The end of the year will soon be here. While the new tax code allowed some leniency last year as we all scrambled to figure out what was what, this year the IRS isn’t likely to cut as much slack. Penalties that range from $50-$270 per late form are a major hit to your profits, but the good news is that doing your taxes as a landlord isn’t as complicated as it sounds once you understand some basics.
First, let’s acknowledge the standard deduction now available and understand that those are for your personal home you live in and not your rentals. For your personal home, you no longer need to track your mortgage/property taxes: married couples get $24,400 automatically and singles get $12,200. That’s definitely a win in regards to not having to comb through that drawer full of receipts.
However, the standard deduction does nothing for your rental properties.
For rentals, the two biggest things to understand are the differences between a 199A deduction and claiming yourself a “real estate professional” on your taxes. My prediction is that most people will still want to continue as a real estate professional, but you may find that the 199A deduction works better for you. In either case, it is becoming increasingly important to utilize the rental accounting software of your choice because the IRS may require itemized information on your rentals.
What To Know About The 199A (Or 20% Pass-Through) Deduction
The 199A deduction makes pass-through eligible for a 20% deduction — which sounds amazing, but really isn’t set up for DIY landlords to take advantage of.
Most rental properties are designed to benefit from losses with depreciation and interest expense. Depreciation isn’t money you actually spend, but you get to count it as a cost. This increases cash flow while lowering your taxes. If the property is at a tax loss, then the 199A is no longer an option.
A 199A deduction also requires the filer to create a “trade or business,” which is vaguely defined. However, if you do decide to go the 199A route, the good news is that a sole proprietorship doesn’t take much more than a verbal name. Unfortunately, if you only have a few properties and landlording is not your full-time gig, then you fall in the unknown category and the IRS may not allow it.
Additionally, the 199A may require you to file 1099 forms for all your contractors. That means anyone or any business (non-corporate) that has done work worth over $600 in total for any of your rentals in the year must have a 1099 form completed before January 31 or be subject to a $50 fine (or a $270 fine after August 1). If that isn’t a burden enough, you also need to send a copy of each one to the IRS.
Another group excluded from this deduction is the “landlord hacker” who rents their property part-time and also uses it as a living space. If you own 30-plus rentals and are a full-time landlord, you can benefit from this. But if that’s the case, you probably already have a professional accountant helping you.
For those of us who are professionals at everything but property management, there are some other benefits available to reduce the tax bill.
Deductions For A Real Estate Professional (Also Known As The DIY Landlord)
For the DIY landlord, bookkeeping is often much more casual. Spending some time to find an easy rental accounting system is important and will benefit you when the time comes to maximize deductions during tax season.
A key requirement for being a “real estate professional” is that you spend at least 750 hours a year dedicated to your rentals. Many people assume that if they have a 40-hour-a-week job then there is no way to meet this, but the truth is that a landlord is always on call, and it is possible to spend as much time on your rentals as you do at your desk job.
Professional time spent could include activities like:
• Right now reading this article — this is an education for your rental business.
• Seminars, readings or podcasts that educate you for the benefit of your rental.
• The time you are available to the tenant for answering questions.
• Weekends spent paying bills for your rentals.
• Time spent addressing your property tax bill.
• Time spent talking to the tenants or applicants.
• Time spent talking to contractors and scheduling repairs for rentals.
• Time spent at the rental making repairs or maintenance.
If it has anything material to do with your rental, then those are the hours you spend being a real estate professional. You don’t have to create a business, get business cards or make any special filing ahead of tax time when you will complete the schedule E.
If you have an accounting loss, you may be able to use it to offset your income. This often happens when depreciation creates a loss, even though it didn’t require any cash out of your pocket. That loss then helps you in lowering your tax rate.
Many landlords subsidize their rental business by including rental costs as household costs, for things like mileage, computer or internet usage, travel, education and other expenses.
This tax season holds the potential for some great benefits for landlords, and understanding how you can utilize them is important. The 199A is may not be a benefit that’s available to you, but being a real estate professional is.
The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.