30.1 Rental Income, Expenses & Conversion Basis

Identify the rental activity and reporting form

An individual generally reports ordinary real-estate rental income and expenses on Schedule E, subject to exceptions such as substantial services to occupants. Providing utilities, trash collection, and ordinary common-area maintenance does not by itself make a landlord a hotel operator. Providing significant services primarily for occupants' convenience, such as maid service during a stay, can change reporting and self-employment-tax analysis. The listing platform used to find tenants does not decide the form.

Keep rental accounting separate for each property. For co-owned property, report the taxpayer's actual share of income and deductions. A share of gross rents is not the same as a share of net profit, and a cash withdrawal from the property's bank account is not itself the measure of taxable rental income.

Receipts that enter rental income

Advance rent generally is included in income when received, even if it covers the next year and even for an accrual-method taxpayer under the rental rules. A payment to cancel a lease also generally is rental income. When a tenant pays the owner's deductible repair bill in place of rent, generally include the payment in rental income and analyze the corresponding expense. Barter is not excluded because the landlord receives services instead of cash.

A genuinely refundable security deposit generally is not income on receipt because the landlord has an obligation to return it. If a deposit is designated to pay the final month's rent, it is advance rent rather than a refundable deposit. If the landlord later keeps some deposit for damage or unpaid rent, analyze inclusion at that time and the separate repair or rent consequences.

Example: A landlord receives $12,000 current rent, $1,000 prepaid January rent, and a $1,500 refundable damage deposit in December 2025. Assuming cash-method reporting and no retention of the deposit, 2025 rental income is $13,000. Including the refundable $1,500 would overstate income; excluding the $1,000 January prepayment would understate it.

Expenses, vacancy, and profit motive

Common rental expenses include advertising, management fees, insurance, interest, real-estate taxes, utilities paid by the owner, repairs, and depreciation. An expenditure must be properly allocated if the property is partly personal. A cash-method landlord generally cannot deduct uncollected rent never included in income, because the unpaid rent has no tax basis.

A property ready and available for rent can be placed in service before the first tenant moves in. Ordinary expenses and depreciation can continue during a genuine temporary vacancy while it remains held for rental. Days available but not actually rented have different significance for the vacation-home allocation rules; do not substitute one rule for the other.

A property not rented for profit does not automatically receive full Schedule E loss treatment. Apply the profit-motive rules and the applicable treatment of income and independently allowable deductions. Renting to a relative below fair rental value can also create personal-use consequences, especially for a dwelling unit.

Repairs versus improvements

An ordinary repair keeps property in efficient operating condition. A capital improvement generally produces a betterment, restoration, or adaptation to a new or different use. Replacing a few damaged shingles can differ from replacing an entire roof. Replacing an entire major building system can require capitalization even when the work is necessary to continue renting.

Elections such as the de minimis safe harbor and the small-taxpayer building safe harbor have their own eligibility and annual requirements. The $2,500 non-AFS de minimis threshold does not permit dividing one integrated $30,000 improvement into artificial invoices. Capitalize qualifying closing costs and acquisition costs, and allocate cost between land and depreciable components.

Residential, commercial, and converted property

The residential classification generally requires at least 80% of gross rental income to come from dwelling units under the statutory definition. Transient-use establishments and mixed-use buildings require careful classification. ADS elections or requirements can change recovery periods. Do not apply a commercial building's 39-year recovery to its separately identified computer merely because both are in one office.

When personal property becomes rental property, depreciation basis generally is the lower of adjusted basis or fair market value at conversion, excluding land. Suppose a former residence has adjusted basis of $300,000, of which $60,000 is land, and conversion-date FMV of $250,000, of which $50,000 is land. The building's depreciation basis is the lower of $240,000 and $200,000, or $200,000. Preserve both original adjusted basis and conversion FMV for later sale gain-or-loss computations. A later sale can have different gain and loss bases; conversion does not create an immediate deductible personal decline in value.

Official references

2025 Publication 527 and Publication 946, checked October 17, 2026.