I purchased a rental property in 2021 which needed major renovations. Those renovations are still underway, and as such the property was not rented or available for rent at any time in 2021.
Therefore you have absolutely nothing to report on SCH E on your 2021 tax return, concerning this property. It's basically considered a 2nd home. The only deductions you can take are mortgage interest and property taxes paid in 2021. They are a SCH A itemized deduction.
1. My understanding is I will not start depreciation until the renovations are done this year, even for expenses incurred last year. Is that accurate?
Somewhat correct. Depreciation starts on the date the property is placed "in service". It doesn't matter when the renovations are completed. They could be completed in 2022, but if the property is not placed "in service" untill 2023, then you would have absolutely nothing to report on your 2022 SCH E tax return either.
2. How am I supposed to report non-renovation expenses (utility bills, interest payments) for 2021? When I indicate 0 "fair rented days" and no rental/attempted rental in 2021 to Turbotax, it tells me I do not need to report the property and deletes the form. Do I input something different, or report these expenses elsewhere?
Again, your only deductible expenses for 2021 are mortgage interest and property taxes. That's it..... and those are SCH A itemized deductions. No other expenses are deductible anywhere on your tax return. Assuming this is the only property you own that will eventually be a rental, you will not be filing SCH E at all with your 2021 tax return.
Now don't worry about things like your sales expenses/closing costs. You will be able to claim those in the tax year the property is placed in service, regardless of what tax year you actually purchased the property. So make absolutely certain you keep your HUD-1 settlement statement and all other paperwork you received at the closing. I can guarantee you that you *WILL* need it when you make this property available for rent.
Please print out the below, as you will need it next year, assuming you will be renting the property at some point in 2022. If you don't have the below information, chances are your first year figures could be wrong. The program does not really clarify a few things all that well and this results in the wrong information being entered by the tax filer. The below helps clarify things so that hopefully you don't do that.
Note that when dealing with a rental, absolute perfection in that first year is not an option. It's a *must*. Even the tiniest of mistakes can (and will) grow exponentially over time. Then years down the road with you realize the error (usually in the year you sell the property) the cost of fixing it will be expensive.
Rental Property Dates & Numbers That Matter.
Date of Conversion - If this was your primary residence or 2nd home before, then this date is the day AFTER you moved out, or the date you decided to lease the property – whichever is later.
In Service Date - This is the date a renter "could" have moved in. Usually, this date is the day you put the FOR RENT sign in the front yard.
Number of days Rented - the day count for this starts from the first day a renter was contracted to move in, and/or "could" have moved in. That would be your "in service" date or after if you were asked for that. Vacant periods between renters do not count for actual days rented. Please see IRS Publication927 page 17 at https://www.irs.gov/pub/irs-pdf/p527.pdf#en_US_2020_publink1000219175 Read the “Example” in the third column.
Days of Personal Use - This number will be a big fat ZERO. Read the screen. It's asking for the number of days you lived in the property AFTER you converted it to a rental. I seriously doubt (though it is possible) that you lived in the house (or space, if renting a part of your home) as your primary residence, 2nd home, or any other personal use reasons after you converted it to a rental.
Business Use Percentage. 100%. I'll put that in words so there's no doubt I didn't make a typo here. One Hundred Percent. After you converted this property or space to rental use, it was one hundred percent business use. What you used it for prior to the date of conversion doesn't count.
RENTAL PROPERTY ASSETS, MAINTENANCE/CLEANING/REPAIRS DEFINED
Property Improvement.
Property improvements are expenses you incur that Improve, restore, or otherwise “better” the property. Basically, they retain or add value to the property.
Betterments:
Expenses that may result in a betterment to your property include expenses for fixing a pre-existing defect or condition, enlarging or expanding your property, or increasing the capacity, strength, or quality of your property. An example of a pre-existing condition or defect in this context would be something such as foundation repair (slab jacking) or some other, hidden and costly, anomaly.
Restoration:
Expenses that may be for restoration include expenses for replacing a substantial structural part of your property, repairing damage to your property after you properly adjusted the basis of your property as a result of a casualty loss, or rebuilding your property to a like-new condition.
Adaptation:
Expenses that may be for adaptation include expenses for altering your property to a use that isn’t consistent with the intended ordinary use of your property when you began renting the property. Adding a wheelchair ramp would be an example.
Expenses for these types of costs are entered in the Assets/Depreciation section and depreciated over time. Property improvements can be done at any time after your initial purchase of the property. It does not matter if it was your residence or a rental at the time of the improvement. It still adds value to the property.
To be classified as a property improvement, two criteria need to be met:
1) The improvement must become "a material part of" the property. For example, remodeling the bathroom, new cabinets or appliances in the kitchen. New carpet. Replacing that old Central Air unit.
2) The improvement must retain or add "real" value to the property. In other words, when the property is appraised by a qualified, certified, licensed property appraiser, he will appraise it at a higher value, than he would have without the improvements.
There are rules that allow you to just flat-out expense and deduct some property improvements instead of capitalizing and depreciating them, if the total cost of the improvement was less than $2,500. It’s referred to as “safe harbor di-minimis” But depending on the specific situation, this may or may not be beneficial. Just be aware that not every property improvement that cost less than $2,500 qualifies for this. If this interest you, the rules can get complex. So a good place to start reading is on the IRS website at https://www.irs.gov/businesses/small-businesses-self-employed/tangible-property-final-regulations. The stuff on di-minimis starts about one page down.
Cleaning & Maintenance
Those expenses incurred to maintain the rental property and its assets in the usable condition the property and/or asset was designed and intended for. Routine cleaning and maintenance expenses are only deductible if they are incurred while the property is classified as a rental. Cleaning and maintenance expenses incurred in the process of preparing the property for rent for the very first time are not deductible.
Repair
Those expenses incurred to return the property or its assets to the same usable condition they were in, prior to the event that caused the property or asset to be unusable. Repair expenses incurred are only deductible if incurred while the property is classified as a rental. Repair costs incurred in the process of preparing the property for rent for the very first time are not deductible.
Additional clarifications: Painting a room does not qualify as a property improvement. While the paint does become “a material part of” the property, from the perspective of a property appraiser, it doesn’t add “real value” to the property.
However, when you do something like convert the garage into a 3rd bedroom for example, making a 2-bedroom house into a 3-bedroom house adds “real value”. Of course, when you convert the garage to a bedroom, you’re going to paint it. But you will include the cost of painting as a part of the property improvement – not an expense separate from it.
