Is Land Tax Deductible on Investment Property?

Investing in land is like investing in rental properties. Any costs incurred to initially acquire land, including closing and up-front financing costs, are capitalized as basis of the investment and are not deductible at the time of purchase. 

However, this doesn’t mean there aren’t deductions available for land investments. Since raw land typically does not produce income, it is a loss-making investment when looking purely at income matched against expenses. Of course, if the land appreciates, it can become a profitable investment.

In this article, we’ll discuss ways to deduct expenses from land investments.

Vacant or Improved Land

There are two types of land — vacant and improved. Vacant land is straightforward — it will continue to generate a loss while incurring expenses. 

Land expenses include:

• Maintenance (mowing the grass, trimming trees, Firewise landscaping, etc.)
• Property taxes
• Insurance
• Any financing cost

These costs are expenses rather than capital costs since they do not improve the land.

Note that land generally cannot be leveraged, and thus financing can be difficult to come by.

Improved land is property with added utility. This might be a building, a roadway, a sidewalk, or a parking lot. All add value to the property. Because these are improvements, they can be capitalized. This falls under Code Section 266 (§266 Election).

With added value comes additional taxation. The property will be assessed at a higher value, which generates a larger property tax bill. Note that many states have property assessment limits on annual increases. These percent increases are usually in the low single digits.

If the property owner's intention is not to improve the property, they should be careful about minor changes such as moving dirt around or subdividing the property. The property may appear to be an inventory for development rather than an investment, which raises the question, is the owner a dealer or an investor? If the owner is a dealer, the property is taxed at ordinary income rates instead of long-term capital gains rates.

Tax Treatment of Property Taxes

As mentioned earlier, land is a negative income business. Income does not offset expenses. That doesn't mean those expenses can't be declared on the investor's tax return. Land expenses are itemized and go on Schedule E. These expenses can offset income from other investment properties.

While a land investment is not directly tax deductible, expenses incurred from the investment are tax deductible. Investors should understand the impact of land improvements on their property taxes, whether intentional or not. Working with an experienced real estate accountant can help investors navigate if the land is being improved and what any potential tax impact might be.