Can You Deduct Your Own Labor on Rental Property?
As a landlord, the tax treatment for your own labor differs from other expenses. Learn the principles for handling material costs when you do the work yourself.
Owning a rental property involves many financial responsibilities, including how to properly account for expenses related to its upkeep. Many landlords who are hands-on with maintenance often question how their own work impacts their tax filings. Understanding the tax implications of performing your own labor versus hiring outside help can be confusing. This article provides clarity on the tax rules that govern personal labor, material costs, and the differences between property expenditures.
The Nondeductible Value of Personal Labor
When you invest your own time and effort into maintaining or improving your rental property, you contribute what is often called “sweat equity.” While this work adds real value, the Internal Revenue Service (IRS) does not permit you to assign a monetary value to your own labor and then deduct it as a business expense. The principle behind this rule is that a tax deduction must correspond to an actual economic outlay—a payment you have made.
Since you do not pay yourself a wage for the work, there is no expense to deduct. This concept applies regardless of the complexity or scale of the task, from simple repairs to major renovations. You cannot, for instance, calculate what a professional would have charged for the same job and claim that amount on your tax return.
Allowable Deductions for Material Costs
While the value of your labor is not deductible, the tangible items you purchase to complete a project are. Any money you spend on materials, supplies, and parts for the upkeep of your rental property qualifies as a business expense. These costs represent actual cash outlays and are therefore treated differently from the value of your time. Keeping meticulous records of these purchases is important for substantiating your deductions, so you should retain all receipts, invoices, and credit card statements.
Examples of deductible material costs include:
- Lumber for framing or drywall to patch a hole
- Plumbing fixtures or electrical components
- Paint, brushes, and cleaning supplies
- The cost of renting specific tools needed for a job
Distinguishing Between Repairs and Improvements
After establishing that material costs are deductible, you must correctly classify the nature of the work performed. This classification is important because it determines the timing of your deduction. The IRS draws a line between “repairs” and “improvements,” and each is treated differently for tax purposes.
A repair is an action taken to keep the property in good operating condition. Repairs do not add significant value to the property or extend its life. The costs of materials for repairs are current operating expenses, meaning you can deduct the full cost in the same tax year you incur the expense.
Examples of repairs include:
- Fixing a leaky faucet
- Replacing a broken windowpane
- Patching a small hole in the wall
- Fixing a malfunctioning appliance
An improvement is an expenditure that betters, adapts, or restores the property. Improvements add value, prolong useful life, or adapt it to a new use. The material costs for these projects are not fully deductible in the current year and instead are capitalized.
Examples of improvements include:
- Remodeling a kitchen
- Replacing an entire roof
- Adding a new deck
- Installing a new heating and air conditioning system
Capitalizing Costs for Property Improvements
When you incur costs for an improvement, tax rules require you to “capitalize” them rather than expensing them immediately. Capitalizing a cost means you add it to your property’s tax basis. The basis is your investment in the property for tax purposes, starting with the original purchase price.
This increased basis is then recovered over time through a process called depreciation. Depreciation is an annual tax deduction that allows you to expense a portion of the property’s cost over its useful life. For residential rental properties, you depreciate the asset over 27.5 years.
Hiring Others to Perform Labor
The tax treatment changes significantly when you pay someone else to perform work on your rental property. If you hire a third-party contractor, the amount you pay them for their labor is a legitimate business expense. This is because you have made an actual cash payment for their services. The cost of hired labor for a repair is fully deductible in the current year, while labor costs for an improvement are capitalized along with material costs and depreciated over time.
When paying a family member for work, the arrangement must be a formal business transaction and the payment must be reasonable for the services provided to be a valid deduction. This formal arrangement establishes an employer-employee relationship, which means you must comply with all federal and state payroll regulations.
As an employer, you must:
- Withhold Social Security and Medicare taxes from the employee’s pay
- Pay the employer’s share of these taxes
- Handle federal and state income tax withholding
- Pay federal and state unemployment taxes