One of the greatest tax deductions offered to landlords is depreciation expense. The IRS allows landlords to depreciate the improvement of a rental property (single family residence) over 27.5 years. So, if you purchase a rental property for $125,000 and the land is worth $25,000, you can deduct the $100,000 improvement ($125,000 – $25,000 = $100,000) over 27.5 years, or $3,636.36 per year. Depreciation is an invisible expense. The depreciation expense is added to yearly property taxes, mortgage interest, insurance, property management fees, and repairs. Below is a year 1 sample mortgage analysis with purchase price of $125,000 and financing $100,000 at 7% with a 30 year note: Principle payment $84 Interest payment $581 Property Taxes$250 Insurance$50 Management fee $50 Total Payment $1,015 Assuming a monthly rent of $1,000, you can deduct all above expenses except the $84 principle payment. Your total monthly deductions are afni $931 ($1,015 – $84 = $931). This calculates to a monthly gain of $69, or yearly gain of $828. Now apply yearly depreciation of $3,636, and your property shows a yearly loss of $2,808. Depreciation can be a very powerful tool once you start acquiring more properties. If you owned eight properties with this scenario, you could deduct $22,464 against ordinary income. The IRS allows landlords to write off up to $25,000 in rental property losses against ordinary income. High paid wage earners are not able to fully take advantage of rental property losses. The IRS limits the amount of losses you can deduct against ordinary income once your adjusted gross income (AGI) exceeds $100,000. AGI includes W2 wages, self employment income, interest, dividends, capital gains, and rental income before any Schedule A deductions or exemptions are considered. Once your AGI exceeds $100,000, the IRS multiplies the overage amount by 50% and reduces your loss by that amount.
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