Acquiring real estate for investment purposes can generate a multitude of benefits. One potential advantage involves the available deductions, including expenses and depreciation.
However, the IRS could red-flag some of those deductions when renting to family members. As such, if you ask yourself, “Can I rent to a family member?” you can. But it’s essential to understand the tax implications of rental/investment real estate versus that targeted for personal use.
If your relative uses the home for more than 14 days a year (or 10% of the total days it is used as a rental at fair market rental rates), the property will be considered a primary residence. The IRS defines this as “personal use.”
However, following these guidelines could help classify the property as a rental versus personal use.
Fair Market Rental Rates
Be sure to charge your family member a rental rate commiserate to a fair market rental rate. You can determine this rate by researching what other rentals in your neighborhood go for. If your relative pays rent that is less than the market rate, the IRS could dub that property a primary residence. This could mean that you lose any deductions connected with that property.
You also need to have proof that you’re charging that family member a fair market rental rate with the following documents:
- A signed lease that outlines all terms, including the monthly rental rate
- In-writing documentation that the rental amount is comparable to what other properties in your area are renting for
- Documentation supporting the monthly rent you receive, like bank statements
“Good Tenant” Discounts
You could be nice to your relatives by giving them a hefty discount to rent your property. Again, this is fine as long as you don’t plan to take certain rental deductions. If the discount you provide is lower than the fair-market rental rate, the IRS could consider the property for personal use.
This doesn’t mean you can’t give your family members any rental discounts. While no set discount amount is allowed, it is best to consult with a financial advisor to see whether a small discount on your family member’s rent would impact the fair market rent rules.
Gifts
You might be nice to your mom, who lives on a fixed income. You extend the offer to come and live in your rental property and to pay rent. But rather than offering a “good tenant” discount, you might subsidize mom’s rent with a monetary gift.
Again, it's a nice gesture, especially for someone on a fixed income. But the IRS could deduct your gift from the fair market rent price. This, in turn, could move your property from an investment rental to a personal residence.
Can You Rent to a Family Member?
Yes. You can.
But be aware of the tax implications if you go this route. You might be unable to deduct expenses (other than mortgage interest or taxes) from that property if you don’t incorporate the above guidelines when renting property to family members.
When renting an investment property to a family member, check with a professional tax advisor to understand the tax implications.
This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor.
Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation.
