Rental Property Tax Savings for the Passive Investors

[Russell Goldenbroit]

Hi Community 

Newbie to the community looking to get started in rental properties.  I've heard of people using rental properties to lower their taxable income but I'm not clear how this is possible.  From what I'm gathering it sounds like you can only deduct rental expenses from passive income like other passive investment income.  But if you're a professional who makes most of their income (let's say a doctor who makes 400,000 / yr or something like this) then how would a rental property help lower their taxable income? Or is there some loophole I'm not getting?

Thanks

[Linda Weygant]

Quote from @Russell Goldenbroit:

Hi Community 

Newbie to the community looking to get started in rental properties.  I've heard of people using rental properties to lower their taxable income but I'm not clear how this is possible.  From what I'm gathering it sounds like you can only deduct rental expenses from passive income like other passive investment income.  But if you're a professional who makes most of their income (let's say a doctor who makes 400,000 / yr or something like this) then how would a rental property help lower their taxable income? Or is there some loophole I'm not getting?

Thanks

 Hi Russell,

Great question!  There are two ways in which rental property can be beneficial to a high wage earner.

The first is through a short term rental loophole.  If the average rental period is less than 7 days (or 30 days with other criteria), then it's possible that the rental property can be non-passive.  There is a different set of participation tests if this is the case and if you meet 1 of those tests, then it's possible that your rental activity can be classified as non-passive.  

The second does not offer CURRENT deductions, but it can be a good longer term deduction.  Essentially, if your rental activity is passive, the losses are not lost forever.  They are simply delayed until one of three things happens:

1.  Your income dips below $150,000.  If this happens, then current and prior year losses can begin to be utilized as per normal rules.

2.  You have a year in which you have rental profits.  This usually happens in later years when mortgage interest dips or when short term depreciation assets run out of their useful lives or as rental rates increase (or a combination).  When this happens, your prior year losses will net against those profits to pull them back down to $0.  Therefore, you're basically creating tax free income in future years with your current and prior year losses.

3.  You sell the property that generates the loss.  In that year, you're allowed to deduct all associated losses, with no limit.

Consulting with a knowledgeable tax professional/CPA may be a good next step.

Best of luck to you.