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Don’t squander loss-deductions for a rental residence

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in Leaders & Managers,Management Training

Do you own a personal home that you rent out most of the year? If so, you can deduct expenses attributable to the rental property, including depreciation, maintenance, mortgage interest, property taxes and insurance. In fact, you may even be able to claim a tax loss on the deal.

But be aware of this often-ignored pitfall: Allowing friends or family to use the home rent-free could wipe out all those sweet deductions. That’s because rent-free use by friends and family counts as “personal use” of the home.

The rule: If your personal use of a rental property exceeds the greater of 14 days or 10 percent of the time the home is rented out, then your rental-property deductions are limited to the amount of your rental income for the year. In other words, you can’t claim an overall tax loss from the property.

Too much rent-free use by family and friends could push you over the 14 day/10 percent threshold.

Advice: Charge would-be freeloaders fair-market rent for their visits. One taxpayer learned this lesson the hard way.

New case: A physician said that he was running a bed-and-breakfast on the first floor of his home. But he allowed his daughter and her family to live there for a period of time. Then, he claimed rental income of only $650 and expenses of around $19,000 on his return.

The Tax Court disallowed the loss. Since the daughter wasn’t charged a fair rent for the stay, her use counts towards the physician’s personal use. Thus, he flunked the 14 day/10 percent test. (Lofstrom 125 TC No. 13)

Tip: You don’t necessarily have to charge a relative the same amount as other tenants. In a previous case, the Tax Court allowed a 20 percent reduction on the rental for a close relative, since the relative saved the owner on upkeep and management fees. (Bondseil, TC Memo 1983-411)

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