As tax season is coming up, I've had a few readers email me about how income taxes are calculated with investment rental properties. It's actually a pretty basic calculation, with your total NET rental income added to your regular income throughout the year. The basic formula works out like this:
Total Rental Income – Expenses = Net Rental Income
Total Rental Income is self explanatory, but what is considered an expense? Listed below are the expenses that are tax deductible:
- Mortgage Interest (from your annual statement)
- Property Taxes
- Property Management
- Utility bills (if you include them in the rent)
- Office supplies
- Car (there are exceptions)
- Internet connection, telephone, cell phone (portion used for business)
For example, my rental property brought in around $10,000 in rent last year, with expenses listed above totaling around $8000. In my case, $2000 was added to taxable income for the year. At the 40% tax bracket, I would pay $800 in taxes for the year.
What if I had a loss? No problem, this amount is subtracted from your other sources of income that are taxable for the year. So say that I had a $2000 loss instead of a gain. Providing that I paid in taxes from other income sources throughout the year, I would get back an extra $800 during tax refund season.
What if you live in a 2 unit home and you live in one of them? In this case, you can still deduct mortgage interest and property taxes, but only a percentage of it. The percentage depends on how much space you have rented relative to the size of the building.
There you have it, a basic explanation of how rental property income tax is calculated. Please note that I'm not a tax professional so take the information above as a primer for your own research. I would recommend that you contact a tax professional before calculating your deductions.