Owning rental property creates taxable income — but it also creates a set of deductions most landlords underuse. Here's what you need to know to report rental income correctly and keep more of what you earn.
Rental Income Is Taxable
All rental income must be reported on your federal return, including:
- Monthly rent payments
- Advance rent (security deposits that you don't return)
- Lease cancellation fees paid by tenants
- Services received instead of rent (if a tenant performs repairs in lieu of rent, the fair market value is income)
Security deposits held in trust and expected to be returned are not income when received.
Where It Gets Reported: Schedule E
Rental income and expenses are reported on Schedule E, which feeds into your Form 1040. The net profit (or loss) from Schedule E is included in your total income.
Deductible Rental Expenses
You can deduct ordinary and necessary expenses for managing and maintaining your rental property:
| Expense | Notes | |---|---| | Mortgage interest | From Form 1098 | | Property taxes | Actual amounts paid | | Insurance premiums | Landlord/fire/liability policy | | Repairs and maintenance | Must be repairs, not improvements | | Property management fees | If you use a manager | | Advertising | Listing fees, signage | | Professional fees | Tax prep, legal fees related to the rental | | Utilities paid by you | Water, trash, if landlord-paid | | HOA fees | If applicable | | Travel expenses | To visit the property for repairs or management |
Repairs vs. Improvements: An Important Distinction
Repairs are deducted in the year paid. Improvements must be depreciated over time.
- A repair fixes or maintains the existing condition: patching a roof, repainting, replacing a broken window.
- An improvement adds value or extends the property's useful life: adding a new room, replacing the entire roof, installing a new HVAC system.
Misclassifying improvements as repairs is a common audit trigger.
Depreciation: A Powerful Deduction
Residential rental property is depreciated over 27.5 years using straight-line depreciation. This means each year you can deduct 1/27.5 of the property's depreciable basis (value of the structure, excluding land).
Example: If you bought a rental for $200,000 and the land is worth $40,000, the building's basis is $160,000. Annual depreciation = $160,000 ÷ 27.5 = $5,818 per year.
This is a non-cash deduction — you don't spend it, but it reduces your taxable rental income significantly.
Depreciation recapture: When you sell the property, the IRS recaptures depreciation taken at a maximum rate of 25%. This is a factor in sale planning.
Passive Activity Loss Rules
Rental activities are generally classified as passive. Passive losses can only offset passive income — not wages or other ordinary income.
Exception: If your adjusted gross income is $100,000 or less (single or MFJ), you can deduct up to $25,000 in rental losses against ordinary income if you actively participate in managing the property. This special allowance phases out between $100,000 and $150,000 AGI.
Short-Term Rentals (Airbnb, VRBO)
If you rent out a property for fewer than 15 days during the year, the income is tax-free and you don't need to report it. However, you also cannot deduct expenses.
If you rent for 15 or more days, the income is taxable and expenses are deductible — but the passive activity rules may be different depending on how many hours you personally provide services.
Records to Keep
For every rental property, maintain:
- Rental income records (leases, payment receipts)
- All expense receipts and invoices
- Depreciation schedules from your tax preparer
- Documentation of the original purchase price and improvements
- Mileage logs for travel to the property
The Bottom Line
Rental income is taxable, but the deductions — including depreciation — can significantly reduce your net taxable income. Many landlords overpay simply because they don't track all allowable expenses or don't claim depreciation correctly. If you own rental property, working with a tax preparer who understands real estate is worth the cost.