When it comes to tax deductions, it's hard to do better than owning investment real estate. Most of what you spend while you own your investment properties is tax-deductible as an expense that comes off of your rent. The only expenses that you can't deduct are what you spend to buy or sell property, and those come off of your capital gains taxes. Furthermore, real estate expense deductions aren't limited the way that regular investment expenses are.
If you spend money to operate your investment real estate property, and the expenditures are reasonable, they're tax deductible. The IRS's rules on this are quite clear. Furthermore, while the Schedule E, which is where you report your rental income and expenses, has specific line items for different types of expenses, it also has an additional line for "Other" expenses that allows you to add in as many categories as you choose. Some of the operating expenses that the IRS recognizes are taxes, insurance, repairs and maintenance, supplies and your expense of traveling to and from the property.
All of your investment real estate interest is a write-off. The IRS doesn't hit you with any of the limits they apply to the deduction you get for your house's mortgage interest. The only case where you can't write off the interest on your investment property mortgages is if you borrowed money and didn't spend it on your investments.
Investment Management Expenses
Part of owning real estate is managing it. You may also periodically need to use the services of accountants or attorneys. Whether you're paying your accountant, your attorney or a property manager, you can deduct all of these expenses from your rental income. The IRS treats them as operating expenses for your rental properties instead of investment expenses.
Buying and selling real estate costs money, but the IRS won't let you write it off with your real estate operating expenses. Operating expenses keep happening, which is why you can write them off every year, but you only pay once to buy a deal and once to sell a deal. With this in mind, those expenses get built in to your deal's cost. If you buy a $300,000 property and spend $15,000 to do it, the IRS considers it a $315,000 property. If you sell it for $450,000, but actually only get $420,000 after commissions and fees, the IRS looks at that lower number and taxes you on the $105,000 profit. You're writing off the transactional expenses, but you're writing them off from your capital gains tax instead of your income tax.
Schedule E Benefits
Your real estate investment expenses all go on your Schedule E form. This makes them more valuable than other investment expenses since they're less likely to be limited or eliminated by the IRS. Unlike the "regular" investment expense deduction on Schedule A, you can claim real estate expenses even if they're less than 2 percent of your Adjusted Gross Income. They also won't get reduced if you're subject to the Alternative Minimum Tax.
- IRS: Instructions for Schedule E (Form 1040)
- IRS: Schedule E (Form 1040)
- IRS: Schedule A (Form 1040)
- IRS: Publication 551 - Basis of Assets
- IRS: Form 6251 - Alternative Minimum Tax - Individuals
- Gallup. "Stock Investments Lose Some Luster After COVID-19 Sell-Off." Accessed July 22, 2020.
- WeBuyUglyHouses.com. "The Top 11 Most Expensive Home Repairs That Can Break the Bank." Accessed July 23, 2020.
Steve Lander has been a writer since 1996, with experience in the fields of financial services, real estate and technology. His work has appeared in trade publications such as the "Minnesota Real Estate Journal" and "Minnesota Multi-Housing Association Advocate." Lander holds a Bachelor of Arts in political science from Columbia University.