It may sound straightforward and simple to report your rental income from your rental properties. However, this might not really be the case all the time. The definition of the IRS of rental income might be much broader than what property owners know. This is because of these misunderstandings that you might even up with more expenses than necessary if it doesn’t get covered by the IRS audit.
A Quick Definition of Rental Income
Rental income refers to any payment received for the occupation or use of your property. Aside from the usual rent payment, rental income may also include the following:
- Amounts paid for lease cancellation – When the tenant pays a fee for lease cancellation, this amount will be considered as rent.
- Advance rent – It pertains to any amount that is received prior to the rental period that it covers.
- Expenses paid by the tenant – When the tenant pays any expenses, like the bill for garbage removal even if the tenant is not required to do so as stated in the lease, these payments are considered income. You can deduct any expenses paid in your behalf.
- Services or property – If you receive services or property as rent instead of money, the services or property’s fair market value will be considered as rental income. If services have been provided at the specified or agreed upon price, this price will generally represent the services’ fair market value.
Any of these described rents should be added to your rental income in the particular year when you receive it, whatever accounting method you use or no matter the period that the rent covers.
How to Record Security Deposits
Security deposits should never be added to your income if you still need to return it when the lease ends.
- Damaged property – If you keep all or part of the security deposit since the tenant damaged your property and there are repairs that should be made, you have to deduct the amount of repair expenses by the amount of deposit retained in order to cover these expenses.
- Breached lease – If you will keep a certain amount of the deposit since the tenant breached the lease, you need to include this amount in your income for that year when the lease got broken.
- Final month rent – In case you have plans to use the security deposit as the final month rent of the tenant, you need to include this money as income upon receiving it as opposed to applying this to the rent for the previous month. This amount is what you can consider as advance rent.
Seek Professional Advice
It is easy to see that there are a lot of twists and turns involved on how you should be reporting your rental income for the purpose of taxes. This is the reason why it is always best that you seek the advice of a professional tax advisor. This is the best way to make sure that your rental income is reported properly so you can avoid any penalties for underreporting and keep yourself safe from incurring interest.