A vacation home is one of the best real estate investments one can have. Not only does it give you a place to get away from the noise and stress of the city, but it also offers an income-generating opportunity in case you decide to open it up to the public for rent. With the ongoing pandemic, the demand for vacation homes further increased. More people want a change of scenery to help them cope with the pandemic stress.
If you’re seriously considering renting out your vacation home, there are certain aspects you must first prepare for. Aside from prepping the property, you should also be ready to deal with the taxes. Continue reading below for some first-time home renter tips on how to deal with vacation home tax rules.
Rented 14 days and below per year
The idea behind the tax rules for vacation homes is to allow the homeowners to deduct their expenses on the property they are renting. The first rule states that when guests rent your property for 14 days or less within a single year, you don’t need to report your rental income. Because renters didn’t exceed 14 days, the IRS will consider your property as a personal residence instead of a rental property.
In turn, you can still deduct your property taxes and mortgage interest under basic second home rules. You can apply for these deductions via Schedule A where you can itemize your deductible expenses. What you cannot do, however, is deduct expenses as rental expenses.
Rented 15 days or more but used under 14 days
What if your property is rented for 15 days but used for only less than 14 days? In this scenario, the law will view your home as a rental property. Also, all the rental activities within the property are considered business in nature. Therefore, you need to report all your rental income and deduct some of your rental expenses.
Which of these rental expenses can you deduct? These include the maintenance expenses, insurance premiums, and the fees property managers get. Also included in the deductibles are property taxes, mortgage interest, utilities, and the property’s depreciation.
When it comes to the computation of the deductions, the law uses the “rental days” as the basis. This pertains to the percentage of days wherein your property was rented out. To calculate the rate, you simply divide the number of days your vacation home was rented by the total number of days it was used.
A sample computation would look like this: your vacation home got a total of 160 days of use. Out of those 160 days, a total of 120 were considered rental days. You will then divide 120 rental days by 160 total days of use. The result is 75%.
This means you can deduct 75% of the expenses against your rental income. However, you cannot deduct the expenses’ rental portion in excess of the rental income. In this case, you cannot deduct the remaining 25%.
On top of the rental expenses, you may be able to deduct your losses for up to $25,000 annually. This will depend on the passive losses you have if you’re the one managing the property. Another factor is adjusted gross income.
If you use the house for more than 14 days or 10% of the total days it was rented
What if you spent more than 14 days of personal use or 10% of the total number of days your property is rented? In such cases, the IRS will consider your property as a personal residence. Hence, you cannot deduct any rental loss. You may still deduct your mortgage interest, property taxes, and rental expenses only up to the rental income level.
To get a better grasp of what personal use days mean, the IRS explains that personal use doesn’t include any day you spend working full-time in maintaining and repairing your home. This applies even if your family is present on the same day and using the property for recreation.
Important tax tips to consider
Apart from understanding the 14-day rule for vacation homes, there are other tips you need to learn when it comes to tax rules. These tips will help you minimize, if not eliminate taxes entirely. For starters, learn about the exceptions for rooms. If you decide to rent out only one of your rooms, the same 14-day rule applies.
When it comes to your rental records, you need to stay on top of them from day 1. Take note of the dates in full detail. This way, you’ll have an easier time dividing the business and personal expenses.
Speaking of business expenses, you need to document them down to the last cent. Keep your records clear by documenting the money you spend and the ones that come in. This will save you a lot of time going through your credit card statements once the IRS asks for proof.
Lastly, pay your self-employment taxes if you’re self-employed. If you provide amenities and make bookings for your home, the IRS can consider you as self-employed through your rental business. In this case, your self-employment taxes cover your Medicare and Social Security contributions.
Looking for a property for rent?
Understanding how tax rules work can help you avoid paying hefty taxes by keeping them to a minimum. In case you’re looking for a vacation home to rent or renting a house for the first time, we will gladly help you out.