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Vacation Homes: A Sea of Information for Maximizing your Tax Deductions

August 13, 2012

Timothy P. Barry, CPA/PFS, MST, CFP®, CRPC®

With summer in full effect and vacations looming for many Americans, a getaway to the beach, lake or mountains is just what the doctor ordered. If you’re thinking about purchasing a vacation home, consider this another reason why you should take the plunge − it could be a potential source of valuable income tax deductions.

There are three possible ways your vacation home can be classified for tax purposes based on the amount of time you personally use the property versus renting the property to others:

  1. Personal residence.  If you rent your property for two weeks or less, things are easy and you do not have to report any of the rental income.  In other words, all of your rental income is tax-free.
  2. Vacation home.  If you rent the property for more than two weeks and personally use the property for more than the greater of 14 days or 10% of the number of days the property is rented, then the property will be classified as a “vacation home”.  Under these rules, your property’s expenses attributable to the rental portion are deductible against your rental income.  Expenses (other than mortgage interest and real estate taxes) that exceed your rental income, however, are not currently deductible and must be carried forward to a future year.  The personal portion of your mortgage interest and real estate taxes continues to be deductible as an itemized deduction.
  3. Rental property.  If you rent the property for more than two weeks, and your personal use is less than the greater of 14 days or 10% of the number of rental days, then the property is considered a “rental property”.  In this case, you can deduct all of the property’s expenses attributable to the rental portion against rental income.  This may very well lead to a net rental loss.  

If you actively participate in the rental property and your income is less than $100,000, you can deduct up to $25,000 of this rental loss on your tax return.  If your income is over $100,000 but under $150,000, the $25,000 maximum deduction is gradually phased out. 

One drawback of rental property status is that your mortgage interest attributable to personal use is not deductible as an itemized deduction and, therefore, is lost.  If you expect your income to be close to or over $150,000, you may want to consider increasing the amount of your personal use so that the property qualifies as a “vacation home”.  This will at least allow the personal use portion of your mortgage interest to be deducted as an itemized deduction.  Conversely, if your income is less than or close to $100,000, most of your loss write-off will be intact. Therefore, try to keep your personal use below the 14-day/10% mark.

The tax rules in this area are complex. Do not hesitate to seek professional assistance.

Timothy P. Barry is a principal at BlumShapiro, the largest regional accounting, tax and business consulting firm based in New England, with offices in Massachusetts and Connecticut.  The firm, with nearly 300 professionals and staff, offers a diversity of services which includes auditing, accounting, tax and business advisory services.  In addition, BlumShapiro provides a variety of specialized consulting services such as succession and estate planning, business technology services, employee benefit plans, litigation support and valuation, and financial staffing.  The firm serves a wide range of privately held companies, government and non-profit organizations and provides non-audit services for publicly traded companies.


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