Tax Consequences of Renting Your Vacation Home

At a glance

• The main takeaway: Vacation and second homes have grown in popularity since the pandemic, though there are several implications taxpayers should consider before purchasing one.
• Impact on your business: The taxability of these homes is complicated because it often depends on the number of days in the calendar year they are used for rental purposes as opposed to personal use.
• Next steps: Aprio’s tax professionals can help buyers navigate and plan for the various tax consequences that come with vacation and second homes so they can avoid headaches and pitfalls.

Schedule a consultation with Aprio today

The full story:

According to Redfin, second-home sales in the United States jumped 70% in October 2021 from pre-pandemic levels, recording another strong month in the year. The popularity of vacation and second homes grew exponentially during the pandemic, fueled by low mortgage interest rates and the ability to work from home.

Taxpayers acquire second homes for various purposes, such as personal getaways, renting them out until retirement or for mixed-use (rental and personal use) purposes. If you’re debating purchasing another home, here are some of the most important tax consequences to consider.

Top tax impacts for second homebuyers

Taxpayers who use their second home for both rental and personal purposes will find that applying the tax laws can be complicated. Renting your second or vacation home can result in different tax consequences, depending on the number of days in the calendar year your vacation home is used for rental purposes as opposed to personal use.

From a tax perspective, any day in which the vacation home is rented at fair market value is a rental day unless the resident is a family member who does not live there full-time (see exception below).  

Personal use means use by the owner or family members for any day in the year. If the vacation home is rented at a fair market rental rate to a family member and the home was used as that family member’s principal residence, then no personal use is attributable to the owner. If another person uses the vacation home at less than fair rental value, including donated use for charity, then those days are counted as personal use attributed to the owner.   

Any day in which you spend a significant amount of time repairing and maintaining your vacation home is not counted as a day of personal use. For tax reporting purposes, a vacation home with both personal and rental use in the calendar year is classified in one the following scenarios:

• Minimal use: The vacation home is rented at fair market value fewer than 15 days in the calendar year. This special rule exempts the taxpayer from reporting the rental income (regardless of the amount of rental income received) and no deduction is allowed for direct rental expenses. Mortgage interest and property tax are still allowed as Schedule A deductions.
  
  
• Rental property: The vacation home is rented out for more than 14 days in the calendar year and for personal use that does not exceed the greater of 14 days, or 10%, of the total days the vacation home is rented to others at a fair rental price.
  
  
• Personal residence: The vacation home is rented out for more than 14 days in the calendar year and personal use exceeds the greater of 14 days, or 10%, of the total days the vacation home is rented to others at a fair rental price.     

Rental property

If your vacation home meets the rental property designation for a given year, you are required to report the rental income and can also deduct expenses related to the rental, such as depreciation, utilities, repairs and property management fees. Expenses in excess of the rental income (net loss) could be limited under the passive loss rules.

Personal residence

Tax reporting consequences for vacation homes that fall under the personal residence category become much more complex. The rental income is still reported on Schedule E and the rental expenses, both direct and indirect, are subject to allocation between rental and personal-use days. However, you may not deduct the allocated rental portion of expenses in excess of rental income. Allocable personal use mortgage interest and property taxes can be deducted on Schedule A, subject to limitations.          

The bottom line

Application of the federal income tax rules to vacation homes are complicated and this article only touched on some of the tax consequences that could occur. Aprio’s professional tax advisors can provide you with personalized advice for navigating vacation home rules based on your unique situation and tax picture.

Schedule a consultation with us today to learn more.