Startup cost deductions for a short term rental purchased in 2019 but not expected to rent until 2022

[adibella47]

Hi All,

I have questions about the deductibility and classification of startup costs for a short-term rental that I bought in 2019 and has NOT yet been put into service as of 2021. Some initial details on the circumstances:

• I closed on the house (a mountain cabin) on Dec 30, 2019. I purchased it with the intent for it to become a full-time, short-term rental (this is still the intention). 
• At the time of purchasing, I lived in another location (NYC) and came to the property on the weekends to make improvements, furnish it, and otherwise get it ready for rentals.
• In March 2020, I unexpectedly moved into the property full-time, a temporary diversion of my rental plan due to COVID. 
• I began incurring expenses for the cabin as early as Oct 2019 (a few months before closing), and have continued to do so while living here through 2020 and up until now (Nov 2021). These expenses now total ~$57k and have ranged from new appliances, kitchen renovations, misc. repairs, a new deck, installing new landscaping/plants/hardscaping, spray foam insulation, new windows, paint, bathroom renovations, and furnishings/furniture (indoors and outdoors) which will ultimately be left for renters. I did some of the work myself, so I've also been tracking purchases of any additional tools I needed to complete some projects.  I had also tracked my few trips up to the cabin for the few months before me purchasing the cabin and deciding to move in (mileage, hotel, gas),  but I may exclude those until I have more clarity on whether they fall into the IRS rules for startup costs.
• NOT included in my startup expense tracking are the costs currently applicable to me as a primary resident (property tax, insurance, utilities, mortgage interest). I will eventually write those types of costs off starting with the period when the cabin begins renting.
• I have not yet placed this cabin into service as a business on my 2019/2020 tax returns since I am still living here. My tax deductions at the current moment are that of a primary residence (mortgage interest/taxes).
• I plan to (finally) move somewhere else and place this cabin for rent in Q1 2022, at which point it will be a year-round short-term vacation rental that I will no longer occupy.

My questions are:

1. Given I place the cabin for rent in Q1 2022, am I right to wait until my 2022 tax return to "start" my short-term rental business and not identify anything on my taxes for it as a business until then? 
2. Are the $57k+ in expenses I've incurred from Oct 2019 through starting the business in Q1 2022 generally qualified as "start-up expenses" which can be (in one way or another) deducted or depreciated on my 2022 tax return?  I understand the $50k start-up cost limit and phase-out of the $5k first-year expenses thereafter, but I'd like to know whether my total expenses can at least be considered in some way as business expenses, especially given they were incurred over multiple years.
3. Does my living in the cabin while renovating for an extended period (see COVID) have any effect on my ability to qualify my expenses once I do rent it out? Yes, I'm technically using the furniture and home while I'm here, but all of the items being tracked as expenses were purchased to ultimately be part of the rental, and as such will stay here when I leave.

Thank you for reading this far - I appreciate any insight on this! 

[Mike9241]

Does my living in the cabin while renovating for an extended period (see COVID) have any effect on my ability to qualify my expenses once I do rent it out?   Yes I think you do.  It's not possible for me to distinguish your situation from a situation a person buys property, make repairs and improvements and the n after several years rents it out.

my opinion is that the soft costs incurred, repairs tools etc, are a personal expense.  hard costs become costs of the property like furniture, appliances, new flooring, etc.

when you convert the property to rental the basis for depreciation would be the lower of your capital costs (excluding land) or the FMV of the depreciable portion of the property.  the issue is are you allowed to separate the cost of the building from the costs of appliances, etc. I believe the answer is yes. 

however, since this is a conversion from personal use and residential property things like appliances and furnture would have to be depreciated over 5 years. Neither 179 or 168(k) would apply.

startup costs (IRC 195), to the extent deductible (you know the $50K rule), can not be deducted until the business begins.  

start up costs include 

advertising

consulting or other fees paid in connection with the starting of the business

travel and related expenses to secure suppliers and customers.

[Anonymous_]

Is this going to be an active trade or business?

Section 195 start-up expenditures apply to active trades or businesses and, generally, not to rental properties since the latter are typically considered passive activities.

On the other hand, if you are providing significant services to your renters, such as meals, maid service, et al, then you may, in fact, have an active trade or business.

[adibella47]

It’s going to be a vacation rental, so turnover maid service, communication and customer service with guests, conflict resolution, providing check in gifts, inspecting the property every turnover, etc. I imagine that is where it would differ and make it an active business compared to if I had a renter sign a one year lease (passive). Would that be an appropriate categorization? 

[Anonymous_]

The categorization is dependent upon the services provided.

If the operation and services provided appear to be on the order of a hotel, then it is probably an active trade or business.

If the renters receive no services beyond a clean, furnished rental with utilities included, then it probably is just a passive activity.

[Carl]

For a passive rental activity reported on SCH E, start up costs are not allowed. So any expenses incurred in "preparing the property for rent" for the very first renter, are not deductible at all. Now do not confuse this with property improvements. That has nothing to do with start up costs at all.

For an active short term rental activity that qualifies as a trade or business, which gets reported on SCH C, start up costs are claimed as such, in the first year you are "open for business". It does not matter in what year those startup costs were incurred either. But again, do not confuse start up costs with property improvements.

Since this is a short term rental, and assuming it qualifies as a trade or business, I assume it will be furnished. I also expect you to depreciate the furnishings beginning on the date they are placed "in service". If the furnishings were purchased new *and* the tenant was the first to use them, then you'd have a choice to expense the furnishings if the total cost of those furnishings is less than $5000 per invoice that the purchase of those furnishings are listed on, or to depreciate the cost over 5 years.

However, (and I'm not 100% sure on this) since the furnishings will be "used" (by you) prior to being placed in service, I do believe you can't expense them and have to depreciate them over 5 years, based on the FMV of that furniture on the date it's placed in service.  If I'm wrong on that (and I may be) I'm sure someone will jump in here.