With the rise of short-term rental platforms such as Airbnb, VRBO, Bookings.com, and others, many people are considering owning and operating short-term rental properties as a source of income. However, it is important to understand the tax implications of operating a short-term rental business.
Passive vs. Non-Passive Activity
By default, traditional long-term rental properties are considered passive activities. However, short-term rental properties are not considered rental activities if they meet one of the following tests:
- The average length of customer use is seven days or less
- The average length of customer use is 30 days or less, and significant personal services are provided by the owner or on behalf of the owner in connection with making the property available for use by customers
If the owner materially participates in the short-term rental business and has losses from it, they can use these losses to offset non-passive income (such as salary from a W-2 job) without qualifying as a real estate professional. To demonstrate material participation, the owner must meet one of seven tests, with the most common being:
- Participating in the activity for more than 500 hours during the year
- The owner’s activity constitutes substantially all of the participation in the activity (including non-owner activity)
- Participating in the activity for more than 100 hours during the taxable year and the owner’s participation is not less than the participation of any other individual
It is worth noting that the time each spouse spends on short-term rentals can be combined to meet the material participation tests, and unlike the real estate professional status, the owner does not have to spend 750 hours and more than half their total time on the activity.
Considerations for Renting Your Primary Residence or Vacation Home
For the purposes of this section, we assume that you or your relatives stay at your vacation home for the greater of 14 days a year or 10% of the days rented.
If you rent out your primary residence or vacation home for 14 days or less throughout the year, you do not have to pay taxes on the income and cannot deduct your expenses. However, if you rent your property for more than 15 days, you must report the income on Schedule E of your tax return. Your expenses are only deductible to the extent of your income, and any remaining expenses will be carried forward to offset income from this activity in future years.
In conclusion, short-term rental properties come with unique tax implications and it is important to understand these before embarking on this venture. It may also be wise to seek the advice of a tax professional to ensure that you are following all applicable tax laws and regulations.
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