Tax Aspects of Renting Your Timeshare
By David H. McClintock, CPA
For TimeSharing Today
The third in a series of four articles that address various timeshare-related tax issues.
Here is a hypothetical Question & Answer exchange on the tax issues pertaining to renting out your timeshare week to others:
- Q: The developer who sold my timeshare week to me said that if I rent it out, I don't have to report the income for income tax purposes. Is that correct?
A: In almost every situation, you are required to report the income on your tax return. The salesperson was undoubtedly referring to the "vacation home" tax rules, which allow you to exclude the rental income if you rent the "home" out for less than 15 days in the year. However, that rule would treat your timeshare as a vacation home for the year only if you and friends and relatives personally use it for at least 15 days during the year in addition to the days it is rented.
If you don't meet both of the 15-day rules (and some other rules that are less likely to apply to timeshares), the income is taxable, just as other income you receive is. In order to have a chance at meeting the rules, an individual must own a minimum of three weeks at a single resort, with at least 15 days used for personal purposes.
- Q: What deductions are allowed as offsets to the rental income?
- A: The most frequent deductions would include your annual maintenance fee, advertising, rental commission, depreciation, property taxes (if you pay them separately from the maintenance fees) and interest expense on your timeshare loan. You should list your rental income and related deductions on Schedule E.
- Q: How do I calculate depreciation?
- A: If this is the first year of ownership, take 3.485% of your cost (the amount you paid for your timeshare) as a depreciation expense. That's based on an IRS table. However, if you have previously used your timeshare for personal purposes (including an exchange or use by friends or family), you must base your depreciation on current value - which means resale value - as of the date you convert to rental use. Again, you would calculate the depreciation at 3.485% of that amount. Assume the cost or value to use for depreciation is $5,000. The first year's deduction, based on an IRS table, should normally be 3.485% of that amount, or $174.25.
- Q: Suppose my expenses exceed the rental income. Are rental losses permitted as deductions on a tax return?
- A: Unfortunately, there is a tax rule that would just about eliminate any chance of your claiming a tax loss for renting your week. A special section of the Income Tax Regulations prohibits treating your loss as a "rental loss" if the average rental period for a particular tenant is seven days or less. Since you would rent your single week for seven days or less, this rule means that your loss is not a rental loss.
- Q: So what does that mean to me?
- A: Losses from passive activities (where you are not actively managing the business on a daily basis) are generally not deductible. There is an exception that allows deductions of rental losses in certain circumstances. But the rule cited in the preceding paragraph treats your loss as other than a rental loss. Therefore, it is not deductible. Many tax professionals miss this rule.
- Q: I'm not sure I believe that my loss is not deductible. Can you tell me where my tax advisor can find this rule?
- A: Your tax advisor can review Section 1.469-1T(e)(3)(ii)(A) of the Temporary Income Tax Regulations. This regulation is also referred to in IRS Letter Ruling #9505002, which gives an indication of the IRS position on this issue as it relates to timeshares, as discussed above.
- Q: What if I own multiple weeks at a single resort?
- A: If you own, say, four weeks at a single resort, IRS would likely look at your ownership as a single property for tax purposes. If you use three of those weeks for personal purposes in a particular year and rent the fourth week, the rental income should be treated as discussed above. Even if you rent multiple weeks, those rules would still be applicable. However, if you regularly rent out multiple weeks every year and the average stay by your renters is longer than seven days in a given year, you might be able to deduct your losses for that year as rental activity losses.
- Q: What is required in order for the losses from multiple week rentals to be deductible?
A: In addition to having an average rental period longer than seven days, all of the following must apply:
- You don't use the property for more than the greater of 14 days or10% of the rental days during the year.
- You must "actively participate" in the rental operations. Examples of acceptable activity might include advertising, approving who the renter will be, deciding how much rent to charge and determining the wording of the rental agreement. But if, for example, you own Marriott weeks and you ask Marriott to rent the weeks for you, you would not be able to pass thistest.
- Your adjusted gross income must be under $100,000. Otherwise your deduction might be limited.
- Q: It sounds as though it will be a rare situation where a timeshare rental loss would be deductible.
- A: Yes, it would be very rare.
- Q: What do I do if the rental agency gives me a Form 1099 at the end of the year reporting the rental income to the IRS?
- A: If you believe the income should be reported, show it on schedule E and claim your legitimate expenses against it. If you don't show the income on your return, it's likely that the IRS will contact you about the discrepancy between the Form 1099 and your tax return. If you believe the income is not taxable, report the income on a schedule attached to your return. You would report the income as "Rental income reported on Form 1099." Then on the next line you might show the same amount as "Income not reportable because the taxpayer rented this vacation property for less than 15 days during the year." The net of the two numbers would be zero.
- Q: Where on my tax return would I reference this schedule?
- A: There are two possibilities. My favorite, assuming you have no other miscellaneous income, would be to insert a zero on the line for "Other Income" (line 21 on the 2005 Form 1040) with a note indicating "See attached schedule." Others would suggest omitting the schedule and showing the same information on the rental income form (Schedule E). However, I don't believe Schedule E is the proper place to show it if you are taking the position that it is not taxable rental income.
- Q: I keep hearing that if I donate the use of my week to a charity, I'll end up with more cash in my pocket than if I rent. Is that true?
- A: No. As I discuss in a related tax article, donating the use of your week to charity (versus donating your ownership of the timeshare unit) does not entitle you to a charitable tax deduction. Thus, you'll have more cash in your pocket by renting your week for as much as you can get for the week.
Rental income from timeshares is probably taxable in most situations. The income should be reported on schedule E and offset by allowable deductions. Losses from renting your timeshares will normally not be allowable as a tax deduction.
This article does not cover all possible circumstances associated with rental of timeshares. Further, the tax results suggested herein may not be applicable in all circumstances. So always consult your tax advisor before deciding how to treat an item discussed in this article.
In almost every situation, you are required to report the [rental] income on your tax return.
…if you regularly rent out multiple weeks every year and the average stay by your renters is longer than seven days in a given year, you might be able to deduct your losses for that yearas rental activity losses.
Unfortunately, there is a tax rule that would just about eliminate anychance of your claiming a tax loss for renting your week.