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Rental income is taxable, and this complete guide to rental income taxes walks through exactly how, from your federal return down to the state where your property sits. You report it as ordinary income on Schedule E, and you owe tax only on the net amount: gross rent minus deductions like mortgage interest, property taxes, repairs, insurance, and depreciation spread over 27.5 years. Add a state income tax layer if your property sits in a state that charges one, and add the 3.8% Net Investment Income Tax if you’re a high earner. The sections below work through each piece in order, with links to go deeper wherever you need more.
What Counts as Rental Income?
Rental income is more than the monthly rent check landing in your account. Per IRS Publication 527, the IRS also counts:
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Advance rent, taxable in the year you receive it, no matter which future month it covers. A resident who pays January’s rent in December hands you a tax bill for that year, not next year’s.
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The portion of a security deposit you keep. A deposit you genuinely intend to return isn’t income at all. Apply part of it to unpaid rent or damage, and that portion becomes taxable the year you apply it. A non-refundable pet or cleaning fee is taxable the moment you receive it.
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A payment a resident makes to cancel a lease early.
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Expenses a resident pays on your behalf, such as a repair bill deducted from what they owe you.
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The fair market value of property or services you accept instead of cash. A resident who repaints your unit in exchange for $1,000 off rent hands you $1,000 in taxable income, paint job included.
Keep records for every item on that list. What you can’t document, you generally can’t defend if the IRS ever asks.
How Is Rental Income Taxed, and at What Rate?
Rental income is taxed as ordinary income at your marginal bracket, the same rate structure that applies to your paycheck, and you only owe tax on the net amount after subtracting the deductions below. Because it’s passive by default, it usually escapes self-employment tax too, though two situations flip that: providing substantial services to residents, think daily cleaning, meals, or concierge-style extras, or running a short-term, Airbnb-style rental where you’re heavily involved in day-to-day operations. Either one can push the IRS to treat your rental as an active business.
High earners face one more layer. The 3.8% Net Investment Income Tax applies once your modified adjusted gross income passes $200,000 (single) or $250,000 (married filing jointly), and it’s calculated on your net rental income, after deductions, not the gross.
Losses work in your favor too, within limits. Rental losses are passive by default and can only offset other passive income, but if you actively participate in managing the property, meaning you approve residents, set rent, or handle the finances yourself, you can deduct up to $25,000 of rental losses against your other income. That allowance phases out as your modified adjusted gross income climbs from $100,000 to $150,000, and disappears entirely above that.
These mechanics are exactly why rental property carries real tax advantages over other kinds of income. Our tax benefits of rental properties guide breaks down which ones matter most and why.
What Expenses Can You Deduct?
You can deduct the ordinary, necessary costs of operating your rental, the same category of expense any business gets to write off. The core list:
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Mortgage interest, not the principal you’re paying down
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Property taxes
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Repairs, the routine fixes that keep the property in its current condition
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Insurance premiums, your landlord policy, liability coverage, and any rental-specific add-ons
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Property management fees
One distinction separates a deduction you take this year from one you have to spread out. A repair keeps the property as it was, patching drywall or fixing a leaky faucet, and it’s deductible the year you pay for it. An improvement adds value or extends the property’s life, a new roof, a remodeled kitchen, so it gets capitalized and depreciated instead of written off all at once. Planning a bigger project? Can you deduct remodeling expenses for a rental property walks through exactly where that line falls.
One thing you can never deduct, no matter how many hours you put in yourself: your own labor. Appliances follow their own faster schedule too, covered in rental property appliance depreciation. The IRS doesn’t let you pay yourself and write it off. Our guide on deducting your own labor on a rental property explains why, along with what does count instead.
For the full rundown of deductible expenses and typical costs, see our rental property tax deductions guide. Wondering about a specific gray-area expense, a home office, mileage, or a resident gift? Our FAQs on tax deductibles for rental property covers the edge cases.
How Does Depreciation Work?
Depreciation lets you recover the building’s cost over time, spread across 27.5 years of straight-line depreciation, even in years you don’t spend a dollar on repairs. Land never depreciates, only the structure does, so you start by subtracting your land value from your purchase price to arrive at the depreciable basis.
Here’s the math: divide your adjusted basis by 27.5. A $275,000 property with $50,000 in land value leaves a $225,000 depreciable basis, and $225,000 divided by 27.5 comes out to $8,181.82 in depreciation you can claim every year you own the property.
Sell the property, and depreciation recapture kicks in. The IRS taxes back the depreciation you claimed, since those deductions lowered your taxable income while you owned it. For the full mechanics of the recapture calculation, see our guide to rental property depreciation.
Do You Owe State and Local Taxes Too?
It depends entirely on where your property sits. Some states tax rental income right alongside your other earnings, some don’t touch it at all, and property tax applies in nearly every jurisdiction regardless.
Texas and Florida are the two big exceptions. Neither charges a personal state income tax, so the state-level bill on your rental income is zero in both, though Florida does levy sales tax on short-term rentals of six months or less. Our Texas rental income tax guide and Florida rental tax guide cover each state’s rules in full, including where the property tax rates that fund the difference land.
Other states, California among them, tax rental income at meaningfully higher rates, so where you own matters almost as much as how much you own. Property tax is the layer nearly every owner pays no matter the state, though a handful of jurisdictions offer exemptions or caps worth knowing about. See which states have no property tax for that breakdown.
Can You Defer the Tax When You Sell?
Yes. A 1031 exchange lets you roll your gain into a new like-kind property and defer both the capital gains tax and the depreciation recapture you’d otherwise owe on the sale.
The catch is timing: you have 45 days from closing to identify replacement properties and 180 days to close on one, and the rules for what qualifies as like-kind are strict enough that most investors use a qualified intermediary rather than attempt the exchange alone. Done right, a 1031 exchange lets you grow a portfolio for decades and only settle the tax bill when you eventually cash out for good. Our complete guide to 1031 exchanges covers the identification rules, deadlines, and the mistakes that most often blow up an exchange.
How Do You File, and What Records Do You Keep?
You report rental income on Schedule E (Form 1040), and if you own more than one property, you file a separate Schedule E for each one, all attached to your regular Form 1040.
A few filing details carry real deadlines and dollar thresholds. The 1099-NEC reporting threshold is $2,000 for payments made after December 31, 2025, up from the longstanding $600, per the IRS instructions for Forms 1099-MISC and 1099-NEC. Issue a Form 1099-NEC to any contractor you pay above that threshold, and collect a W-9 from them before you pay, not after the fact. Because rental income typically isn’t subject to withholding, you’ll likely need to make quarterly estimated payments using Form 1040-ES. The safe harbor that keeps you penalty-free: pay at least 90% of your current year’s tax liability or 100% of last year’s, whichever is easier to calculate. If your prior-year adjusted gross income topped $150,000, that second figure rises to 110%.
Keep income and expense records for at least three years after you file, six years if you suspect you underreported anything. Property purchase and improvement records need to stick around longer, the entire time you own the property plus three years after you sell, since you’ll need them to calculate depreciation recapture and capital gains at that point. For the full walkthrough of the calculation and the forms, from your first rent check to the return you file, see how to calculate and report rental income on your tax return.
FAQ
Do you pay self-employment tax on rental income?
Usually not. Rental income is passive by default, so it escapes self-employment tax in most cases. The exceptions are landlords who provide substantial services to residents, daily cleaning, meals, or concierge-style extras, or short-term, Airbnb-style rentals where the owner stays heavily involved in day-to-day operations. Either one can lead the IRS to treat the activity as an active business instead of a passive investment.
Does forming an LLC change how rental income is taxed?
Not by itself. A single-member LLC is a disregarded entity for tax purposes, so rental income still passes through to your personal return and gets taxed the same way it would if you owned the property in your own name. What an LLC actually changes is liability protection, keeping your personal assets separate from a claim against the rental business, not the size of your tax bill.
What happens to depreciation when you sell a rental property?
It gets recaptured. The IRS taxes back the depreciation you claimed over the years, since those deductions reduced your taxable income while you owned the property. This recapture is separate from, and often taxed differently than, the capital gains on the sale itself. A 1031 exchange can defer both if you reinvest in a like-kind property.
Do you have to make quarterly estimated tax payments?
Usually, yes. Rental income typically isn’t subject to withholding, so the IRS expects you to pay as you go rather than settle up in one lump sum every April. Use Form 1040-ES to calculate your payments, and hit the safe harbor, 90% of your current year’s liability or 100% of last year’s (110% if your prior-year adjusted gross income was over $150,000), to avoid a penalty.
Can you deduct a loss on your rental property?
Often, yes, within limits. Rental losses are passive and can generally only offset other passive income, but if you actively participate in managing the property, you can deduct up to $25,000 of losses against your other income. That allowance phases out as your modified adjusted gross income climbs from $100,000 to $150,000.
This article is general information, not tax advice. Tax rules change, and every situation is different. For guidance on your specific situation, talk to a licensed tax professional.
