If a rental property was already placed in service as a rental, but later was vacant for an extended period of time, you can usually continue to deduct depreciation, and other costs including mortgage interest and property taxes. The deciding factor is based on whether the property can legitimately be considered to be “property held for the production of income” under tax code section 212.
A significant factor that has to be considered is the reason why it’s vacant.
- Renovations: If the renovation work on the property is for the purpose of continuing to rent it out, and you clearly have the intent to continue using it as a rental property once it is habitable again, your expenses are still generally deductible while it’s vacant for renovations. This is true even if the renovations span more than a year.
- Unable to find a tenant: If it’s vacant because you’re unable to find a tenant, you can generally still deduct your expenses during that time. But there are reasonable limits to that. In the tax court case Meredith v. Commissioner, 65 T.C. 34, 41 (1975), a taxpayer had a property that remained vacant for multiple years, and the court ruled that the taxpayer hadn’t made a legitimate effort to find tenants, and so their tax deduction as a rental property was disallowed.
- Not trying to find tenants: If you are taking a break from managing the rental and you aren’t making any attempt to find tenants, the property can’t be considered to be held for rental purposes, and so your carrying costs for that time wouldn’t be deductible on your Schedule E.
Held for Investment Purposes
If it’s no longer a rental property (if no attempt is made to find renters), then you can’t continue to deduct the costs as a rental expense.
There may be another option, depending on why it was being held for that time. If it would be considered held for personal use, it wouldn’t qualify for any deductions. If it was held strictly for investment purposes (including waiting for it to appreciate in value), you used to be able to deduct those costs as investment expenses. Under the Tax Cuts and Jobs Act (which is in effect until 2025), you can no longer deduct those expenses, but you can still make an election to capitalize the holding costs by making an election under tax code § 266 and § 1.266-1.
Impact of Personal Use
If you use the property at all for personal use during the same tax year, you do have to be careful of potentially triggering section 280A of the tax code, which limits the deductions you can take if your personal use of a property exceeds certain constraints. If there is an entire tax year in which you don’t have any rental days, then even one day of personal use would eliminate your ability to deduct any expenses on the rental property that year because of stipulations in section 280A(e)(1).
If you did have some rental days during the year, the portion of expenses you can deduct is reduced by the percent of personal use compared to rental use. And you had more than 14 days of personal use, and those personal days are also greater than 10% of the number of rented days, then the property is considered a personal residence under 280A(d), and the consequence is that your deductible expenses are limited to the amount of rental income. If your expenses are limited due to personal use under 280A, the disallowed expenses can be carried forward to potentially offset future taxable income from the same property.
