Those who own commercial real estate for rental purposes must report expenses and income from the property to the IRS. To do so, you need IRS Form 1040, Schedule E. To correctly file the report and avoid penalties, follow our IRS Schedule E guide.
1. Determine Your Taxable Profit
The first step in preparing the Schedule E form is calculating how much of your rental income is taxable profit. Part I of the Schedule E form is where you will do this by providing the following information:
- Property address and type
- How many days of the year the property was rented
- How many days you personally used the property
Aside from the above, you must specify whether you own the property jointly (with a spouse) or alone. On line 3, you will then list how much rent you received for the property during the calendar year.
2. Calculate Your Expenses
Lines 5 through 20 are where you will calculate your expenses. The following expenses qualify as deductibles from your taxable rental income:
- Advertising for the property
- Travel to and from the rental property
- Property cleaning and maintenance
- Commissions (but not commissions to a real estate agent when buying the property)
- Property insurance
- Legal fees and other professional services
- Hiring of a property manager
- Bank mortgage interest
- Interest paid on non-mortgage debt
- Property damage repairs
- Purchase of office equipment and supplies to manage the property
- Local property taxes
- Utilities, such as water or sewer, at the rental property
- Depreciation expense
- Any other expenses related to maintaining, owning, or managing the property
After listing all of your deductible expenses, add them up and deduct the sum from the rent you received that tax year. You will do this on line 21.
What if the Rental Property is a Tax Loss?
A tax loss occurs when the deductibles you can claim for a financial year exceed your assessable net income. If your total deductible rental property expenses amount to a tax loss, one of the following rules will apply:
- The at-risk rule: This restricts your deductible losses on a rental property to the amount you paid for the property.
- Passive activity loss rule: You cannot deduct expenses higher than your rental income. But if you actively participated in maintaining the property and finding tenants and had a modified adjusted gross income of $100,000 or less, you can claim up to $25,000 of rental property losses.
- Excess business loss rule: This only applies to rental owners who suffer losses that exceed gross business income plus $255,000 (or $520,000 for a joint return).
Calculating your commercial real estate taxes can be overwhelming and you cannot afford to make mistakes. Let MKS&H do the hard work for you. Contact us today to schedule a consultation.