Do these expenses qualify for start-up expenses?

[Rick Im]

Hello,

I purchased my first rental property on October 4th. After a month of renovations, I listed it on the market on November 19th and secured a tenant with a lease starting on December 10th. Before this purchase, I had two other properties under contract but had to withdraw due to unfavorable inspection results. Although I recovered my earnest money, these unsuccessful deals resulted in some expenses, such as inspection fees. Can these costs be deducted as start-up expenses?

Additionally, I viewed over 40 properties this year before purchasing my first rental property. Can the travel mileage incurred during this time be included as start-up expenses?

Lastly, my understanding is that repair costs (e.g., fixing leaky pipes) but not capital improvements (e.g., replacing old countertops with new ones) before renting out the property can also be categorized as start-up expenses. Is this correct?

Rick

[Corby Goade]

You should definitely talk to your CPA, which I am not, but...

My understanding is that until you actually have a business, meaning a property in services, nothing can be deducted. I don't believe your mileage or due diligence expenses on other properties can be deducted since you did not have a business yet or any properties in service. 

Any expenses you put in to renovation or repairs are not deductible, but must be capitalized after the property is in service. 

From that point forward, you can expense repairs and maintenance without capitalization. 

[Rick Im]

Thanks, Corby! I came across conflicting information online, so I wanted to double-check with the knowledgeable folks on this forum.

 

[Ashish Acharya]

@Rick Im Inspection fees for unsuccessful deals and mileage for property viewings before acquiring your first rental CANNOT qualify as start-up expenses. If you actaully put the property under contract, the cost associated with that porpety can be taken as captial loss.

Replacing countertop could also be repair.

This post does not create a CPA-Client relationship. The information contained in this post is not to be relied upon. Readers should seek professional advice.

[Jason Malabute]

Hey Rick,

Great questions! Start-up expenses like the ones you mentioned can’t be fully deducted in the year they’re incurred. Instead, they’re amortized over 15 years (180 months). That said, inspection fees for deals that didn’t work out and mileage from property viewings before actually purchasing a rental property aren’t considered start-up costs. Unfortunately, those are treated as personal expenses and aren’t deductible.

As for the repairs and improvements, fixing leaky pipes counts as a repair and can be fully expensed in the current year. Replacing countertops, though, is a capital improvement and usually has to be capitalized and depreciated over time. There’s a silver lining, though—if the cost of the improvement is under $2,500, you might be able to expense it under the IRS’s safe harbor rule.

[Rick Im]

Quote from @Ashish Acharya:

@Rick Im Inspection fees for unsuccessful deals and mileage for property viewings before acquiring your first rental CANNOT qualify as start-up expenses. If you actaully put the property under contract, the cost associated with that porpety can be taken as captial loss.

Replacing countertop could also be repair.

This post does not create a CPA-Client relationship. The information contained in this post is not to be relied upon. Readers should seek professional advice.

Thank you for your wonderful response, Ashish! To clarify, I had initially put the property under contract but had to back out of the deal due to negative inspection results, specifically related to foundation issues. In this case, am I still able to count the inspection fee as a capital loss, even though this expense occurred before I rented out my first property?

[Rick Im]

Quote from @Jason Malabute:

Hey Rick,

Great questions! Start-up expenses like the ones you mentioned can’t be fully deducted in the year they’re incurred. Instead, they’re amortized over 15 years (180 months). That said, inspection fees for deals that didn’t work out and mileage from property viewings before actually purchasing a rental property aren’t considered start-up costs. Unfortunately, those are treated as personal expenses and aren’t deductible.

As for the repairs and improvements, fixing leaky pipes counts as a repair and can be fully expensed in the current year. Replacing countertops, though, is a capital improvement and usually has to be capitalized and depreciated over time. There’s a silver lining, though—if the cost of the improvement is under $2,500, you might be able to expense it under the IRS’s safe harbor rule.

Great information about the safe harbor rule! Thanks Jason!

[Ashish Acharya]

Quote from @Rick Im:

Quote from @Ashish Acharya:

@Rick Im Inspection fees for unsuccessful deals and mileage for property viewings before acquiring your first rental CANNOT qualify as start-up expenses. If you actaully put the property under contract, the cost associated with that porpety can be taken as captial loss.

Replacing countertop could also be repair.

This post does not create a CPA-Client relationship. The information contained in this post is not to be relied upon. Readers should seek professional advice.

Thank you for your wonderful response, Ashish! To clarify, I had initially put the property under contract but had to back out of the deal due to negative inspection results, specifically related to foundation issues. In this case, am I still able to count the inspection fee as a capital loss, even though this expense occurred before I rented out my first property?

Yes, since the property was under contract before you backed out due to inspection results, the inspection fee can typically be treated as a capital loss. Expenses directly tied to a deal that was pursued but not completed (e.g., inspection fees) are considered part of your investment activities and can be deducted as a capital loss in the year they were incurred. This applies even if the expense occurred before renting out your first property.

This post does not create a CPA-Client relationship. The information contained in this post is not to be relied upon. Readers should seek professional advice.

[Sean O'Keefe]

Quote from @Rick Im:

Hello,

I purchased my first rental property on October 4th. After a month of renovations, I listed it on the market on November 19th and secured a tenant with a lease starting on December 10th. Before this purchase, I had two other properties under contract but had to withdraw due to unfavorable inspection results. Although I recovered my earnest money, these unsuccessful deals resulted in some expenses, such as inspection fees. Can these costs be deducted as start-up expenses?

Additionally, I viewed over 40 properties this year before purchasing my first rental property. Can the travel mileage incurred during this time be included as start-up expenses?

Lastly, my understanding is that repair costs (e.g., fixing leaky pipes) but not capital improvements (e.g., replacing old countertops with new ones) before renting out the property can also be categorized as start-up expenses. Is this correct?

Rick

Based on what you say travel mileage incurred to view properties you didn't purchase would be included as start-up expenses.
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*This post does not create a CPA-client relationship. The information contained in this post is not to be relied upon. Readers are advised to seek professional advice

[Jake Baker]

@Rick Im

I have an expense account called "Failed Real Estate Escrow Expenses " (in QuickBooks) for my flipping business and bookkeeping clients. If I cancel an escrow, inspection fees or other costs associated with that failed transaction go in here. I keep it as a general business expense and don't assign a property (class) to it.