Owner Occupied Rental Property- deduction loss

The personal part of property taxes and mortgage interest goes on on Schedule A. The business part of these items goes on Schedule E which you deduct against your rental income. So if your Schedule A deductions (for just 1 of the 4 units) are smaller than the standard deduction, you're only losing part of the total property taxes and mortgage interest. But then again, you'll get the 250K/500K exemption when you sell your flat (but just on the unit you own if I'm not mistaken).

But then you have to report your own rent as income, and pay tax on it (or at least on the part that exceeds the property tax).

I don't know if you can buy the part you live in for cash, and apply the full mortgage to the rental part.

Seth

Is this really required?

This sounds like a good idea, but don't know if they allow it. In a TIC you buy a fraction of the building (say 1/4), so maybe it is doable, but there may be local laws to look at.

On

If that's the way he sets it up, those are the rules he has to comply with.

It can be done on an accounting basis alone. If the place will cost $200,000 and he will use 25% as his personal residence, he could pay

25% down. That would represent payment for his personal portion, and the rest could be applied to the business portion.

Stu

The property taxes are clarly for the entire building.

If it were purchased with a 100% mortgage, then the mortgage applies to the entire building.

But suppose he puts 20% down, and lives in one of the six units. Can he claim the 16.67% for his unit was paid in cash, and the 83.33% for the other units was 3.33% cash and 80% mortgage?

Seth

That is the question. Though I have a degree in accounting, I am rusty as I no longer work in accounting. My guess it there is no way you can make that election. Why would the IRS possibly allow that? You are buying one entity, and to allocate expense in that way would not be allowed.

I'm allocating 1/6 of the cost to each of the six identical units. I'm choosing to pay for my home with cash, and borrow money to buy the rental units.

Seth

With separate properties, each with a dedicated use, there is no need to allocate anything. But a single property with mixed use requires allocation. You are using the word "choosing" to mean "allocate", so let's just stick with "allocate".

Allocation for tax purposes between business and personal use of a building is usually based on square footage, or number of rooms or units.

But you are trying to "allocate" between business and personal use based on ... business and personal use! This is not a meaningful allocation for tax purposes, and I doubt anyone would find it reasonable in a tax return.

-Mark Bole

,

You don't have such a choice available to you. What makes you think that you do?

Your concern is completely unfounded, it is the other way around -- you are never worse off, and can often be better off, being able to allocate part of your mortgage interest and property tax expense to a rental activity. (Not taking into account Schedule A limitations, passive loss limitations, AMT, etc -- those are beyond the scope of my reply).

This is because the standard deduction is a *floor* amount: it never hurts you, it can only help. If this suddenly makes sense, you can stop here, otherwise read on. You may even want to create a spreadsheet and plug in some actual values if it still isn't clear.

Here's the math. Let:

• M&PT = total mortgage interest plus property tax

• Alloc = percent personal use (e.g. 25% for 1 unit out of 4, or 100% for a owner-occupied personal residence)

• Other = all other Schedule A deductions (income tax, charity, etc)

• StdD = standard deduction (,450 for 2008)

Assume for simplicity no other deductions or expenses.

Your question becomes: does Alloc < 100% ever result in a total deduction which is less than the one when Alloc = 100%, all other values being held the same?

Here is your total deduction:

Max( StdD, (Alloc*M&PT + Other) ) + (1 - Alloc)*M&PT

The first term, Max(...), represents Schedule A, the second term represents Schedule E.

Distributing second term within the Max() function,

= Max( StdD + (1 - Alloc)*M&PT, (Alloc*M&PT + Other) + (1 - Alloc)*M&PT )

Further simplifying,

= Max( StdD + (1 - Alloc)*M&PT, Other + M&PT )

Now, if if Alloc = 100%, this becomes Max(StdD, Other+M&PT), which is the typical Schedule A-only situation. As soon as you drop Alloc below

100%, the first term in Max(...) can only get larger, and the second term remains unchanged, so the result can only be the same or larger.

-Mark Bole

Seth wrote: ...

How are you going to get an unencumbered title for the one unit of a multiplex to demonstrate that it, and it alone, is not mortgaged while the other units are? Ain't a-gonna' happen methinks...

My point is that if my personal allocated % is below the standard deduction, I still have to keep that interest and property tax allocated to personal and it is lost since I am taking the standard deduction.

Assuming I have no other personal Sched A deductions: If, for example, I have 25% for personal use, and 25% of int+prop taxes is less than standard deduction, then I am only getting to use

75% of the int+prop tax to get a deduction.

If, for example, I have 25% for personal use, and 25% of int+prop is greater than the standard deduction, then it is a different story and I am getting SOME of that deduction (because I would have gotten the standard anyway).

========================================= MODERATOR'S COMMENT: Please trim unnecessary text from the prior message when responding.

But then wasn't it also "lost" when 100% of it was allocated to personal? The first 25% of the 100% was below the standard deduction, but you didn't seem concerned about "losing" that.

Or, suppose you are allocating 100% to personal, but you buy the property in October so you only have 25% of a normal year's interest to deduct and end up with a standard deduction. Did you "lose" your mortgage interest deduction, even though you deducted *more* than what you paid?

If you want, you can choose to itemize instead of taking the standard deduction, then you will get the "full effect" of the personal portion. But it wouldn't make any sense to do so.

Well, I already did the math for you. In the normal case, you will

*never* deduct an amount less than the total of your mortgage and property tax, whether it is 100% personal, or part personal-part rental. If you don't agree, why not provide an example? On the other hand, I can show you examples where by allocating part of your interest to a rental you are actually *better* off -- the opposite of what you are trying to claim!

To bring this back to financial planning, it's analogous to other situations where a "floor" amount kicks in. But it's interesting how people's emotions color the objective situation.

Example 1: unemployment

For most wage earners, if their work-related earnings suddenly drop below a certain level through no fault of their own (such as cutback in hours, or complete job loss), they can receive unemployment compensation from their state government. Once their wages rise back above the threshold level, they no longer receive unemployment. Would you say most full-time wage earners are "losing" their unemployment benefits?

Example 2: opportunity cost

Let's say you can put cash in a risk-free investment paying 3%. But you choose to buy physical gold and hide it in your back yard instead. Suppose the gold goes up 10%. Would you say you are "losing" the first

3% of that gain because you could have had it without taking a chance and buying the gold?

Example 3: opportunity cost

Let's say you can put cash in a risk-free investment paying 3%. But you choose to buy a house to live in instead. Suppose your equity in your house goes down 5%. Would you say you are "losing" 5%, or 8%?

-Mark Bole