Many California landlords pay more than they should in taxes, simply because they overlook some of the most important deductions. This is a major mistake, since optimizing your taxes can often mean the difference between a profit and a loss.
Understanding your opportunities and planning ahead can help put you in the best possible position when tax time rolls around. Here is a look at the top 10 deductions for rental property owners in California.
When you purchase a rental property, you are allowed to deduct a portion of the building value (not the land) each year. The IRS says that rental property has a “productive lifespan” of 27.5 years, so they allow you to take a depreciation deduction for the loss in value you will experience each year. The productive lifespan of commercial properties is less favorable at 39 years – but can still be very significant in lowering your income tax liabilities.
It is also possible to further increase this deduction by using a technique called “component depreciation” whereby you can depreciate building components that have a shorter lifespan over fewer years.
Unlike interest paid on a loan for a personal residence, you can write off the full amount of interest you pay on your rental property mortgages and on any property improvement loans. If you use a credit card to purchase products and services for your rental properties, you can write off that interest as well.
Most landlords carry theft, fire, and flood insurance on their rental properties. You can take a deduction for these expenses, as well as for your landlord liability insurance policy. If you have employees, you can also deduct the amount you pay for their worker’s compensation and health insurance coverage.
No matter how well you take care of a rental property, there will be times when they need repairs. The good news is you can take a full deduction for the cost of repairs, as long as they are “ordinary, necessary, and reasonable in amount.” This is a great way to improve your property while also getting a tax-break.
Some examples of deductible repairs include fixing the plumbing, making electrical repairs, repainting, replacing broken windows, and fixing floors.
Note that the cost of repairs can be fully deducted against income earned during the year when the repair was completed.
Improvements in a property that enhance the property’s value e.g., expanding the building can also provide a write-off but, unlike repairs, are generally deducted over the useful life of the improvement similar to how depreciation is handled.
5. Home Office
Many landlords do not realize they may qualify for a home office deduction. As long as your space meets the IRS requirements that you use it to primarily conduct your rental property activities, you may be eligible to take a tax write off. This applies both to spaces devoted to office work and any workshops or other spaces you use for your rental activities.
Landlords are allowed to deduct certain travel expenses that are business related. This generally does not include commuting expenses, meaning traveling from your home to your place of business or rental – unless you have a home office which is primarily used by you to conduct rental property related business.
Travel expenses related to overseeing remote rental properties including accommodations can also be written off. Some investors may invest in properties near relatives, friends or a favorite vacation area and take advantage of writing off the business-related portion of trips to those areas.
7. Personal Property
Items like appliances, furniture, and even gardening equipment can be written off as “personal property” if they are used for rental activity. For personal property that costs $2,000 or less, you can write the entire cost off in a single year using the de minimis safe harbor deduction. Until 2022, you can also take a 100% bonus depreciation. (you should explain the 100% bonus depreciation)
8. Pass-Through Tax Deduction
The Tax Cuts and Jobs Act* provided for a new pass-through tax deduction that benefits landlords. Depending on your income, you may either be able to deduct 20% of your net rental income or 2.5% of the initial cost of your rental property, plus 25% of the amount you pay your employees. Unless there’s a change, this deduction will expire in 2025. This deduction is phased out for landlords having higher incomes.
9. Legal and Professional Services
When you hire professionals to help you with your rental properties, you can take a deduction for these expenses. This includes attorneys, real estate investment advisors, accountants, and property management companies.
10. Employees and Independent Contractors
If you have employees or hire independent contractors, you can take a deduction for the wages you pay them. This would apply, for example, if you hire a full-time or part-time property manager or hire a professional to do repairs on your investment property.
Real estate investors have a wide range of deductions that can legitimately be used to reduce their taxable income. Many of our clients are able to shelter as much as 100% of their real estate related income using only the deductions described in this article.
Please be sure to discuss the applicability of any of these deductions (as well as others) with a knowledgeable real estate tax advisor to verify how they may apply to your personal situation. You may be pleasantly surprised at how much you can save by taking full advantage of available deductions.
Tired of Being a Landlord? Explore Your Options!
There are many advantages to owning investment properties. However, being a hands-on landlord can be exhausting. If you’re ready for a change, a 1031 exchange into properties that are fully managed such as a Delaware Statutory Trust could be a good solution for you.
The professionals here at First Guardian Group help investors trade their current property holdings for other options that can be less labor-intensive. If you want to learn more about how a 1031 exchange can help you, give us a call us today at 866-398-1031. You can also schedule a personal consultation with Paul Getty here.
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*The Tax Cuts and Jobs Act of 2017 allows real estate investors to fully write-off the cost of select new and used equipment, furniture, fixtures, and most land improvements in the year when the investment was made rather than requiring that the improvements be depreciated over time. This can be a powerful tool for lowering taxable income. Please consult your tax advisor to learn how you may benefit.
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