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Gary Wilson, CPA​​​​​​​​​​​

Accounting and Tax Preparation                                                 

Rental property IRS guidelines

Reporting income or losses from rental properties

Topic 414 - Rental Income and Expenses

Generally, cash or the fair market value of property you receive for the use of real estate or personal property is taxable to you as rental income. You can generally deduct expenses of renting property from your rental income. Income and expenses related to real estate rentals are usually reported on Form 1040, Schedule E (PDF). If you provide substantial services that are primarily for your tenant's convenience, you report your income and expenses on Form 1040, Schedule C (PDF). Income and expenses related to personal property rentals are reported on Form 1040, Schedule C (PDF) or Form 1040, Schedule C-EZ (PDF) if you are in the business of renting personal property and directly on Form 1040 (PDF) if you are not.

Most individuals operate on a cash basis, which means they count their rental income as income when it is actually or constructively received, and deduct their expenses as they are paid. Some specific types of income are:

• Amounts paid to cancel a lease – If a tenant pays you to cancel a lease, this money is also rental income and is reported in the year you receive it.
• Advance rent – Generally you include any advance rent paid in income in the year you receive it regardless of the period covered or the method of accounting you use.
• Expenses paid by a tenant – If your tenant pays any of your expenses, those payments are rental income. You may be allowed to deduct the expenses if they are considered deductible expenses.
• Security deposits – Do not include a security deposit in your income if you may be required to return it to the tenant at the end of the lease. However, if you keep part or all of the security deposit because the tenant breaches the lease by vacating the property early, include the amount you keep in your income in that year. If you keep part or all of the security deposit because the tenant damaged the property and you must make repairs, include the amount you keep in that year if your practice is to deduct the cost of repairs as expenses. Do not include the amount in income if your practice is not to deduct the cost of repairs as expenses to the extent the security deposit reimburses those expenses. If the security deposit is to be used as the tenant's final month's rent, you include the money as income when you receive it, rather than when you apply it to the last month's rent.

Some examples of expenses that may be deducted from your total rental income are:

• Depreciation – You begin to depreciate your rental property when you place it in service. You can recover some or all of your original acquisition cost and improvements by using Form 4562 (PDF) (to report depreciation) beginning in the year your rental property is first placed in service, and beginning in any year you make improvements or add furnishings.
• Repairs – Repairs just keep your property in good working condition but do not add to the value of the property.
• Operating Expenses
• Uncollected rents – If you are a cash basis taxpayer, you cannot deduct uncollected rents as an expense because you have not included those rents in income.

Repair costs, such as materials, are usually deductible. For a discussion of the difference between repairs and improvements, and information on the depreciation of most rental property, refer to Publication 527, Residential Rental Property (Including Rental of Vacation Homes). For additional information on depreciation, refer to Publication 946, How To Depreciate Property.

There are special rules relating to the rental of real property that you also use as your main home or your vacation home. For information on income from these rentals, or from renting at an amount less than the fair market value, refer to Topic 415.

If you do not use the rental property as a home and you are renting to make a profit, your deductible rental expenses can be more than your gross rental income, subject to certain limits. For information on these limitations, refer to Topic 425.

For more information on rental income and expenses, including passive activity loss limits, refer to Publication 527 and Publication 925, Passive Activity and At-Risk Rules.