So you’re thinking about becoming a residential real estate investor, but you’re unclear about the tax advantages that you can enjoy as a new landlord? Rest easy, there are numerous tax advantages that our federal government recognizes for real estate investors. The government has created numerous incentives as a matter of practicality: if private investors don’t provide housing for people, then the government will need to provide that housing. It’s much easier for Uncle Sam to create incentives for private investment than to manage properties.
However, there are also certain out-of-pocket expenses associated with real estate investing that are not tax deductible. Although our government is quite generous to people who provide housing, it’s not a complete free ride.
What follows is a list of items that you, as a residential real estate investor, can and cannot deduct. It should be noted, however, that you should always consult a tax adviser before making any formal decisions. Tax laws change, and there may be hidden exceptions in our (very complicated) tax laws that disqualify you from enjoying certain deductions.
What you cannot deduct
The good news for residential real estate investors is that there really isn’t much that you can’t deduct. Any expenses associated with the maintenance and operation of your investment property is fully deductible.
There are some exceptions, though. Matters get complicated when the IRS attempts to distinguish between active and passive real estate investors. An active investor is someone who is actively involved in the management of the investment property (i.e., it’s “your job”). A passive investor is someone who delegates the management of the property to someone else and just reaps the financial rewards associated with real estate investing. If you’re a passive investor, you’ll be limited when it comes to losses and home office deductions. This is a subject that you will definitely want to discuss with a tax adviser.
What you can deduct
As noted previously, you can deduct expenses related to the upkeep and ongoing operation of the investment property. Here is a list of expenses that you can deduct.
Our federal government has created a wonderful tax incentive for residential real estate investors: depreciation. The improvements on your residential real estate investment are depreciated, for tax purposes, over a period of 27.5 years. That depreciation is a tax deduction. For example, let’s say that you purchased a duplex for $120,000. The value of the land is $20,000, so the value of the improvements amount to $100,000. In that case, the $100,000 is depreciated over 27.5 years. That means that, every year for 27 years, you get to deduct $3,636 (100,000 divided by 27.5) every year.
If you’re obtaining a mortgage to purchase an investment property, then the interest on that mortgage is fully deductible. You will, however, claim it as a business expense rather than claiming it as a home mortgage deduction for your personal residence.
Any work that needs to be done to repair or maintain the investment property is fully deductible.
Utilities that you pay
Depending on your circumstances, there may be some utilities that you (or your business entity) pays for. These are operational expenses that are tax deductible.
When you obtain a mortgage for your investment property, you may be required to pay points (or origination fees) to obtain more favorable financing terms. If that’s the case, then those points are deductible. However, this deduction will need to be amortized over the life of the loan.
Local travel expenses
If you’re doing a lot of traveling to deal with tenant complaints or pick up an item at Home Depot that’s required for property maintenance, then you should know that your travel expenses are fully deductible. As of this writing, the IRS allows you to deduct 56.5 cents per mile for business-related travel.
The United States has a very accommodating tax code when it comes to real estate. By taking advantage of these tax deductions as a residential real estate investor you will be able to fully maximize your income potential.
Also Read: Tax Tips for First Time Home Buyers