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This is a Guest Post by Linda Nellett, another homeowner who rents out a room in her house.

Previously, she has written a guest post about her experience as a women renting out rooms in her house.  This time she’ll share her insights on how renting rooms has impacted her taxes. Disclaimer:  Neither I, nor Linda are accountants or tax specialists, so this article will not provide authoritative tax guidance. Linda was kind enough to share her own experiences. Consult a tax advisor to discuss your own particular situation and what will work best for you.

###Enter Linda###

I’ve been renting two spare bedrooms in my house since October 2009, which means I’ve gone through two tax years. In November 2009 I met with my accountant to discuss how renting out rooms would affect my filing for the 2009 tax year. I brought the following information with me to the meeting: the original real estate listing of the house with room dimensions (so we could calculate the percentage of the house being rented); copies of the rental agreements; copies of my property taxes; and receipts for repairs and updates made to the house. My accountant and I discussed the fact that I would have more forms to complete for 2009 than in previous years, and he assured me that it would very likely benefit my tax situation to be renting rooms.

When the tax planning forms arrived in January 2010(tax planning forms are resources to assist in organizing your deductible expenses so that at the end of the year you’re not left scrambling to find everything you can deduct for that year), I tabulated receipts and statements, and filled out the new sections of my tax planner. Here are my numbers for 2009 with only three months of rental income and expenses:

Notice that my Expenses exceeded by Income in 2009. My accountant added Schedule E (Form 1040) Supplemental Income and Loss to my tax filing and documented these figures and the resulting $82($2032-$1950) loss. We also had to complete Form 8582, Passive Activity Loss Limitations, to document total losses did not exceed the amount allowed. The loss actually reduced my tax burden, which was a great result. When I look at my 2009 Form 1040 I can clearly see on Line 17 where the $82 loss is recorded, resulting in a lower adjusted gross income.

In speaking with another person at work who owns a two flat (a house with two totally separate living units), this is not an uncommon outcome. My colleague lives in one of the units and rents the other. Like me, the repairs and maintenance she makes to the building and property – things she would have to do anyway as a homeowner – are now business expenses. And my colleague pointed out with a smile that her expenses are always more than her income.

The loss of $82 really isn’t much and didn’t really have an impact on my Adjusted Gross Income for 2009. Let’s look at my numbers for 2010, where I’ve had a full year of rental income and expenses.

For 2010, I had a loss of just over $4,000. The $4,000 loss will again reduce my 2010 adjusted gross income. This is the figure used by the IRS to calculate the total tax for the year.  A good rule of thumb to follow is the lower your adjusted gross income the lower your taxes.

I’ve noted a lot of figures here for things like cleaning and maintenance, repairs, and supplies. Some of these figures are tallied from paper receipts I’ve saved all year in my 2010 Income Taxes folder, while others are from monthly statements. What sorts of items are included in my documentation?

  • Maintenance activities: tree-trimming, landscaping service and pest control (too many ants this year!).
  • Insurance: the cost of my annual homeowner’s insurance.
  • Repairs: updates/fixes to gutters and downspouts, spot tuck-pointing, fixing a faulty light fixture, and installing a new storm door.
  • Supplies to maintain the property: light bulbs for common areas, water filters for the refrigerator, a new smoke detector, a new shade for one of the bedrooms, a replacement shower-head for the bathroom shared by the renters, and ice melting compound for the sidewalks.
  • Basic utilities: water/sewer/trash, electricity, and natural gas.
  • Other utilities I provide as part of the rental agreement: Internet service.

Again, these are expenses I would have had anyway as a homeowner. Yet now that I’m renting rooms in my house, they are considered rental property (business) expenses.

Other fees that could be noted as property expenses include:

  • Advertising costs for listing the property with services such as roommates.com or another service to find renters.
  • Cleaning service for common areas such as kitchen, living room, etc.
  • Commissions paid to individuals or services to secure renters.
  • Supplies that are used for cleaning or could be provided gratis under the rental agreement, such as paper towels and dishwasher detergent.

I personally haven’t incurred expenses for advertising, cleaning, and commissions in the past two tax years, but I know I could be more thorough about documenting the cost of supplies. If you’re considering renting out rooms in your house be sure to start a new file at the beginning of the tax year to keep paper copies of your receipts and documentation, or scan your receipts and save them in an electronic file with notes. This will make your filing process much easier the following year.

On Schedule E there are also lines to document mortgage interest and real estate taxes. My accountant didn’t list these expenses on Schedule E in 2009, and I assume he did this deliberately as it would have brought me no additional advantage. Instead those expenses were included in Schedule A with the rest of my typical itemized deductions.

Some people who are renting out rooms may be tempted to not claim the income on their taxes. Besides the legal and ethical issues involved with under-reporting income, I think my example shows that those people are really doing themselves a disfavor financially, as well.

Creative Commons License photo credit: John-Morgan

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It’s interesting to see in Linda’s particular situation, she has been able to lower her adjusted gross income by taking a loss on the rental income.  This may change depending on how much her variable expenses are from one year to another.

Again, a reminder this post was written to provide insights on a particular situation.  Please consult a tax advisor to discuss your own particular situation and what will work best for you.

{ 12 comments }
  • Yakezie April 12, 2011, 12:42 am

    Very insightful! For some reason, your spreadsheet with your expenses/income isn’t showing up though.

    Thanks for your thoughts on this!

    Sam

    Reply
  • Crystal January 14, 2012, 4:10 pm

    Thank you for the great article. I’ve just started renting the room and there are no start up costs so far. My house is in good order already and I placed the ad on craigslist. So I’m actually wondering what percentage of my rental income I should set aside in to pay taxes next year. Are you saying that you actually paid LESS taxes due to renting out the room? So theoretically, I don’t need to set any of the rental income aside?

    Reply
    • Mike January 15, 2012, 12:42 pm

      I’ll send you a separate e-mail as everyone specific situation will be different.

      Reply
  • Mehran January 28, 2012, 10:32 pm

    I wonder if I should hold off on certain repairs/maintenance on the house I’m purchasing until after I find a roommate so I can count the costs as loss. Or would it not matter If I do them first “in preparation” for finding a roomate?

    Reply
    • Mike January 30, 2012, 4:46 pm

      Maintenance and repairs are deductible expenses when it comes to renting out rooms, but I’m not a 100% sure about prepping a room for a roommate.

      Reply
  • Maureen April 12, 2012, 12:51 pm

    The rules seem to have changed for 2011! Has anyone figured their taxes yet for this last year? It seems we are no longer allowed to deduct everything we spent on the rental (if we live in the building), but only UP TO the amount of rental income!!! Can anyone confirm? So they’re closing the loopholes for poor people, but corporations and the rich can still have all the loopholes they want??!!

    Reply
  • dwayne dixon July 2, 2012, 5:00 pm

    Wow! What a great post! I’m taking this to my tax advisor tomorrow! We’re on the cusp of refinancing and I wonder if renting has any effect on how banks view you/the property? Or are they generally so focused on the return that they really don’t care, as long as you are good for the loan?

    Reply
  • Lisa November 2, 2013, 5:24 pm

    -This is not tax advice-

    Something that this article doesn’t touch on is depreciation expense. From my understanding, you are required to claim depreciation against your residence, which will offset your rental income. Then when you sell the house you will be struck with “depreciation recapture”, meaning you have to pay up to a 25% tax on the amount of deprecation taken. Whether or not you claim depreciation in the meantime, when you sell your house you have to claim recapture – there’s no way to avoid it.

    Reply
  • Diana February 10, 2015, 5:17 am

    Lisa,

    Are you claiming the full amount of the expenses or only a portion of the expenses as a percentage of his room size in comparison to the size of the house? I thought you could only expense a portion of these expenses.

    Reply
  • Maria February 22, 2015, 2:04 pm

    Hi Lisa,
    I have the same question as Diana above. I read elsewhere that you have to divide the expenses per square footage used by the renter OR by the rooms they can utilize? Other words, if they are able to use not only the bedroom but also the kitchen, bathroom, laundry room, you deduct 1/4 of your expenses since they use only 4 rooms. I have to ask a tax advisor if this is true. It seems much easier than measuring the room.

    Reply
  • Linda June 17, 2016, 1:53 pm

    My situation has changed since I wrote this post, but I can add some insights that may answer some of the questions in the comments.

    **First, I’m not a tax professional, so consult one if you have questions about your specific circumstances.**

    Now, as to expenses: any expense that was for a repair or to correct an issue with the rented rooms themselves was 100% a business expense. For example, a shade broke in one room and needed to be replaced, so I bought and installed a new one. The cost of the shade was a business expense. Also, the bathroom used by the tenants (and ONLY by them and their guests) developed a leak, so the expense to fix that was 100% a business expense. The cost of maintaining/fixing the property and common areas the tenants could use/access at will was not 100% a business expense, but was added to my taxes and adjusted based on the percentage determined by my tax professional. (As I recall it was a a 60/40 split, with my personal “portion” being higher.)

    Depreciation expense: Yes, there was depreciation. I just let my tax professional deal with figuring that part out. But, when I sold my house in 2014, that didn’t result in any horrible tax increases or issues.

    My only point was that there were financial benefits to renting out rooms in my house that went beyond just increasing my monthly cash flow. I would have incurred expenses to maintain the “common areas” and keep the utilities running 100% on my own, but since I was renting rooms I was able to “write off” 40% of them as business expenses.

    Reply
  • Kathleen Olivett June 1, 2017, 1:27 am

    I have been renting rooms in my house for 10 yrs and it has really helped me out financially.
    A friend mentioned to me that I should have a rental permit for this activity.Please advise me
    if this is neccessary. Thanks

    Reply

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