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Tax Tip Series: Tax Advantages and Disadvantages of Rental Property

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Published on Jan 13, 2012

What are some of the tax advantages and disadvantages of owning rental properties?

Advantages:
Even after the recession, properties can still appreciate in value, assuming you get the property at the right price. Another advantage is that the rental property could produce what we call "positive cash flow," when your rental income exceeds your actual out-of-pocket expenses. However, be aware this is taxable income. The ideal situation is to have positive cash flow and a tax loss (produced by depreciation). Some common tax write-offs include mortgage interest and property taxes, utilities, insurance, supplies, condo fees, H.O. A. dues, professional fees, travel expenses, and repairs and improvements. Remember repairs maintain or keep your property in good condition and improvements add value to the property, so they are deducted differently. Also be aware of the 14 day or 10% personal usage rule.

Disadvantages:
Property values can depreciate, and that can lead to being "under water" with the mortgage on the property. Also, just as we had positive cash flow, we could have negative cash flow when actual out-of-pocket expenses exceed the rental income and we have to dig into our own pockets to cover the difference. One of the key disadvantages of rental properties is that they often don't provide you with current tax loss. We have what is a called passive and active participation in real estate. Additionally, when you sell the rental you may be subject to depreciation recapture rules.

Rental properties can be your tax friend or enemy. You need to consult with your tax adviser as to what's right for you.

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