Schedule E rental property being renovated

Technical topics regarding tax preparation.
#1
philly  
Posts:
1722
Joined:
14-Sep-2014 4:48am
Location:
New York
Taxpayer purchased a residential rental property 3 years ago and reported the rental income & expenses on the schedule E.
In the beginning of 2021, he decided to renovate the whole house and all of the tenants moved out at the end of 2020.
For 2021 the mortgage interest deduction was $25,300 and the real estate tax deduction was $17,500.

Since there was no rental income for 2021 are the deductions mentioned above taken on the Schedule E as a current deduction or capitalized into the cost of the improvements to the property?
 

#2
Posts:
1199
Joined:
3-Sep-2021 4:01pm
Location:
OH
Once you place a property into service you do not have to have a current tenant to be able to deduct the costs of maintaining the home including taking depreciation as long as they intend to continue using it as a rental and haven't retired it as an rental activity.

Pub 527 mentions this:

Vacant rental property. If you hold property for rental purposes, you may be able to deduct your ordinary and necessary expenses (including depreciation) for managing, conserving, or maintaining the property while the property is vacant. However, you can’t deduct any loss of rental income for the period the property is vacant.
 

#3
JR1  
Posts:
6043
Joined:
21-Apr-2014 9:31am
Location:
Western 'burbs of Chicago
Well, that's not the question tho'. In this case, it's actually off the market and not available for rent until finished. I don't know the answer off-hand...but want to point to the right question.
Go Blackhawks! Go Pack Go!
Remembering our son, Ben Jan 22, 1992 to Aug 26, 2011.
For FB'ers: https://www.facebook.com/groups/BenRoberts/
 

#4
Posts:
59
Joined:
4-May-2022 7:03pm
Location:
Southwest
I believe that JR1 is correct: There is a significant distinction between "Available For Rent" but not currently rented and NOT being available for rent. Of course, this does not answer OP's question about how to deal with that on the 2021 tax return.
 

#5
Posts:
1199
Joined:
3-Sep-2021 4:01pm
Location:
OH
I read this wrong. I understand JR1's distinction here.
 

#6
Posts:
1017
Joined:
10-Jun-2019 4:20pm
Location:
WESTERN USA
Reg 1.212
1. "ordinary and necessary expenses paid or incurred in the management, conservation, or maintenance of a building devoted to rental purposes are deductible notwithstanding that there is actually no income therefrom in the taxable year, and regardless of the manner in which or the purpose for which the property in question was acquired." THIS WOULD BE SCHEDULE E

2." Expenses paid or incurred in managing, conserving, or maintaining property held for investment may be deductible
under section 212 even though the property is not currently productive and there is no likelihood that the property
will be sold at a profit or will otherwise be productive of income and even though the property is held merely to
minimize a loss with respect thereto". THIS WOULD BE SCHEDULE A and MISC 2%
Last edited by TAXMASTER on 18-May-2022 11:57am, edited 1 time in total.
 

#7
philly  
Posts:
1722
Joined:
14-Sep-2014 4:48am
Location:
New York
So due to Reg 1.212 the expenses would be currently deductible on Schedule E even though the rental units are not available to rent due to the renovation?
 

#8
Coddington  
Moderator
Posts:
2566
Joined:
21-Apr-2014 8:50pm
Location:
Fort Worth, TX
Is it a 212 activity or a 162 activity?
-Brian

Director of Tax Accounting Methods & Credits
SourceAdvisors.com

Opinions my own.
 

#9
philly  
Posts:
1722
Joined:
14-Sep-2014 4:48am
Location:
New York
Since the rental property was rented for the 3 previous years it would be a reg 1.212 activity.
 

#10
Frankly  
Moderator
Posts:
2455
Joined:
21-Apr-2014 9:08am
Location:
California
GSTaxTalk wrote:There is a significant distinction between "Available For Rent" but not currently rented and NOT being available for rent.

What is the distinction? Either way no rent is being collected. Either way, if a prospective tenant wanted to rent and move in, the answer would be "no". Either way, no rent and no tenant, yet the property is still rental property.
 

#11
Posts:
59
Joined:
4-May-2022 7:03pm
Location:
Southwest
The question was: are the deductions mentioned above taken on the Schedule E as a current deduction or capitalized into the cost of the improvements to the property? So, if the property was not available for rent, are those current deductions or capitalized?
 

#12
MilesR  
Posts:
725
Joined:
7-Dec-2021 11:10pm
Location:
California
My 2 cents is that the property was placed in service as a rental 3 years ago. Was it suddenly removed from service because of the large repairs? If so, is it now personal use? No. I would argue it was not removed from service as a rental property since I don't know of a status in limbo between "personal use" and "in service."

If anything, the mortgage interest would be carrying costs and not wrapped into the renovation. But this is elected into. I would still think deducting would be fine, unless the deduction is wasted by the taxpayer otherwise having little income to benefit from the deduction of the loss without any rental income.
 

#13
Posts:
59
Joined:
4-May-2022 7:03pm
Location:
Southwest
I am not attempting to argue either way. Rather, I am trying to understand where the line is, or, even if there is a line. I would have to think that there is a line somewhere. It can't be "Once a rent house, always a rent house." There has to be some point where the rental property has to produce some rental revenue, or it is not rental property. I believe that this is where the concept of "available for rent" comes into play as a factor in making that determination.

In the question posed it appears that there is an unstated assumption that the rental property will be back online in 2022; so deducting rental expenses in 2021 would seem reasonable given that it was rented in the 3 previous years and will also have rental revenue in 2022.
 

#14
philly  
Posts:
1722
Joined:
14-Sep-2014 4:48am
Location:
New York
The taxpayer owns several other real estate rentals that generate income. The property being renovated is not a "personal use" property and will never be. The property being renovated will generate rental income in 2022.
 

#15
Posts:
797
Joined:
30-May-2014 7:38am
Location:
NC
Coddington wrote:Is it a 212 activity or a 162 activity?


- If a 162 activity the interest & taxes would be deducted on Sch E in 2021
- If a 212 activity the interest & taxes would either be deducted on the Sch A or capitalized under Sec 266 election

Is this correct?
 

#16
philly  
Posts:
1722
Joined:
14-Sep-2014 4:48am
Location:
New York
I would think that the material participation of rental of property would be a 162 activity.
 

#17
Frankly  
Moderator
Posts:
2455
Joined:
21-Apr-2014 9:08am
Location:
California
Coddington wrote:Is it a 212 activity or a 162 activity?

I don't think it matters whether it's 212 or 162. Property taxes and mortgage interest are deductible expenses either way. It also doesn't matter whether the property is productive or unproductive. TR 1.266-1 (b)(1)(ii) permits the taxpayer to make an election to capitalize carrying charges that are otherwise deductible.
 

#18
Posts:
8152
Joined:
4-Mar-2018 9:03pm
Location:
The Office
What is comes down to is whether there's been a change in use. Does the client not plan to advertise the units as available for rent, and get tenants back in within a reasonable period of time after the renovation is complete?

Most of the rehab expenses will be improvements and capitalized I'd bet. You'd just have carrying costs on schedule E.
 

#19
LDCPA  
Posts:
173
Joined:
8-Aug-2022 8:04pm
Location:
CA
philly wrote:Taxpayer purchased a residential rental property 3 years ago and reported the rental income & expenses on the schedule E.
In the beginning of 2021, he decided to renovate the whole house and all of the tenants moved out at the end of 2020.
For 2021 the mortgage interest deduction was $25,300 and the real estate tax deduction was $17,500.

Since there was no rental income for 2021 are the deductions mentioned above taken on the Schedule E as a current deduction or capitalized into the cost of the improvements to the property?


Did you get your answer?
I have a few real estate clients with a similar fact pattern and looking for a good answer myself.
For sec 162 activity, would sec 263A(i) small business UNICAP exception apply allowing to currently deduct carrying costs on sch E? Or does 263A(i) only apply to real estate developers that treat real estate as inventory (and I assume don't report on sch E)?
 


Return to Taxation



Who is online

Users browsing this forum: artp, dellpaul, deniz, Frankly, Google [Bot], Google Adsense [Bot], GSTaxTalk, ImposterTax712, JoJoCPA, JR1, ManVsTax, MAPCPA60, SALYstrikesagain, Seaside CPA, TexasTaxCPA, TheGrog, Trailman423 and 207 guests