Interest Deduction For Rental Property?
My brother recently called to tell me his accountant let him know that because he made more than $150K/yr that the mortgage interest on his rental property was not tax deductible. Can this be true? Just last week I closed on my first property (13 unit mixed use). In the months of due diligence, prep work, etc, I never heard this. Any ideas? Thank you.
Your information is slightly flawed.
Mortgage interest paid on a rental property is an expense taken on Schedule E along with other operating expenses such as property taxes, hazard insurance, maintenance and repair costs, property management fees, etc. All of these expenses reduce the taxable rental income dollar-for-dollar.
When you subtract all your rental expenses from your rental income, hopefully you have a positive cash flow. The tax codes also allow you to take a depreciation expense. Depreciation is often called a phantom expense because it does not take any money out of your pocket. The depreciation expense is also subtracted from your rental income.
If, when the dust settles, you have more expenses (including depreciation) than you have income, then you have a net passive loss. The tax codes do allow you to use up to $25K in net passive losses to offset other ordinary income. This passive loss allowance is phased out for incomes between $100K and $150K. At $150K the passive loss allowance against active income disappears completely. At this point, your passive losses are suspended and carried forward to the next tax year.
If suspended passive losses are never used to offset ordinary income, they are added to your basis when the property is sold (reducing your taxable capital gain).