There are over 6.6 million vacation homes in the U.S., and the Lake of the Ozarks provides one of the best, lowest taxed, lowest closing costs, and most affordable opportunities to get into this growing market. This year I have sold homes to buyers from Texas, Florida, all over the Midwest and many other states as well. Some have bought for personal use, others as rentals, and some for future retirement homes.
The tax rules on vacation homes are the same as they are for your primary residence, meaning you get to deduct the mortgage interest expense and property taxes. To illustrate, if the principal and interest portion of your mortgage and property taxes amount to $1,000 a month (P&I payment + your annual tax bill/12), the federal government’s subsidy amounts to $330, assuming you’re in the 33 percent tax bracket. Thus, the tax-savings effectively reduces the out-of-pocket cost to $670 a month ($1000 – $330 = $670.) Not a bad deal at all.
When you use the home as a rental and as a vacation home for yourself, it can become interesting on your tax return. If you own a vacation home and you don’t rent it out, the rules are simple, and like your primary residence, you get to deduct the interest you paid on the mortgage and the real estate taxes on the property. You can even rent the property 14 days or less and you don’t even have to report that income to the IRS. Simple enough.
Where it gets more complicated is when you rent the home out for more than 14 days. You get to deduct the mortgage interest, the real estate taxes, AND items such as advertising, cleaning and maintenance, utilities, insurance, taxes, points, commissions for sales and rentals, tax return preparation fees, travel expenses, rental payments, repairs, and local transportation expenses. You also get to deduct depreciation (also called cost recovery). You also get to depreciate the major appliances on an accelerated schedule, 5 or 7 years versus 27.5 for residential real estate.
The real tricky part is when you rent a property and use it as your vacation home. If you do, the IRS requires you to split the interest paid on mortgage deduction and the property taxes between Schedule E (the form for rental income and expense) and Schedule A (the itemized deductions form) and you generally must divide your total expenses between the rental use and the personal use based on the number of days used for each purpose. However, you will not be able to deduct your rental expense in excess of your gross rental income. You need to keep your personal use days fewer than 15 days, or the rule says less than 10% of the time it has been rented out. In other words, in order to get more than 15 days, you’d have to have in excess of 150 (actually 160) days of rental business and that is very difficult to do given the season at the Lake of the Ozarks.
TIP: Days you spend working on, repairing, or remodeling the property are not considered a personal use day. Keep good documentation and receipts and you can avoid running up the number of days of personal use on your property. This will avoid having to split your expenses between personal use and rental time, allowing you to maximize your deductions. Aim for 15 days or less of personal use, and you get the full tax deductions.If you have any questions buying or selling vacation homes or insuring, financing, or anything to do with Lake real estate, call John Garrett for expert advice. I am always available at 573-480-6420.