Section 8 Allowable Deductions for Landlords

The Housing Choice Voucher Program, commonly known as Section 8, facilitates private landlords renting to low-income tenants. While the program involves housing authority agreements and inspections, the tax implications for a landlord are nearly identical to those for any residential rental property owner. Participating in the program does not unlock special tax deductions, but it also does not prevent a landlord from claiming all the standard expenses associated with owning and managing a rental property.

Common Operating Expense Deductions

Landlords can deduct numerous ordinary and necessary expenses paid during the year to manage and maintain their rental property. A primary deduction is for mortgage interest paid on the loan used to acquire the property, which is reported to the landlord by their lender on Form 1098. Property taxes assessed by local governments are another fully deductible expense.

Other common deductions include:

• Insurance premiums for policies covering fire, theft, and liability.
• Utilities paid by the landlord, such as water, gas, or electricity. If a tenant reimburses these costs, the reimbursement is included as rental income.
• Fees paid to property management companies.
• Advertising costs to find tenants.
• Expenses for routine maintenance like landscaping, snow removal, and pest control.
• Legal and professional services, such as fees paid to an accountant for tax preparation or a lawyer for drafting a lease.

A repair, such as fixing a leaky pipe or replacing a broken window, keeps the property in its current condition and is fully deductible in the year the cost is incurred. In contrast, an improvement betters, adapts, or restores the property, such as replacing an entire plumbing system. These larger costs must be capitalized and recovered through depreciation.

To simplify this distinction, the IRS offers safe harbor elections. The de minimis safe harbor allows landlords to deduct items that cost up to $2,500 per invoice or item. For larger projects, the Safe Harbor for Small Taxpayers may allow for the immediate deduction of some improvements if the total cost is less than either $10,000 or 2% of the building’s cost basis, whichever is smaller. These elections must be made annually with a timely filed tax return.

Understanding Depreciation as a Deduction

Depreciation is a non-cash deduction that allows landlords to recover the cost of their rental property over its useful life, accounting for gradual wear and tear. While a landlord does not write a check for depreciation, it is a substantial deduction that can significantly reduce taxable rental income. Only the building and its improvements can be depreciated; the land itself is not depreciable because it is not considered to wear out.

The basis for depreciation is the property’s cost basis, which is the purchase price plus certain acquisition costs, minus the allocated value of the land. To determine the land value, a landlord might use the property tax assessor’s valuation or a professional appraisal. For example, if a property was purchased for $300,000 and the land was valued at $50,000, the depreciable basis for the building would be $250,000.

The Internal Revenue Service (IRS) mandates the use of the Modified Accelerated Cost Recovery System (MACRS) for residential rental properties placed in service after 1986. Under this system, residential rental property is depreciated over a recovery period of 27.5 years. This means a landlord deducts a portion of the building’s cost basis each year for that duration.

Using the straight-line method, which is required for residential real estate, the annual depreciation deduction is calculated by dividing the depreciable basis by 27.5. For a property with a $250,000 basis, the annual deduction would be approximately $9,090.

Required Documentation and Recordkeeping

Landlords must maintain thorough and organized records to substantiate all claimed expenses. In the event of an IRS audit, the burden of proof rests on the taxpayer, and without adequate documentation, legitimate deductions can be disallowed, leading to additional taxes and penalties. Records should be kept separately for each rental property to accurately track financial performance.

To support deductions, landlords must retain documents such as:

• Receipts, canceled checks, and invoices for all expenses.
• Bank and credit card statements to corroborate payments.
• A detailed mileage log showing the date, purpose, and miles driven for any travel expenses related to managing the property.

The IRS requires that tax-related records be kept for a minimum of three years from the date the tax return was filed. A seven-year retention period is often recommended, as the IRS can look back further in certain situations. Documents related to the property’s basis, such as the original closing statement and receipts for capital improvements, should be kept for as long as the property is owned, plus at least three years after it is sold.

How to Report Deductions on Your Tax Return

The primary form for reporting income and expenses from a rental property is IRS Form 1040, Schedule E, “Supplemental Income and Loss.” On this schedule, landlords detail their financial activity for the year for each rental property they own. Part I of Schedule E has lines designated for various categories of income and expenses for an organized presentation.

Operating expenses are entered on their respective lines in the “Expenses” section of Schedule E. There are specific lines for items like advertising, insurance, legal and professional fees, repairs, and utilities. If an expense does not fit into a predefined category, it can be listed under “Other” with a brief description.

The deduction for depreciation is handled differently. This non-cash expense is first calculated on Form 4562, “Depreciation and Amortization.” This form is used to determine the correct depreciation amount for the year based on the property’s basis and the 27.5-year recovery period. Once the annual depreciation amount is calculated, the total is then transferred to the designated line for depreciation on Schedule E. The net income or loss from Schedule E is then carried over to the main Form 1040.