Rental tax question--property sort of half available

[TeresaB]

Hi all,
I have a tax question. The upstairs of my house is a separate unit and I rent it out. My first batch of tenants were lousy tenants (don't mix family and money y'all). They "moved out" in November but left a ton of stuff in the unit, constantly promising that they were going to get it out that weekend. They finally actually left in May. During this time they paid no rent. I realize I should've taken all their stuff and dumped it on the porch of their new house and rerented it immediately, but they told me they were going to pay the rent for the time they had their stuff there and like a sucker I believed them. Suing them would cause enormous family rifts that aren't worth it. Not looking for advice here, it's just the background.
My question is, should I deduct depreciation etc for those months? I would actually prefer NOT to because I'd rather be able to show a profit on taxes so the IRS doesn't disallow it as a hobby if I'm not making enough money in the future. Because this is a house hack, it helps our finances significantly but it's actually kind of hard to get it to look profitable on a tax return. But I don't want to do anything illegal or honestly even anything where the IRS will argue with me for a long long time even if they decide I'm right.
Last question, the above is based on this "show a profit 3/5 years" rule; if I don't rent the property for 5 years how do they figure this? I think we will want to use the space ourselves before then. On paper we made money in 2018 and lost money in 2019. If we lose money in 2020, make money in 2021, and then close up, will that be a problem?
Thanks!

[bacchi]

Are you trying to run the rental as a business or is it an investment?

Regardless, it does sound like the rental was used for family when they were using it as a storage unit and the expenses should be considered personal expenses. Storing a tenant's possessions in the rental unit for that long would be very unusual.

[Papa bear]

I’ve never heard of a true rental property ever being subject to the hobby vs business issue.   Lots of rentals take paper losses year after year due to non cash expenses without issue. 

I’m not a tax attorney, but I did stay at a holiday inn express last night. 


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[SailingOnASmallSailboat]

I’ve never heard of a true rental property ever being subject to the hobby vs business issue.   Lots of rentals take paper losses year after year due to non cash expenses without issue. 

I’m not a tax attorney, but I did stay at a holiday inn express last night. 


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This made me laugh. Thanks.

[TeresaB]

Are you trying to run the rental as a business or is it an investment?

Neither really.... Our house is just a little too big for our family right now so I thought I'd get someone to help me pay the mortgage. As the kids get bigger we'll want the extra space. Thought about doing it totally under the table but decided to do the right thing by the IRS.

Regardless, it does sound like the rental was used for family when they were using it as a storage unit and the expenses should be considered personal expenses. Storing a tenant's possessions in the rental unit for that long would be very unusual.

Awesome. Thank you!

I’ve never heard of a true rental property ever being subject to the hobby vs business issue.   Lots of rentals take paper losses year after year due to non cash expenses without issue. 

I’m not a tax attorney, but I did stay at a holiday inn express last night. 


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This is reassuring! Thanks! I thought the IRS could come in and decide that you were not trying to make a profit if you weren't succeeding in doing so (which seems like it overestimates the world's competency, but I digress).

[cchrissyy]

have you ever filled out tax forms with the rental income and expenses?
is it schedule E?

if yes, forget whatever you heard about hobby vs business. that issue is for self employed people on schedule C.

[bacchi]

Yeah, what cchrissyy wrote. ^^

If it's an airbnb, then it might be a Schedule C business.* It's also a Schedule C business if you're a realtor and put a lot of work into managing rentals.

Neither sounds like it applies, in which case it's a Schedule E investment ("From rental real estate, royalties, partnerships"). You can run a loss for years, and many people do, because of the depreciation.



* https://www.irs.gov/pub/irs-pdf/i8582.pdf -- <7 day rental period exception

[TeresaB]

Yes I did file it on schedule E. This is what I was worried about:
https://www.irs.gov/publications/p527#en_US_2019_publink1000219164

Not Rented for Profit
If you don’t rent your property to make a profit, you can’t deduct rental expenses in excess of the amount of your rental income. You can’t deduct a loss or carry forward to the next year any rental expenses that are more than your rental income for the year.

Where to report.
Report your not-for-profit rental income on Schedule 1 (Form 1040 or 1040-SR), line 8, or Form 1040-NR, line 21. If you itemize your deductions, include your mortgage interest and mortgage insurance premiums (if you use the property as your main home or second home), real estate taxes, and casualty losses from your not-for-profit rental activity when figuring the amount you can deduct on Schedule A.

Presumption of profit. If your rental income is more than your rental expenses for at least 3 years out of a period of 5 consecutive years, you are presumed to be renting your property to make a profit.
Postponing decision. If you are starting your rental activity and don’t have 3 years showing a profit, you can elect to have the presumption made after you have the 5 years of experience required by the test. You may choose to postpone the decision of whether the rental is for profit by filing Form 5213. You must file Form 5213 within 3 years after the due date of your return (determined without extensions) for the year in which you first carried on the activity or, if earlier, within 60 days after receiving written notice from the Internal Revenue Service proposing to disallow deductions attributable to the activity.
More information. For more information about the rules for an activity not engaged in for profit, see Not-for-Profit Activities in chapter 1 of Pub. 535.

[Catbert]

^^^^  But that's for when you're "renting" to your grandma for $100 a month when fair market rent is $1200 and then you're trying to take 10K in depreciation.

I have several rental properties and after depreciation they may show a loss for several years after purchase (even while putting $$ in my pocket every month).  Never been a problem or raised an inquiry from IRS.

[TeresaB]

Gotcha! Thanks! The rent is totally defensible for the area so I'll stop worrying about this.