Take Advantage of the Tax Benefits of Investment Properties

Investing in rental properties can be a significant income stream or provide an income supplement. However, this investment also comes with potential tax implications. Working with your tax professional, such as 1-2-3 Financial Services in Warwick, RI, you can easily decide the best tax strategy for your rental investments. By understanding what applies to your rental property, you can maximize the tax advantages of your investment. At the same time, you can also create a strategy to deal with any potential tax liabilities.

Passive Activity and At-Risk Rules

According to the IRS, income from rental or investment properties is typically considered part of a passive activity. Thus, they have created some special rules to apply to this income. An example is a net rental activity loss. Under these specific guidelines, that loss cannot be used to offset other taxable income, such as a salary.

However, actively working or participating in your investment properties may allow you to deduct up to $25,000 of loss. This type of loss can offset non-passive income, including your full-time salary.

Here are a few points to remember with investments in real estate:

• Real estate professional that meet specific requirements may be able to count their rental activity as non-passive.
• If your modified adjusted gross income (MAGI) is $100,000 or higher, then your maximum allowable loss is reduced.
• If your MAGI is over $150,000, you cannot take a special allowance for a rental real estate loss.
• You can carry unused loss forward to a year with a lower adjusted gross income or until the year where you sell the investment property.
• If your investment is not “at risk”, you cannot take a tax loss of more than the amount you have at risk.

Therefore, it is important to keep your tax professional or accountant informed about any investment real estate you own and what their cost basis is. However, along with the income, rental properties provide additional benefits.

Benefits of an Investment Property

Owning an investment property can translate into a few unique tax benefits. One of the most critical is the depreciation deduction, which is taken as a percentage of the basis of your rental holdings during the year. Keep in mind that after selling any of your investment properties, taxes will be owed on any gains. Those gains would include any depreciation deductions that were taken during the time you own the property.

Therefore, it is important to determine the best strategy for selling your rental property. An example would be to sell it during a year when other assets might be sold as a loss to offset any gains.

However, there are also some areas to consider when it comes to rental income, as it is subject to its own set of guidelines, but also provides some additional deductions.

Other Deductions

As an investment property, it provides a variety of additional deductions. Here are just a few of the ones possible for an average investor to take:

• Advertising
• Insurance, such as fire, flood, liability and mortgage
• Auto expenses – either the standard mileage rate or your actual expenses, such as gas, oil and depreciation
• Non-mortgage interest paid on any credit cards used only for investment properties
• Cleaning prior to a new tenant moving in
• Legal fees and tax preparation fees, as they relate to your investment properties
• Supplies
• Property repairs, including appliances, repainting and fixing leaks
• Mortgage interest
• Management fees, if you use a management company to care for your investment property
• Travel expenses relating to improving the property
• Utilities

When it comes to security deposits, you should not count those as income unless they are going to be non-refundable. If you anticipate the renter receiving their deposit back, then keep it in a different account that is divided from your actual rental income. Plus, you will have to be sure to pay taxes on income received in December, even if your tenants are actually paying their January rent.

As we have seen, there are pros and cons to owning investment properties. But there are also additional deductions that you might be eligible to use as part of the general running of your investments. By working with your tax professional or accountant, you can determine the best way to reduce your tax liability and enjoy the benefits of an additional income stream.

Click on the link below to connect with your tax professional at 1-2-3 Financial Services in Warwick, RI, to determine the best tax strategy for your real estate investments.