Converting your second home into a vacation rental has many investment and tax advantages that can potentially create a lucrative source of additional income. The first step is to define a clear objective for this venture by asking yourself if you want to earn regular income all year round from one or multiple renters, or just during vacation seasons from one or more guests. Some of the most important factors regarding income potential will be location and climate conditions of the property. The following checklist will help guide you in your decision to turn your second home into a vacation rental.
Market and Climate Conditions
As we learned from the financial crisis, the housing market is not as predictable as it once was in the pre-crash era. After decades of upward growth, the housing market collapsed in 2007 and recovered somewhat after four years, although valuations in 2014 were still lower than pre-crash levels, while rent levels generally ranged from stable to moderate increases. If your goal is to just build equity from renting, you need to consider rental statistics in the area by comparing sources such as Zillow, Rent Range and City Data.
It all depends on the location of your second home. Some of the worst hit markets such as Detroit, Las Vegas and Sacramento experienced sharp increases in valuation levels following the crash. Places prone to natural disasters such as hurricanes, tornadoes, blizzards, flooding and earthquakes will require higher insurance rates and greater risks of property damage. Another important consideration is how the economy affects tourism in the area. You might also consider the financial stability of potential guests.
Type of Property Management
Once you have assessed the marketability of your vacation rental, you need to decide on whether or not you want to be your own property manager who oversees renters or hire another property manager to handle the business affairs for you. It really depends on how much time and responsibility you want to put into managing the property as well as how you or an employee will handle maintenance issues. If you don’t mind getting a late night or early morning maintenance call and have handyman skills, as well as accounting knowledge, then you may want to save money and handle these tasks yourself.
Be sure to research local laws for the jurisdiction of your rental property to make sure you understand and acquire the necessary permits and licensing regarding rental issues. This will also determine whether or not guests can conduct business from the home, which may be important to business travelers.
Taxes and Deductions
One of the key advantages to owning a vacation home is that the owner may be eligible to deduct mortgage interest payments when filing taxes, if it is used as a second home. In the case of renting out a vacation home then you may be able to deduct expenses related to personal usage and depreciation on the property. Some of the benefits for earning vacation home rental income, according to the IRS, include deductions on expenses such as mortgage interest, real estate taxes, utilities, maintenance, insurance and depreciation. The tax forms for this type of filing are 1040 and 1040 Schedule E. You can also itemize deductions on form 1040 Schedule A.
Special rules exist for owners who occupy the vacation home part of the year and rent out the home the rest of the year. The main advantage to just renting out the home is that you are allowed to deduct rental expenses that exceed your gross rental income, as per IRS Publication 925. These losses, however, have limitations pertaining to “at-risk” rules. Limitations will also occur if you use the residence for over 14 days of the taxable year or ten percent of the total days rented out to others for a fair rental price. If you rent the property for less than 15 days in addition to using the residence for your own use, then you will not need to report the rental income and you will not be able to deduct rental expenses.
Remodeling and Cleaning
You can attract more affluent clientele by retrofitting your second property to look more modern and eco-friendly, which also allows you to take advantage of government tax credits and incentives for going green. You will at least want to clean up the property and move personal items into storage. It will be necessary to inspect the property after guests check out, so you may want to consider hiring a cleaning service. Keeping your own personal storage unit onsite will save you time, energy and money.
In order to attract reliable guests you should offer necessities such as updated living room and bedroom furniture, modern kitchen appliances, washer and dryer, bathroom supplies, telephone, cable television, Internet access as well as adequate parking space.