That property that you are renting out, which may be a cottage, condominium, lake house or beach house, ski resort, a cabin in the countryside, or similar property, has unique tax attributes if you rent it for an average rental period that is seven days or less and you hold 5% or more interest in the property.
Let’s look at an example to understand how the tax laws apply to your short-term rental property. If you own a lake house and you rent it 18 times a year but the total number of days the lake house was rented out was 90 days during the entire year. Your average rental period will be 5 days.
The property rented out for an average period of seven days or less can provide amazing tax benefits. Note that the property with an average rental period of seven days or less is not treated as a rental activity under section 469 of the tax code so passive activity loss rules do not apply. The property is either:
- Like a commercial hotel and reported on Schedule C, where along with charging a rental, you also provide other services to the tenant or paying guest.
- Unspecified type of property that is reported on Schedule E, where you don’t provide services along with charging a rental.
If you want to deduct losses from a short-term rental while by-passing the passive activity loss rules, then you’ll have to prove that you materially participate in regulating and maintaining the property. Following are two of the ways to prove your material participation:
- The combined participation of you and your spouse makes up the entire participation in running the property.
- The combined participation of you and your spouse is more than or equal to100 hours where you and your spouse participate more than any other individual.
Example of Tax Deductions:
Let’s say you own and operate a short-term rental, no one else works on the rental property, and your participation is 65 hours during the year. If the property produces a loss of $20,000 for the year, then your entire loss is deductible. Note that since passive activity loss rules do not apply here, you can use the $20,000 loss to mitigate any other passive and non-passive income resulting in substantial tax benefits.
If you own a rental property that has an average rental period of 7 days or less, and you would like to discuss tax savings with a professional, please don’t hesitate to reach us at email@example.com.