Surely every real estate investor is familiar with the famous Benjamin Franklin quote: “In this world nothing can be said to be certain, except death and taxes.” We’re not feeling up to talking about death today, but we can talk about taxes. At least the tax deductions investors can enjoy around their rental properties.
Are you maximizing all of those write-offs? Tracking every deductible expense?
You should be.
We’re providing advice based on our experience and expertise as San Diego property managers. Always talk to your tax attorney or your CPA before filing, deducting, or making any moves that might attract the wrong kind of attention from our friends at the IRS.
Here are the right moves, based on the investment properties you own.
We Should Start with Depreciation
Depreciation represents the gradual loss of value of a real estate asset due to wear and tear and deterioration. For rental property owners, the IRS allows you to deduct this loss in value as a tax benefit over a set period. The idea is pretty basic—since your rental property ages over time and incurs natural wear and tear, you can offset part of this through annual depreciation deductions.
It can feel a bit awkward, after all, we work hard to protect the appreciating value of your property.
But, let’s just enjoy the generosity of the IRS in this particular area and take all the depreciation benefits that are available. Unlike expenses like property repairs or maintenance, depreciation doesn’t involve actual cash outflow. It’s a “non-cash” expense that reduces your taxable income, making it one of the most valuable tools in a real estate investor’s tax strategy.
When claiming depreciation in San Diego California, the IRS follows standard guidelines and procedures. Here’s what you need to know
- What Property Qualifies for Depreciation?
To qualify, your rental property must meet these conditions:
- You must own the property (either outright or via a mortgage).
- The property must be used to generate rental income.
- The property has a “useful life” of more than one year.
Additionally, land isn’t depreciable. You’re only deducting for the building. You’ll need to calculate the value of your building separately from the land to determine your depreciation base.
- How Is Depreciation Value Calculated?
Straight-line depreciation, the most commonly used method, is the IRS standard for residential rental properties. Under this method, the IRS assumes residential properties have a useful life of 27.5 years. So, you divide the depreciation base (typically the building’s value) by 27.5 to calculate annual depreciation.
- When Can You Start Deducting Depreciation?
Depreciation can begin once your rental property is “placed in service,” meaning the first day you make it available for rent—not necessarily when you start earning rental income.
Next Up: Deducting San Diego Property Taxes and Mortgage Interest
Another tax deduction you don’t want to miss is the deduction you’re eligible to take on your property taxes and on any interest you pay on a mortgage.
Property taxes and mortgage interest are often a significant portion of the costs associated with owning rental properties. By deducting these expenses, investors can increase profit margins. Lower tax liabilities mean higher profits from your rental income. It also frees up cash flow. Extra savings can be reinvested into other properties or used to improve existing ones.
- Property Taxes
When you own a rental property, you are required to pay property taxes to San Diego’s local government. These taxes are typically based on the assessed value of the property. Property taxes are deductible as a rental expense if the property is used to generate income. You can deduct the portion of property taxes that cover the time your property was available for rent (even if it wasn’t occupied).
- Mortgage Interest
If you have a mortgage on your rental property, the interest portion of your payments is deductible. Considering that mortgage interest can make up a sizable chunk of your monthly costs, this deduction is particularly valuable. Remember that you can only deduct the interest on the loan amount used to purchase, build, or improve the rental property. If you refinance a rental property mortgage now that rates are coming down, the interest on the refinanced amount may also be deductible if it’s tied to the property.
Deducting the Cost of Maintenance and Repairs
The IRS allows rental property owners to deduct expenses that are deemed “ordinary and necessary” for managing, conserving, or maintaining the property. This includes maintenance and repairs, but not improvements, as repairs simply restore a property’s functionality, whereas improvements add significant value to the property.
Keep all receipts and invoices when you have the plumbing repaired and the roof replaced. Those costs can reduce your exposure at tax time.
- What Qualifies as Repairs?
The IRS sees repairs are tasks or work done to address wear and tear without significantly increasing the property’s value or extending its life expectancy. Common examples include:
- Fixing a leaky faucet or broken pipe
- Repainting walls or touching up damaged paint
- Repairing a damaged roof or windows
- Patching holes in drywall
- Replacing broken appliances or fixtures with similar models
- What Qualifies as Maintenance?
Maintenance refers to routine tasks performed to prevent more extensive damage or ensure optimal property functionality. It often helps avoid costly repairs in the future. Examples of what the IRS considers to be maintenance include:
- HVAC inspections and cleaning
- Landscaping, such as trimming trees and lawn care
- Cleaning services for common areas between tenants
- Pest control
These expenses are fully deductible against your rental income when filing your taxes.
- What Doesn’t Qualify? (Improvements vs. Repairs)
It’s important to distinguish repairs and maintenance from property improvements. Improvements include additions or upgrades, such as installing new flooring, expanding the property, or upgrading countertops to granite. While these costs are not tax-deductible as repairs, they can often be depreciated over several years.
Here’s a fun fact: If you hire professionals like plumbers, contractors, or landscapers, their labor costs are deductible. However, for landlords who manage their own repairs, the value of your personal labor is NOT deductible, only the materials and supplies you purchase for the project.
Another great reason to work with professional San Diego property managers.
Deducting Professional Costs
When self-managing landlords hesitate to hire a professional property manager because of the management fees, we always like to remind them that those fees are tax-deductible. In many cases, management services pay for themselves with the tax deductions alone.
Always deduct the professional services that you utilize. These services refer to the third-party experts that you hire to assist with the management, maintenance, or operation of your San Diego rental properties. These services ensure your property runs smoothly while saving you time and effort.
Examples of professional services you might deduct include:
- Legal Fees. Every now and then a rental property owner needs some legal advice while creating lease agreements or handling tenant disputes. Maybe you’re being sued by a former tenant because you didn’t return the security deposit in time. Legal consultations for your rental properties are tax-deductible.
- Accountants and Tax Preparers. If you’re working with a good accountant, you probably already know that their fees are tax deductible. If you don’t know it, they surely will. Hiring an accountant to ensure accurate tax filings or a CPA to help manage finances can be written off as an expense.
- Property Management Fees. And here it is. Those management fees, leasing fees, and other costs associated with our partnership can all be deducted at tax time. Hooray.
- Marketing and Advertising. Advertising isn’t cheap, and if it’s not included in your property management fees, you may have extra costs. Those expenses for professional photographers, listing services, and digital marketers to advertise your rental property are eligible for deductions.
- Consultants and Contractors. Costs for hiring contractors to upgrade or maintain your property or consultants to strategize long-term investment plans.
For real estate investors, these services are crucial to maintaining the profitability and value of your rental properties, and knowing how to include them as tax deductions is equally critical. It’s how you maximize your long-term ROI without sacrificing the expertise that these professional partners provide.
Tax deductions for professional services directly reduce your taxable income, meaning you’ll owe less to the IRS, ultimately increasing your net revenue. We like to remind our property investors of these benefits:
- Improved Cash Flow. Deducting qualified expenses helps you keep more cash in hand, which you can reinvest into your properties.
- Legal Compliance. Proper accounting of deductions ensures that you’re on good terms with the IRS and prevents costly audits or penalties.
- Cost Control. Knowing that certain professional services are deductible allows you to invest confidently in expert solutions, ensuring seamless operations.
We are not tax experts, but we know enough about rental property tax deductions to be able to help owners and investors position themselves to maximize their deductions. Leverage our detailed, accurate, and transparent financial reports and accounting statements to keep yourself organized at tax time.
Let’s talk about any questions you may have. Contact us at Chase Pacific Property Management & Real Estate Services.