All Forum Posts by: Kyle Meyers

Also consider the different tax implications, the taxes can get very complicated on anything other than a purchase loan. There is a discussion about this here: http://www.biggerpockets.com/forums/51/topics/72853-appraisal-fee-deduction

I think the record keeping will depend on how you are actually handling this money. If you collect it, put it in your operating account and proceed with business as usual, then I would consider it income immediately. If you hold it in a separate account in the way a security deposit is held and remove it from the account after move out to pay for standard cleaning, I would consider it income then. In thinking about the term deposit, that implies it is refundable usually, so I am thinking this is like a security deposit, but this non-refundable portion is an amount equal to a standard cleaning charge of some sort and would then be charged at move out from the deposit. Do you have any more details? Where is it labeled non-refundable? What does the lease say?

From the research I have done and the input of everyone on this forum topic, I think it is clear the interest is attributed to the use of the proceeds of the loan as described in IRS Publication 535.

The second question that is not as clearly answered in the IRS materials is whether the proceeds can be allocated to repaying your personal funds from a purchase and subsequent rehab. Many investors purchase properties for cash and later cash out via a mortgage on the property to recoup some or all of their original investment.

I have come to the conclusion, and I believe Steven Hamilton II agreed above, that the proceeds received, up to the amount of the initial investment, can be allocated to repayment of the investment and therefore the interest can be deducted on Schedule E.

While I can't find any IRS rules specifically stating this (nor any opposing) I think there is more support for this approach than there is for declaring it non-deductible.

Publication 535 states " Generally, mortgage interest paid or accrued on real estate you own legally or equitably is deductible." and "Certain expenses you pay to obtain a mortgage cannot be deducted as interest. These expenses, which include mortgage commissions, abstract fees, and recording fees, are capital expenses. If the property mortgaged is business or income-producing property, you can amortize the costs over the life of the mortgage. "

The instructions for Form 1040 Schedule E state "If you have a mortgage on your rental property, enter on line 12 the amount of interest you paid for 2011 to banks or other financial institutions."

Publication 527 states "You can deduct mortgage interest you pay on your rental property. When you refinance a rental property for more than the previous outstanding balance, the portion of the interest allocable to loan proceeds not related to rental use generally cannot be deducted as a rental expense. "

Example: An investment property is purchased for $50k in cash. Then the property is rehabbed for an additional $30k in cash. Two years later, a cash out mortgage is taken against the property for $100k. The $100k would be deposited into a separate bank account as recommended in the procedures in Publication 535. $80k would be allocated to the original, non-financed, investment and would be available for immediate personal or business use. The remaining $20k could be allocated to non-financed investment in another property, or could be used to invest in a new property. 80% of the interest would be recorded on the Schedule E for the investment property the mortgage is secured by, the other 20% of the interest would be recorded on the Schedule E for the property which the $20k is allocated to.

Steven Hamilton II, so if I put $50k into a property, then take $40k cash out with a mortgage I can put that in my personal bank account and deduct interest on schedule E since I am not taking out more than I invested?

I have talked to a few professionals today to get more information on this.

1st Source: Tax professor and retired CPA and tax attorney. Said to deduct interest and costs on schedule E for the property securing the loan.

2nd Source: TurboTax adviser. Her advice was to receive the cash out into a designated bank account and from there make distributions to whichever investments the funds will be used for and deduct interest as other interest (not mortgage interest) on schedule E in proportion to how the proceeds are distributed. She also said she though you could probably deduct on schedule A if you use the proceeds for personal expenses so long as you do not have more than 1 personal mortgage.

3rd Source: Attorney. He is doing additional research before he commits to an answer, but is leaning towards the same approach as I got from the TurboTax adviser.

I also have a call in to another CPA and have a couple other people I will ask and post the responses here.

I have a similar clause in my lease. I think most leases state the deposit cannot be used for current rent. I don't think you want to write "rent of any type" because if they move out you could not withhold the deposit for unpaid rent. In Indiana, state law dictates the tenant cannot apply their security deposit to current rent.

I know others disagree, but I would charge the full cost of carpet replacement. The IRS says you can depreciate carpet over 5 years, they do not say that is as long as it can last. Check your local laws, but many places do not require depreciation to be factored into damages. I would get 2 or 3 quotes for repair or replacement of the carpet, charge the tenant the amount of the lowest bid, then replace the carpet with a more durable flooring.

I don't think there is more management required for MF in all cases. You mention utility costs, but you can find MF with separate meters, or have sub-meters installed and billed directly to the tenants. I manage my rentals and, when there is not a maintenance request or other specific reason to visit a property, I just do some drive by inspections and an occasional interior inspection of the property, in that respect it would be more management intensive to have a couple SFHs in different locations than a single MF building.

David Beard, that is what the consensus seemed to be when I was researching this. You are supposed to track where the proceeds are spent and allocate it that way, with no deduction if you use the proceeds for personal use.

In this case, the loan amount will be about the same as the amount I paid for the purchase and improvements to the property which was done without financing. Can I use the proceeds to "pay myself back" from funding the original purchase and rehab? I know some investors buy distressed property and fix it up then pull cash out, is the interest on that cash out mortgage not deductible for the property?

Thanks for the response Charles Perkins, which property would these be listed for on schedule E when I prepare my taxes?