Buying a rental property is a major financial step, and it brings tax consequences that are different from owning your own home. Getting the right records and habits in place from day one makes every future tax season easier.
Start with your closing documents
Keep your closing statement. It shows the purchase price and many of the costs that are generally added to your property’s tax basis, and it separates items that may be treated differently, such as property taxes prorated at closing or loan costs.
Understand basis and depreciation
You generally cannot deduct the cost of the building all at once. Instead, the cost of residential rental property (excluding land) is generally recovered through depreciation over many years. Land is not depreciable, so the purchase price is typically allocated between land and building. Depreciation begins when the property is ready and available for rent, so record that date.
Income you report
- Rent you receive, including advance rent
- Security deposits you keep (deposits you will return are generally not income when received)
- Other payments from tenants, such as fees or expenses they reimburse
Expenses commonly associated with rentals
- Mortgage interest and property taxes
- Insurance
- Repairs and maintenance
- Property management and professional fees
- Utilities you pay
- Advertising and tenant screening
- Depreciation
Repairs versus improvements
This distinction matters. Routine repairs that keep the property in working order are generally deductible in the year paid. Improvements that add value, extend the useful life, or adapt the property for a new use are generally capitalized and depreciated over time. The classification can be nuanced, so keep invoices and descriptions.
Other issues to be aware of
- Passive activity rules. Rental activity is often treated as passive, which can limit when losses can be used.
- Personal use. If you use the property personally, expenses may need to be divided.
- State and local rules. Property taxes, licensing, and local rental requirements vary.
- Selling later. Depreciation affects the gain when you sell, so keep good records from the start.
A simple record-keeping system
- Use a separate bank account and credit card for the rental.
- Keep a folder for each year with receipts, invoices, and statements.
- Track mileage and dates of travel to the property.
- Keep your lease agreements and tenant correspondence.
Planning before the first tax season is more effective than reconstructing records afterward. We can help you set up your approach and prepare your return.
General information only. This article is educational and is not tax, legal, or financial advice. Tax rules change and outcomes depend on your individual facts. Please consult a qualified professional about your situation.