When can we claim expenditures for rehabbing our rental property?
Can we claim expenditures for rehabbing our rental property when we file our tax return if the property did not sell in the year we paid for the expenses?
During 2019, my spouse and I spent about $30,000 rehabbing our rental property to get it ready to sell. We put on a new roof, painted, redid the kitchen and carpets, and more. The property did not sell in 2019. Do we show this expenditure when we file our tax return, and if so, where? Alternatively, do we add it to our records of the basis of the property and not list it on our tax return until the year when the property is actually sold? In addition, how do we include any expenditures prior to 2019, such as replacing a stairway a few years ago?
Joshua Escalante Troesh, CFP | MBA
It is likely you will have some expenses you can deduct this year, and other expenses that will have to be deducted next year when the property is sold. With real estate, the expenses you are referring to are divided into two categories. (1) Maintenance & repairs and (2) Capital improvements. Maintenance & repairs are things that you do to maintain the current condition of the property, while capital improvements are those that make a substantial improvement to the property.
The Expense Determines Timing of The Deductions
Any maintenance & repair expenses can be deducted in the year your incurred the expense against the rental income, and potentially may be deductible against your other income. Capital improvements, however, must be added to your basis in the property and will be deducted from the capital gains on the property when it's sold.
Painting and new carpets are expenses that will likely be deductible in the current year, while the new roof and the kitchen remodel might be capital improvements (depending on how extensive they were). If you don't have a CPA who is familiar with real estate, you definitely want to get one. Your CPA will tell you which expenses are deductible this year and which are deductible in the future when the property is sold.
Dealing With Prior Year’s Rehab Costs
Capital expenditures from prior years will be deductible from your capital gains in the year you sell the property, presuming you kept good records. Prior years' maintenance & repair expenditures may be lost as deductions to you, depending on your exact circumstances. If you can claim them, you would need to file amended returns for the years the maintenance and repairs occurred.
Like other financial professionals, the cost of the CPA is likely going to be more than paid for through benefits you miss out on by not having the knowledge and expertise. There are also other financial planning and long-term tax planning strategies available to you on which a fiduciary financial adviser can provide guidance.