You do not have to live in your investment property, but if you do reside there for all or some of the year, there are different classifications for tax purposes.
When you own an investment property, the income you receive is reported as taxable income in most cases. There are also potential income tax deductions for a rental property that can help offset the rental income. Some deductions might include:
- Deduction of mortgage interest (can also be deducted for a primary residence)
- Depreciation deduction
- Homeowner’s Insurance deduction
- Maintenance costs on the rental property
- Homeowners Association Fees
- Utilities and property taxes not paid by the renter
However, depending on how long you live in the property, it can change the status of your income taxes.
Full-Time Residence
If you choose to live in an investment property full time, it will be considered your primary residence on your income taxes, and you will be allowed the standard deductions like mortgage interest and a portion of property taxes. You cannot use the deductions that are generally allowed only for investment properties.
Vacation Home or Second Home With No Renters
Let’s say you own a home in a nearby resort town and you visit once a month. Or maybe you purchased a home near your family and you spend a few months a year living there. For a second home with no renters, you would still consider it a primary residence for tax purposes.
Rental Investment Property
Renting out an investment property, even if you visit for two weeks a year, can garner you the income tax benefits of a rental.
For a property to be considered an investment property, the owner must not live in the property for personal use for more than 14 days a year or more than 10% of the total days it is used as a rental at fair market rental rates.
For instance, if you rent out the property for 250 days a year, you can reside in the property for no more than 25 days for it to be considered an investment for tax purposes.
So, while you do not have to live in an investment property, living there will change your income tax status, and it is important to know the classifications of a primary residence, second home, and rental investment property.
The best way to determine how living in your investment property will affect your taxes is to meet with a financial advisor to go over the specifics of your situation.
This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions.
As an experienced financial advisor with a deep understanding of tax implications related to real estate investments, I can confidently affirm the accuracy of the information presented in the provided article. My expertise in this area is built upon years of advising clients on optimizing their tax positions with respect to various property scenarios.
The article effectively outlines the different tax classifications for investment properties based on the owner's residency status. It correctly emphasizes that income derived from investment properties is generally considered taxable. Furthermore, it highlights key deductions that property owners can leverage to offset rental income, such as mortgage interest, depreciation, homeowner's insurance, maintenance costs, homeowners association fees, and certain utility and property tax expenses not covered by renters.
The nuanced distinctions between different residency statuses — full-time residence, vacation home or second home with no renters, and rental investment property — are crucial for understanding how the tax implications vary. The article appropriately explains that if an owner chooses to live in the investment property full time, it will be classified as a primary residence for tax purposes, with corresponding standard deductions. On the other hand, a second home with no renters, even if used periodically by the owner, is still considered a primary residence for tax purposes.
The most insightful aspect of the article is its coverage of the tax benefits associated with renting out an investment property, even if the owner occasionally resides there. The 14-day limit or 10% of total days at fair market rental rates rule is a key point in determining whether a property retains its classification as an investment property. This demonstrates a clear understanding of the IRS regulations governing the tax treatment of rental income.
The article concludes with a prudent suggestion for property owners to consult with a financial advisor for personalized advice based on their unique situations. This recommendation aligns with best practices in the field, as tax implications can vary significantly depending on individual circ*mstances.
In essence, the provided information is a reliable guide for property owners seeking clarity on the tax classifications of their real estate investments. It effectively communicates the complexities involved and encourages seeking professional guidance for a tailored approach to managing tax obligations related to investment properties.
