AirBnB and Taxes - How to Handle Deductions & House Hacking

[Michael Vialpando]

Hey All -

My wife and I just closed on a house near downtown Colorado Springs - 80903 - and are excited to get our feet wet with this niche of real estate investing: House Hacking and AirBnB combined. The property has a 3/2 house and a 1/1 cottage on the same lot.

Here are our plans:

• Live in the main house in the master bedroom
• Rent out the two other bedrooms in the main house either via month-to-month leases or work with travel nurses since my wife is an RN and works at the hospital that is a mile away
• AirBnB / STR the 1 bed, 1 bath cottage that is on the back of the lot.
• We will repeat this process either in 1 year or 2 years. 1 year and we can put down 5% on the next property with a conventional loan (and AirBnB both houses - yes, it is legal in Colorado Springs to AirBnB a home that is solely an investment property - not a primary residence – unlike Denver). However, I read that if we stay there two years and then sell it within 5 years, we would not pay the capital gains on the sale. So, we may do either method. I would rather buy another similar property in 1 year to scale faster, but we will see.

Since this is our primary residence, how will this work with taxes? I have read the following is tax deductible for an AirBnB property, but what is different since it is our primary residence too? How will cost segregation work?

• Operating costs (utilities, insurance, food for guests, etc.)
• Homeowner costs (mortgage interest, real estate taxes, etc.)
• Service fees – even though the fees are taken out before I see them, they are still a result of hosting and are deductible from what I’ve read
• Property improvements that apply to the rented area

Here's a link where I got a lot of my information: USA Today Article about AirBnB and Taxes 

Since the cottage is its own standalone unit with its own utilities (and even it's own number on the house), can I deduct 100% of those expenses and anything that goes in it? What about the main house where 2 out of 3 bedrooms are rented? As a house hacker, can I deduct stuff for those rooms or the common spaces?

I have always done my taxes with turbo tax since my life has previously been pretty typical. I look forward to finding a CPA that will help work with me to prepare and file next year’s 2018 taxes.

Thanks in advance for all your advice and help!

Michael

[Logan Allec]

@Michael Vialpando

Congrats on your purchase!  It looks great.

You would prorate your main house expenses between personal and rental use using some reasonable method (easy method is to base your allocation on the square footage of personal-only space, rental-only space, and common area space), with personal expenses being non-deductible except for property taxes and mortgage interest (subject to the limitation) if you itemize and rental expenses being deductible against your rental income.  You can also take a depreciation deduction on the rental portion.

As for the cottage, assuming it is 100% rental use, yes, you can deduct all of those expenses that you can directly allocate to the cottage and take a depreciation deduction for the cottage.  Of course things like property taxes and mortgage interest you would have to allocate to the cottage based on some reasonable method (perhaps based on square footage) as well.

Note that you actually have to be in the business of rental real estate before taking rental deductions, and that there may be some expenses you incur, e.g., to get a space rent-ready, that you must capitalize to the basis.  You are typically considered in the business of rental real estate once your space is rent-ready and advertised for rent (even if not actually rented at the time).

Also note that your "within the walls" (rented rooms) and "outside the walls" (rental cottage) rental space may have different treatments with respect to the 121 home sale gain exclusion, so be sure you work with a qualified tax professional who knows his or her stuff, especially since taking advantage of the home sale gain exclusion appears to be an integral part of your strategy from the get-go.  Even the timing of when you live there and when you rent can make a difference.  See this recent BiggerPockets thread.