How to property enter the information for a 2-unit home where I live in upper unit and renting out the basement unit?

[yinglam]

Our house has a separately metered basement unit, with separate front and back entrance. So the house is a 2-unit home, where we live upstairs and the 2nd unit in the basement (where we do not have access to) is rented as a vacation home. We rented both units in the past until 2021 and left it as a second home, because we moved out of state. We moved back to the upper unit in 2023 and have been doing work for the basement for renovation. 2025 was when we finally completed the renovation and rented the basement unit for part of the year. I need a tax expert for guidance in how to property filling out the rental property information. In the past it was straight forward because it was rented 100%, both the upper and lower units. Now only the basement unit is rented, but it is part of my home where we live in. When I followed the prompts and answered all the questions, I noticed that all the expenses that we had on the rental unit such as utilities, repairs, renovations that were strictly for the basement unit for the purpose of furnishing as a rental unit ended up diverting to "personal use," which is not accurate. I noticed this when I accidentally put in a higher number of days that we rent the property, TurboTax spits out higher returns for us. How do I make sure all the expenses that we put in for our basement rental is not being diverted into "personal use?"

[PatriciaV]

If this is the first year you are reporting this as a Rental Property, your best option is to add only the basement unit as a rental. This allows you to continue to use the other unit for personal use without complicated allocations. Also, if you convert the upper unit to a rental in the future, you'll simply add it as a new rental property.

In this instance, you would enter only the direct expenses for the current rental unit and do your own allocation calculations for shared expenses. Enter any remaining shared expenses that would apply to your personal residence (like property taxes) under Deductions & Credits >> Your Home in TurboTax. Square footage is the most common method to allocate rental expenses.

Because you used the property as a rental in the past, you will have accumulated depreciation and possibly passive losses from that rental period. You'll need that information from the last tax return when you converted it to a second home (personal use), which should be in the worksheets for that tax year.

When you enter the basement unit for depreciation, TurboTax will ask you about prior depreciation. Look for the passive loss carryovers question under Less Common Situations on the Rental Summary page.

Also remember to add your total renovation costs as a separate asset for depreciation.

Additional Information:

• Where do I enter income and expenses from a rental property?
• What kinds of rental property expenses can I deduct?
• How do I handle capital improvements and depreciation for my rental?

[yinglam]

Thank you for your detailed guide Patricia.  I understand almost all of what you mentioned and was actually looking for ways to fill out my taxes as such.  However, I am terribly confused in how to answer the prompts under the "Rental Property Profile" so that TurboTax is treating the property the way I intended.  Do I select it as a "duplex where I live in part of it," or do I select "single family?"  How do I answer the "days rented" and "days for personal use."  I noticed when I answer the days, it affects the rental expenses deductions by a great deal.  Since we had to do renovation and it took a long time, the basement unit was under construction for majority of the year.  It was on the market for the last few months of the year, but since it was the worst rental season, we didn't get many occupancies.  During the permitting and renovation period, it was clearly not for our personal use, nor on the market for rent.  But I noticed, when I put "zero day" for personal use, TurboTax basically erased all the expenses from rental property losses.  Our renovation cost and expenses to set up the vacation home rental greatly exceeded the income from the short few months.  Please advice how I should answer the rental property profile section to properly set it up the way you described -- ONLY the basement as rental unit, while keeping the upper unit as our primary home for personal use.  As I mentioned in my original question, we had rented out both units prior to us moving back in 2023, so this would not be the first time that we report rental income on this property.  However, this would be the first year that we report the basement as a separate rental unit since 2021 when we stopped renting the property and kept it as a 2nd home.  Do I still need to put in the past depreciation and unused looses for when we rented out the entire house?

[PatriciaV]

Yes, enter the rental unit as a single family rental, not a duplex where you live. This designation should resolve most of the issues you've encountered with personal days. Enter only the actual number of days that you were paid as rental days. If you didn't personally occupy the space at all, enter zero personal days. 

• The IRS defines Personal Use Days as any days that you used the rental space during the period it was available to be rented. If you did not personally occupy the space while it was rented, you would enter zero personal use days. (Personal Use Days generally relate to vacation homes that are rented most of the year but also used for personal vacations.) See IRS Pub 527.

If the unit was listed as available to be rented while you were making renovations, you would report the renovation costs as Rental Expenses. However, any expenses you incurred before you listed the property increase the basis of the property and should be entered as separate Rental Assets, subject to depreciation. (IRS Pub 527 Adjusted Basis)

Because your rental activity was sporadic during the year, you might set the "available to be rented" date as the day you first listed it as a rental property. As long as you didn't stop advertising the unit after that date, consider it to be available through the end of the year.

Since you previously reported this unit as a rental, you will need to include the accumulated depreciation when you set up the unit as a Rental Asset. Allocate the total from the prior period based on the square footage of the basement unit relative to the entire property. As an example, if the basement unit is 1,000 square feet and the total for the property is 2,000 square feet, the basement unit would be allocated 50% of the total prior depreciation (1000/2000 = 0.50 or 50%).

Use this same percentage for shared expenses, like property tax or utilities, that you cannot specifically identify for the basement unit. And, yes, report an allocated amount of any passive losses from previous rental use.

[yinglam]

Thank you very much for your helpful response!  When I entered "zero" days for personal use, TurboTax ends up not allowing any of my rental losses.  However, when I entered some numbers for days of personal use, it starts allowing the rental losses.  Why is that?  As I mentioned, our property was not available to rent until the worst rental season of the year due to the delay in construction.  However, our expenses for the year far exceeds the rental income.  How can we capture and maximize our losses?  

[PatriciaV]

It would be helpful to have a TurboTax ".tax2025" file to research this further. If you would be willing to send us a “diagnostic” file that has your “numbers” but not your personal information, please follow these instructions: 

In TurboTax Online, open your return, go to the black panel on the left side of your program and select Tax Tools. 

1. Then select Tools below Tax Tools.
2. A window will pop up which says Tools Center.
3. On this screen, select Share my file with Agent.
4. You will see a message explaining what the diagnostic copy is.  Click okay through this screen and then you will get a Token number.
5. You may wish to snap a screenshot to post instead of the actual number.
6. Reply to this thread with your Token number (including the dash) and tag (@) the Expert requesting the token from you.
7. Please include any States that are part of your return - this is VERY important.

If you are using TurboTax for Desktop, go to Online in the top menu, then choose "Send Tax File to Agent."

We will then be able to see the same experience you are having. If we are able to determine where entries may be revised, we'll reply here and provide you with further instructions. 

[yinglam]

Hi Patricia,

Per your suggestion, I've "sent the file to agent" from my desktop (see screen shot enclosed).  When you changed the rental property personal use from 20 days to under 14 days, it drastically affects the tax return amounts.  I thought the tax rules says the opposite -- when personal use is MORE than 14 days, rental expenses are not allowed to be deducted.  Please look into it and offer an explanation.

[PatriciaV]

Thank you for the token.  We are looking into the issue and will respond as soon as we have information to share.

[PatriciaV]

We have reviewed the diagnostic copy of your return, specifically for the treatment of rental losses for Schedule E.

Without any personal use days (which is appropriate for your situation), passive loss rules prevent the deduction of any loss from this rental. You can see the effect of this loss on Form 8582 Part II, as your MAGI increases over the $150,000 limit for Rental Real Estate with Active Participation. Most of this loss comes from Other Expenses on the Schedule E Wks. Unfortunately, the removal of personal information for the diagnostic copy eliminates the description for entries under Line 19. But if you can report some of those expenses in another way, you may be able to claim some of the rental loss.

Because you were renovating and improving the property, you may consider consolidating those costs and depreciating the renovations as a Rental Asset. This would spread the cost over 27.5 years, rather than reporting the entire amount in a year when you had little rental income.

Note that reporting more than 14 personal days changes the property to a personal home for tax purposes. This change requires allocating expenses between the rental and personal use days. This lowers the expenses on the rental side and reports a deductible rental loss. However, if you did not personally occupy the property as your main home for those personal days, you should not report any personal use days for the property.

This is a complicated situation, considering the magnitude of the losses that may be carried over rather than offset against non-passive income (like wages & salaries). We highly recommend that you discuss your situation with a tax lawyer or accountant familiar with the real estate industry. Their professional opinions may maximize your overall tax situation for many years to come.