Property management company dictated pre-rent repairs?

[sornord1]

We lived in a house until early June, 2024, moving overseas at that time.  We consulted with a property management company about renting out the house for about a month before we moved out.  A few weeks after we moved out, the property management company inspected the house and gave us a long list of things that needed doing before the property could be rented.  While going over those requirements with the management company and contractors, the property was also vandalized, which caused even more repair costs.  All those repairs took a lot of money and took months to complete.  Meanwhile, we were still paying for utilities, and a pool and yard service.  Due lack of responsiveness from the first management company, we changed recently to a second management company, who had a few extra things THEY wanted done before they'd rent it.  Those extra requirements were recently completed.  The management agreement with the new company has been set up to begin 1 Jan 2025, with active marketing for rent to begin on that date.  The house has been vacant this whole time, i.e. no rental income from it from June through December

Since the repairs were what the two property management companies said had to be done before it could be rented, are those items (and the vandalism repair) "pre-rent" expenses vice adding to basis/depreciation?  (FYI:  I kept most, if not all, email exchanges with the property management companies as we coordinated these repairs.)

[Opus 17]

Unfortunately, repairs are not a deductible rental expense unless they are made after the property is placed in service (listed and available for rental or being rented).  Otherwise, repairs are the normal responsibility of any property owner to keep their property in good order.  If you had decided to bail out and sold the property as-is, you might have had less profit (and paid less capital gains) or you might have had a loss (which was not deductible on personal property).  There's not much you can do with losses on personal property.

Improvements can be added to your cost basis and are recovered by depreciation when you place the property in service.

Casualty losses (theft, vandalism) are not deductible on personal property unless due to a federally declared disaster, and are likewise not deductible as a rental expense unless they happened after the property was placed in service.

Improvements add to the value of the property, extend its life, or adapt it to a new use.  For example, remodeling the kitchen is an improvement, but painting the kitchen or replacing a broken electrical outlet is a repair.  (When doing an improvement like remodeling the kitchen, the entire cost is considered an improvement even if it includes some minor things like painting.)  However, even if you remodeled the kitchen and count painting as part of the improvement cost, also painting the bedrooms at the same time would be a repair as to those rooms.  Something major like rewiring the house would probably be an improvement since it extends the useful life of the property, even if the reason for rewriring the house was that vandals stole the copper.  

You would have to look at the totality of the work and decide how much, if any, could count as an improvement.  Keep copies of documents proving this for as long as you continue to own the home, and for 3 years after selling, in case of audit.

[sornord1]

The property management companies wouldn't even accept the property to MARKET it for rent until these repairs were done, so what were we supposed to do?

I also have another rental, tenant-occupied since 2018.  The current tenants reported some leaking under the kitchen sink and dishwasher.  Plumber we hired said the pipes in the entire house (built in 1961) were in fragile condition to the point it was risky even putting a wrench to them.  So had to have a whole house plumbing replacement.  After that, it was discovered the under-sink leakage was far more extensive and had damaged the sub-flooring of the entire kitchen and adjacent family room.  (Previous tenants had covered it with flooring they installed without telling us.)  The 1961-vintage cabinets had to be removed to replace the sub-flooring.  They couldn't be reused so were replaced and a "stickout" part of the counter was removed to open the area up to make it more usable.  (U-shaped kitchen countertop replaced with an L-shaped one.)  Stove had been a countertop model with a separate oven but was replaced with a traditional over/under stove and oven.  Was cheaper than replacing the old design.

So that is also a "rehab" and not deductible?

[Opus 17]

As to the second property, it sounds like both the plumbing work and the subfloor constitute "improvements".  The cost would be added to the property as a new "asset" and depreciated separately over 27.5 years (you should be in about year 6 or 7 on the main property).

There are some articles here to start with.

https://www.nolo.com/legal-encyclopedia/repairs-vs-improvements-how-tax-deductions-differ-landlords....

https://www.dbbllc.com/newsletters/focus-our-tax-e-newsletter/irs-clarifies-capital-improvement-vs-r...

It can get complicated if you are trying to optimize your tax position.  Sometimes, it would be helpful to take the entire cost as a repair (expense it all at once to generate a large loss) rather than depreciating it.  The IRS has some regulations on that.  There are one or two "safe harbors" that allow you to expense improvements even if they would normally be depreciated.  I'm not familiar enough with those rules to quote them, @tagteam  might know or you can look them up or consult a tax professional.   But if this work does not fit into the safe harbor, you probably need to depreciate it rather than expense it.

And this does not fix the "placed in service" problem with the first property, unfortunately.  As far as "what were we supposed to do?", you take it on the chin like everyone else.  I don't get to deduct the cost of replacing the leaking service water line on my house, because it is personal property.  It's just maintenance and repairs I have to pay as a homeowner.  If you are running a business (including rental property), you can deduct costs against income, on the theory that you should only pay tax on the net profit after expenses and not the entire gross proceeds.  But there has to be some line you cross between personal use and business use, and the IRS draws that line at "placed in service."

[Opus 17]

...and standalone appliances (not built in) should be listed as separate assets, because they depreciate faster.  The stove might even fit into one of the safe harbors even if the plumbing and subfloor work does not.  

[sornord1]

We told the property management company in May we wanted to rent it out as soon as possible after we vacated it.  Isn't hiring a company to put a property "in service" equivalent, for our purposes, as putting that property in service since they were in control of the process from that point?  The property was turned over to them - they controlled access via a lockbox - to rent out but later said they wouldn't do so until we'd done those prerequisite repairs.  

That house had a small, doctor-recommended hot tub on a tiled floor due wife's disabilities.  Its weight over six years damaged the tiles under it - an area about 6'x 6' - but no one could match the tiles anymore so had to replace them in the entire room.  So is that a repair or an improvement? 

Getting into semantics here.  Time for a professional.

[Opus 17]

Yes, check with a professional.

The work you did should be evaluated under the standards in the articles I linked to.  I'm not going to go further than I already have.

The interesting thing is that, if you treat the bathroom tile as an improvement under the BAR standard (betterment, adaptation, restoration) then you can include it in your cost basis for depreciation, even if the home was not placed in service.  So you would get something over time, just not as an expense.  Whereas, as an expense, it might be allowed all at once, or not at all, depending on the in service rule.

(Remember that, when you place the home in service as a rental, you should list it for depreciation using your adjusted cost basis, or the fair market value, whichever is lower at the time.  Your adjusted cost basis includes the cost of improvements made since you bought the home, both improvements you made for personal use, and improvements you made to get it ready to rent.  Just not repairs.)

[sornord1]

So that the management company COULD have rented the property, but refused to do so until we did those repairs, doesn't factor into it?

There was no rental income from the property, and the new management company won't be marketing it until 1 Jan 2025.  (Some SMALL consolation there, I suppose.)  Does that mean I can't include these "improvements" (if that's how they have to be claimed for ANY benefit) for depreciation until the 2025 return, even though I paid many thousands for them in 2024?

[sornord1]

Thanks to all...I haven't had a simple return in decades.

[Opus 17]

@sornord1 

@tagteam already discussed the "grey area" with respect to "placed in service."  I would be concerned about your audit position if you have communication from the management company that they refuse to list your property until the changes are made.  But that's why we are suggesting a pro.  (By contrast, suppose you had listed it privately, while the work was ongoing, and offered people to move in immediately and get a discount, or wait for the work to be done and pay full price.  That's probably going to be looked at differently than "refused to list".)

When you place property in service, you list it on your schedule E, with the starting cost basis for depreciation.  Even if you did list it on your 2024 tax return as being available in December 2024 (for example), you would still only get 1 month of depreciation.  (cost basis ÷ 27.5 years ÷12 months) so it would not be much recovery as a practical matter, even if it was allowed.