The following article was written by The Editorial Staff at TheTaxBook and contributed for use on the TaxSlayer Pro blog.
When tax season arrives, you may see clients who have many kinds of income, not just the standard W-2. One of these less common income streams is rental income. Learn more about what rental income is and when to report it on your client’s tax return in this article.
What is rental income?
Rental income includes any payment received for the use or occupancy of property. It is not limited to amounts received as normal rental payments.
When should my client report rental income?
When rental income is reported on the tax return generally depends on whether the taxpayer is a cash or an accrual basis taxpayer. Most individual taxpayers use the cash method.
A cash basis taxpayer reports income on his or her return in the year received or constructively received, regardless of when it was earned. Income is constructively received when it is made available to the taxpayer, for example, by being credited to the taxpayer’s bank account. Expenses are generally deducted when paid.
An accrual basis taxpayer reports income when it is earned rather than when it is received. Expenses are generally deducted when incurred, rather than when they are paid.
What are the different types of rental income?
The following are common types of rental income.
Advance rent is any amount received prior to the period that the payment covers. Advance rent is included in the taxpayer’s rental income in the year received regardless of the period covered or the accounting method used.
Payment for canceling a lease
If a tenant pays to cancel a lease, the amount received is rent. Include the payment in rental income in the year received regardless of the taxpayer’s method of accounting.
Expenses paid by tenant
f a tenant pays any of the property owner’s expenses, those payments are rental income. Because the property owner must include this amount in income, he or she can also deduct the expenses if they are deductible rental expenses.
Property or services
If the property owner receives property or services for rent, include the fair market value of property or services received in rental income. If the services are provided at an agreed upon or specified price, that price is the fair market value unless there is evidence to the contrary.
A security deposit is not included in rental income when received if the property owner plans to return it to the tenant at the end of the lease. If any amount of the security deposit is kept during the year because the tenant did not live up to the terms of the lease, include the amount kept in rental income in that year. If an amount called a security deposit is to be used as a final payment of rent, it is advance rent and is included as income in the year received.
Note: Individual states have laws requiring payment of interest by landlords who hold security deposits of tenants. Check state laws for more information.
The information in this article is up to date through tax year 2020 (taxes filed in 2021).