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). 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 as a sole proprietor.
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. If you are a cash basis taxpayer, you cannot deduct uncollected rents as an expense because you have not included those rents in income. If a tenant pays you to cancel a lease, this money is also rental income and is reported in the year you receive it. Do not include a security deposit in your income if you plan to return it to the tenant at the end of the lease. But if you keep part or all of the security deposit during any year because the tenant damaged the property or did not live up to the terms of the lease, this money is taxable income in the year this determination is made. 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, repairs, and operating expenses. You can recover some or all of your original investment in the rental property (including furnishings) and the cost of later improvements through depreciation. You must use 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 an improvement or add furnishings. For information on depreciation, refer to Publication 946, How To Depreciate Property. The cost of repairs may be deducted in full in the year paid. If you personally repair something on your rental property, you may not deduct the value of your own labor. Only out–of–pocket repair costs, such as materials, are deductible. For a discussion of the difference between repairs and improvements, refer to Publication 527, Residential Rental Property (Including Rental of Vacation Homes). Other rental expenses you may deduct include advertising, fire and liability insurance, taxes, interest, and commissions paid for the collection of rent.
If you rent only a part of your property, you must divide the expenses between the part used for rental purposes and the part used for other purposes. You may use any reasonable method for dividing the expenses, but a method based on square footage is usually the most accurate.
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, Renting Residential and Vacation Property (formerly Renting Vacation Property and Renting to Relatives).
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, Passive Activities – Losses and Credits.
For more information on rental income and expenses, including passive activity loss limits, refer to Publication 527.
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