How to Prorate Expenses When You Use a Property Personally and as a Rental
In our last blog post, we covered the differences between direct and proratable expenses for people who rent out part of their home or have a vacation home that is mixed personal and rental use. Now that you have a sense of which expenses you need to prorate, this post is going to explain how to calculate the proration.
Prorating Expenses When You Rent Out an Entire Home
If you rent out your entire home, you need to calculate the portion of time the home is rented compared to the total amount of time the property was in use.
For instance, if you rented out a vacation home for 20 days during the year and it was used 100 days total, the home was a rental for 20% of the time, and by extension, you can write off 20% of the proratable expenses explained above.
If you paid $2,000 in property tax, for example, you could write off $400 as a business expense. That amount would be subtracted from your rental income, helping to reduce your taxable income.
Using an Alternative Proration Method
Alternatively, you can simply divide the rental days by the total number of days in the year, but this reduces the value of your deductions. To continue with the above example, if you rented out the home for 20 days, you could divide 20 by 365, giving you a prorating rate of 5.5%. Using this rate, you can deduct just $110 of your $2000 property tax bill.
This method is only advantageous in rare cases where you have a rental loss and you itemize your personal deductions. Talk with your accountant to see if this method is right for your situation.
Calculating Personal Use Day
As you can see, the math is pretty straightforward, but calculating personal use days can be a bit complicated. Any days that you use the vacation home are considered personal use days, but you also have to count the following as personal use days:
- Days your family uses the home.
- Days anyone stays in your home for less than the fair rental price.
- Days someone stays in the home in exchange for letting you stay in their home.
For these purposes, family includes your siblings, half-siblings, parents, grandparents, children, and grandchildren, and you must count the time they spend in the home as personal use days unless the home is their main residence and they pay fair market rent. If your aunts, uncles, cousins, or other distant relatives use the home, you can count those days as rental days as long as they pay fair market rent.
To get a sense of how this process works, check out this example. Sarah has a vacation home, and during the year, it has the following guests.
- Sarah stays in the home for 14 days.
- Sarah’s children stay in the home for 20 days.
- Sarah’s aunt stays in the home for a week and pays a modest sum for utilities.
- Sarah’s co-worker stays in the home for two days at less than fair market value.
- Sarah’s cousin stays in the home for 14 days, paying fair market value.
- Sarah rents out the home to guests from VRBO and AirBnB for 100 days.
In this situation, Sarah’s 14 days, her children’s 20 days, her aunt’s 7 days, and her co-worker’s two days count as personal use days, and the time the home was used by the cousins and the renters from the vacation rental sites count as vacation days. That works out to 43 personal days and 114 rental days.
To calculate how you need to prorate expenses on this property, you divide the 114 rental days by the total 157 days the property was in use. 114/157=73%. This means that Sarah can write off 73% of the expenses related to the whole home, but again, she can write off the entirety of expenses related directly to her rental activities.
Note that days you work on the property do not count as personal use days. For instance, if you spend three days fixing and cleaning your vacation rental property, you do not have to count those days as personal use days as long as you work at least eight hours a day.
Prorating Expenses for Renting Out Part of Your Home
If you only rent out part of your home, the proration process is slightly different. Once again, you need to calculate the amount of time the property was used for personal and rental use, and then, you need to determine the amount of space the rental takes up in your home. Here are the steps:
1). Calculate the Time the Area Was Rented
If you rent out a bedroom in your home for the entire year, it is used 100% of the time as a rental. If you rent it out for 200 days and use it for personal use the rest of the time, you divide 200 by 365 to determine that the room was a rental 55% of the time.
2). Determine the Portion of the Home That Was Rented
To determine how much space the room takes up in your home, divide the square footage of the room by the total square footage of the home. For example, if the room is 200 square feet and your home is 2000 square feet, the room takes up 10% of the home.
3). Figure Out the Proration Amount
You will use both of these numbers to calculate your prorated deductions. For instance, say that you spent $1200 on property insurance for the year. You rented out a room for 55% of the year and it takes up 10% of your home.
To find your deduction, you need to multiply the expense by both of these numbers like so: $1200 x .57 x .10 = $68.40. You can write off that portion of your insurance payment as a rental expense.
Get Help With Your Rental Property Taxes
Dealing with rental property income and deductions can be complicated, especially when you have a property with mixed personal and rental use. Missing deductions will increase your tax liability and cost you a lot of money in the long run, but underreporting your income can lead to fines and penalties.
To get help with your rental income, contact us today. At My Online Accountant, we specialize in providing accounting services for people who run real estate-related businesses, and we have an in-depth understanding of the nuanced tax rules that apply to these situations.
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