Summer Home May Pose Risks

Soon millions of Americans will pack up for a few weeks at the beach or the lake. And sometime during the summer, many vacationers will turn to one another and say, “You know, we ought to buy a summer place instead of sinking money into rent every year.”

Thus, they step onto the slippery slope.

A few lucky families have time to use a summer place the whole season. But for most, buying a vacation home means enjoying a few weeks there and spending the rest of the summer living the anxiety-ridden life of the landlord.

I can tell you from hard experience that being a landlord can be miserable. Tenants have no reason to put up with the temperamental appliances, drippy faucets and squeaking hinges that a homeowner might ignore. But some renters can overlook serious maintenance problems the owner would attack instantly.

With a summer rental, you deal with a string of tenants you never get to know. And maintenance problems can snowball in the off-season when no one’s watching.

But if your heart is set on owning your own vacation place, there are a few things to know about the federal tax consequences.

On the expense side, mortgage interest and property taxes can be deducted from your gross income, just as they are with your primary home. If you rent the vacation property for fewer than 15 days a year, there are no other rental-expense deductions, but also no tax on the rental income. Rent it more than that, and the income is taxable, but you can deduct expenses.

To get the most tax benefit from a property rented for 15 days or more, you have to limit your own use to 14 days a year or less, or to no more than 10 percent of the days the home is rented, whichever is greater.

In this case, you deduct all mortgage interest and property taxes, plus expenses such as repairs, maintenance, utilities, insurance and cleaning. You can also claim depreciation on a 27.5-year schedule.

If you use the property yourself for more than 14 days or 10 percent of the rental time, you can deduct all of the mortgage interest and tax but only part of the other expenses.

On the income side, if you rent the house for more than 14 days, the profit is taxed at your income tax rate. If the property loses money, which is common in the first few years, you can carry the loss forward to offset profits in future years.

But the rules for using rental losses to reduce tax on other income are tricky.

To do so, you must not use the house more than 14 days a year, you have to manage the property yourself and your adjusted gross income must be less than $100,000. If you meet these tests, you can use rental losses to offset up to $25,000 in other income per year. That limit decreases to zero when your adjusted gross income rises to $150,000.

Is a rental property a good investment? In much of the country, real estate appreciation and rents aren’t going up very fast, so your profit potential is better if you’re in it for the long term, meaning 10 to 20 years. You can improve the odds by improving the property, but even this probably won’t pay unless you do a lot of the work yourself.

If you’re only looking for an investment, there’s a lot less headache and probably better return in a good stock index fund.