More on short-term rentals

In December, the column “Tax Practice Corner: Short-Term Rentals, the Sharing Economy, and Tax,” covered the income tax implications for CPAs’ tax clients who rent out their properties on a short-term basis such as through Airbnb and other “sharing economy” accommodations, including what income is taxable, which deductions are allowable, and how to report the activity on the tax return. Following are some frequently asked questions covering more points related to this topic, some of them raised by readers in response to the earlier column.

Are short-term rentals (less than 30 days) subject to state and local sales taxes and hotel occupancy taxes?

Short-term rentals are generally subject to state and local sales taxes where applicable, and the rules within a given state or locality for hotel occupancy taxes can vary. Hosts need to check the rules within their state or locality to find out for sure whether either or both of these types of taxes apply.

Should taxable rental activity be reported on a Schedule C, Profit or Loss From Business, or other business return when substantial services are involved?

In general, taxpayers who rent buildings, rooms, or apartments and provide basic services, such as heat, light, trash collection, and cleaning of public areas report their rental income and expenses on Schedule E, Supplemental Income and Loss, Part I, of Form 1040, U.S. Individual Income Tax Return.

On the other hand, Schedule C is used when hosts provide substantial services in connection with the property or the rental is part of a trade or business as a real estate dealer. Substantial services that are primarily for a tenant’s convenience include regular cleaning, changing linen, or maid service.

If an entire dwelling unit is used for personal purposes for part of the year and rented out for part of the year, how should deductions be apportioned between personal and rental use of the dwelling?

If there is any personal use of a dwelling unit or vacation home that taxpayers rent out, they must separate expenses for rental use versus personal use. Generally, if the entire unit or home is being rented, the portion of the total expenses treated as rental expenses is determined by multiplying the total expenses by a fraction, with the denominator being the number of days the dwelling unit is used during the year and the numerator being the total number of days it is rented at fair value. Allowable rental expenses are deducted on Schedule E or C, and allowable personal expenses are deducted on Schedule A, Itemized Deductions, if the taxpayer itemizes (e.g., mortgage interest).

Often, the homeowner is sharing the home with an unrelated tenant or is renting out a room in an occupied residence. How do owners deal with this situation? 

Owners who rent out part of a dwelling unit with personal use of the remaining portion must first divide expenses attributable to both rental and personal use, such as mortgage interest or a heating bill, on the entire property, between the portion of the dwelling unit used exclusively for rental purposes and the portion of it used for personal purposes as though they were separate pieces of property. They can use any reasonable method for dividing the expense. The two most common methods are based on a home’s square footage and the number of rooms in the home.

If the rental portion of the dwelling unit was used for less than the entire year, the deductible amount of the expenses for the rental portion of the dwelling unit is then determined by multiplying the total expenses for the rental portion of the property by a fraction, with the denominator being the number of days the portion of the dwelling unit is used during the tax year and the numerator being the total number of days the portion of the dwelling unit is rented at fair value. For purposes of this calculation, any day the portion of the unit is not rented is treated as a personal-use day. If the rental portion is rented out for the entire year, this second step is not necessary.

Owners can deduct the expenses associated with the rental portion, such as home mortgage interest, real estate taxes, and utilities, as rental expenses on Schedule E. However, passive loss limitations and at-risk limitations may need to be applied if they have a net loss (see Chapter 3 of IRS Publication 527, Residential Rental Property).

The expenses that are deductible for the personal- use portion of the property, such as home mortgage interest and real estate taxes, are taken on Schedule A as itemized deductions.

Taxpayers do not have to divide the expenses between rental and personal use for the items that relate only to the rental portion, such as painting, repairs, or a second phone line. These expenses are deductible as rental expenses. They are also allowed to claim a depreciation deduction on furniture and equipment attributable to the rental property.

Mike D’Avolio (Mike_D’Avolio@intuit.com) is a senior tax analyst at Intuit ProConnect in Plano, Texas.

To comment on this article or to suggest an idea for another article, contact Paul Bonner, senior editor, at Paul.Bonner@aicpa-cima.com or 919-402-4434.