Dear Carrie: My husband and I are considering buying a small vacation home and are also contemplating renting it out part of the year to help cover the cost. Can you explain the tax rules for rental income, and are we entitled to any tax deductions? -- A Reader
Dear Reader: This is a really timely question. Renting vacation homes, or even a part of your primary residence, is becoming more common thanks to a variety of online sites that make it easy to market property and attract renters. But just because it's easier to attract renters doesn't mean there aren't other obstacles.
A vacation home can provide you and your family with precious R & R, and it can also be a source of income in the right circumstances. But unfortunately the tax rules for renting out your home can be mind-numbingly complex, depending on your intentions and circumstances.
That's not to say you shouldn't do it. It just means you need to be aware of the rules before you get too far into the process. I can give you some basics, but I urge you to talk to your tax adviser so you understand how the rules apply to your specific situation. You might also want to consult IRS Publication 527, which spells everything out in detail.
That said, here are some of the key points to consider.
THE AMOUNT OF TIME YOU RENT OUT YOUR HOME
Rental income in general is taxable. But the IRS gives you a small break if you rent your second home for 14 days or fewer in a year. In this case, your rental income is tax-free. You don't even have to report it on your tax return -- no matter how much it is.
If you go past the 14-day limit, you have to report your rental income and pay taxes on it. You can deduct rental expenses, but here's where it starts to get complicated -- because the amount of expenses you can deduct depends on whether the property is a business or a personal residence in the eyes of the IRS. And that depends on the proportion of personal use to the amount of time you rent the property.
Once again, 14 days comes into play. If you use your vacation home for 14 days or fewer in a year, or less than 10 percent of the days it's rented, it's considered a business. If you use it for more than 14 days, or more than 10 percent of the days it's rented, it's considered a personal residence.
So let's say you decide to spend the month of June (30 days) at your vacation home. You've passed the 14-day limit. Even if you have the good fortune to rent it out for 90 days the rest of the year, it's still considered a personal residence.
WHAT CONSTITUTES PERSONAL USE