

10. Repairs - Common repair items like replacing a faucet, water heater or any repair items that do not get depreciated.

11. Supplies - Items like a lock box, property specific tools

12. Taxes - Property taxes

13. Utilities - If you pay utilities, either when vacant or ongoing.

14. Depreciation - This covers items like the structure itself or major improvements like a new furnace, roof, etc. Every year a portion of the large expense is claimed. There is more to it. I would recommend a tax professional work with you on this.

Look at IRS form 1040 Schedule E, read up on the subject and talk to your tax professional now. Good luck.

Joe Splitrock · Answer

Correct, shouldn't need CPA this year. Just keep all your receipts and description of purpose behind expense, if not obvious. For example if you had to travel out of state to acquire the property, have details on business meeting that took place during travel. You want to document business purpose of everything you do. I would also recommend reading NOLO Every Landlords Tax Deduction. This is an excellent book to learn more about taxes. Kind of a boring book, but good to read, even if you are working with a CPA. You still need to be properly educated on taxes, so you know what questions to ask. Congratulations on your first deal!

Puja Devi · Answer

@Joe Splitrock Joe, if I closed on a property on 12/31/2021 (that's what is on the deed) but the loan didn't fully close until the new year, when can I claim my closing costs i.e. property taxes, insurance, mortgage interest? Obviously didn't have any rental income in 2021 but the closing costs were paid for by 12/30/2021, not to mention a few other smaller real estate related costs throughout the year prior to purchasing.

Joe Splitrock · Answer

A tax write off is a deduction. A deduction comes off your income, so it reduces your taxable income. For simplicity, let's say it costs $100 to have the property cleaned. It reduces your taxable income on the property by $100. Say you are in the 25% tax bracket, it would reduce your taxes by $25. This is overly simplifying, but the point is you incurred $100 expense and got $25 real benefit. In this example, cleaning the property yourself would save you $75. I like to think of write offs as a discount when making decisions. I also warn people that it is not a good idea to intentionally incur expenses to get a write off. I would rather pay taxes on more income, then spend money I don't need to spend.

The NOLO book I recommended is at my local library. Just mentioning that because you may be able to check it out for free. It took me a while to grasp concepts around taxes for rental properties. Taxes are one of your largest expenses, so spending the time to understand taxes (and how to avoid them) is very important.

One final concept worth understanding is that you can have a profitable business that shows a tax loss. That is mainly due to depreciation. In certain circumstances you can use that rental property tax loss to reduce your W2 taxable income. This is based on either income threshold or real estate professional status. I don't want to get too deep in the weeds, but there is a good chance you will have a tax loss, so learn more about this. Talk to your tax professional.

https://www.irs.gov/pub/irs-pd...

Puja Devi · Answer

@Joe Splitrock correct, first property! That's helpful, thanks. I'll plan on getting a CPA for 2022 taxes then. (No need for this year, based on what I'm understanding from your response, right?)

Courtney Duong · Answer

@David M. thanks for much for the response.  I really appreciate it!

David M. · Answer

@Courtney Duong

Your capital improvements should go into your cost basis and thus depreciated over the 27.5 “life” of the property.

I believe your nsurance should be expensed on sch E

Talk to your accountant, the main issue is prior to being “rent ready,” it’s basically more like being treated as a “flip” so instead of your repairs potentially being expenses, it still goes towards the cost basis.

Courtney Duong · Answer

@Joe Splitrock

@Basit Siddiqi

- Third thing is that expenses are claimed after a property is put in service as a rental property. In service means rent ready and advertised to rent. Rent ready means someone could move in today. Advertised to rent means you are promoting it to the public (yard sign or listing). Expenses prior to in service may be handled differently.So if I bought and closed on a house on 9/15/2020.

Prior to closing, on 9/1/2020 spent $350 on home inspection, then $1400 on landlord insurance.

Then after closing, on 9/20/2020 spent $500 on fixing a few things in the house.

Listed for lease on 10/01/2020.

All expenses above incurred prior to the listing on 10/1.  So how do I claim them?

Thanks.

Basit Siddiqi · Answer

@Tyler KavanA tip for tracking expenses is having a separate bank account/credit card just for real estate related activities. This way - you can easily go through the transactions on some periodic timeline(monthly, quarterly, yearly) and properly tag/categorize your income/expenses.

What are rental write offs?

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