Property owners have a lot to keep in mind when it comes to managing their rental real estate. They need to be thinking about their rental clients, upkeep of the property, and, yes, even taxes. Federal tax responsibilities are something you need to keep top of mind as rental income needs reporting on your tax return.
The good thing is that you can also deduct expenses to counter that income. Here’s how property management companies can help you better manage these administrative tasks and avoid mistakes.
Getting Line of Sight Into What You Can Deduct
When you receive income for your rental property, you can also deduct expenses against that income on your tax return. These expenses vary from professional services, some types of maintenance, operating expenses, and more.
The first two things you can deduct and need to take into account include mortgage interest and real estate property taxes. When you pay mortgage interest and property taxes, both of these are expenses that you can deduct. A property management company can help you keep track of these records throughout the year, so that come tax time, you have the amounts ready to report on your tax return.
“Ordinary and Necessary” Expenses
There will also be ordinary and necessary expenses that you will deduct as a need to maintain the rental property. These expenses will include maintenance of your property, any utilities that you pay, landlord and property insurance, as well as marketing expenses to list vacant properties. These ordinary and necessary expenses require you to keep good records so that again, come tax time, the information is available.
As you are doing maintenance of your property and general upkeep, the costs of materials to do this are also things you can expense. However, investors must know the difference between “improvements” vs. “repairs” when categorizing deductions.
Ways to Expense the Cost of Improvements
What if you were to do any type of major improvement work to your rental property? These would include things such as the remodeling of a bathroom or kitchen or a roof replacement. When you make improvements to a property, deducting the total costs of these updates in the year they were made can violate IRS rules.
Since most renovations add value to the property, they qualify as capital improvements and qualify as depreciation deductions over several years. Work with your property manager and accountant to take the total cost and divide it by the number of useful years. If you spend $1,000 on improvements and the determination is that the useful life is five years, you would, in theory, get a $200 depreciation expenses expense annually on your next five tax returns.
New appliances also often qualify as depreciated assets when planning tax deductions. Beware of other special rules with depreciation and specific expenses that will let you opt to take the entire cost in a single year. However, it will be dependent on your tax situation and the advice of your tax professional.
When You Can Deduct Expenses From income
The timing of when you can deduct expenses from your rental income will be dependent on your decision to be on a cash basis or accrual basis as a taxpayer. If you make the decision to be a cash basis taxpayer, that means that you report all rental income in the year in which you receive the cash.
If someone were to rent your property in December 2020 but not pay you until January 2021, on a cash basis, that income is not reportable until the year 2021. Expenses would work the same way, in that you would deduct the costs when you actually pay for them versus when you take on the liability to pay them.
The other option is the accrual method of accounting. With the accrual method, you are reporting income when you earn it, and the same goes for the deduction of expenses. In the same example of a renter in December 2020 who pays in January 2021, with the accrual method, you earned the rental income in 2020. Thus it is 2020 income. The same goes for expenses where you accrue the liability to pay the expense in 2020, even if you pay it in 2021, and you expense it in the year 2020.
Maximize Tax Deductions With a Property Management Professional
It is imperative that you are ready for tax time to maximize deductions and ROIs. Work with a Salt Lake property management company to understand what you can expense and what you cannot.
Reeder Asset Management helps investors manage income and expenses throughout the year to make sure you capitalize on every deduction! Plus, our services qualify as a “professional services” deduction.
To learn more about what to look for in a property manager, download “The Guide to Finding the Best Property Management Company” today!