How To Easily And Accurately Track Rental Property Expenses

As a real estate investor, you have more to track than the rental income you collect. If you only track your income, you’d be on the hook for a much larger tax liability than you planned. Tracking your expenses helps ensure that the investment is the right fit (you’re making a profit). It also allows you to deduct as many of your costs as possible, effectively decreasing your tax liability and increasing your bottom line.

So how do you accurately track rental property expenses? Check out our guide below.

What Do You Need To Track Rental Property Expenses?

There’s a difference between writing your rental property expenses down and proving them. While you need to keep a careful log, there are many ways to do that, but first, let’s discuss what you need to prove the expenses, especially if they’ll be a tax write-off.

• Leases - Keep all current and past leases for at least a few years. You never know when something may come up, even on prior years’ tax returns. 
• Proof of rent payments - You’ll need proof of the rent collected. If you collect rent digitally, keep a log. If you collect checks, keep a copy of the check.
• Copies of bills - Any bills you pay in connection with running the property, including tax bills, utility bills, and insurance bills, retain a copy for your taxes.
• Mortgage documents - If you carry a mortgage on the property, keep all mortgage statements and proof of payment.
• Legal fees - Any legal fees you incur in connection with the property, keep a receipt to claim at tax time.
• Sale paperwork - If you sell any investment properties, you must disclose the profits on your tax returns. Knowing the capital gains and how you can offset them is important, and your purchase contract is an essential piece of that puzzle.

Also, keep proof of any other expenses you incur. Always make sure the expenses you pay in connection with the property are fair and accurate for the area. Don’t try to overinflate what you pay and always have proof.

What Is The Best Way To Track Rental Property Expenses?

Just like your personal finances, there’s no right or wrong way to track your rental property expenses. There are many options to choose from, and you should choose the one that feels right to you.

The right method for you is the one you’ll use often. Keeping track of rental property expenses isn’t a once in a while thing - you have to do it regularly to ensure you file your taxes properly and get all the deductions you deserve.

Here are the top ways to track rental property expenses.

Accounting Software

Today’s most popular accounting software programs help you track your rental income. Programs like FreshBooks, Quicken, and TurboTax all provide robust options for real estate investors.

Each program has costs (some are a monthly subscription), so do your research and figure out which one you understand the most and will use. Also, look at the costs - most have a free trial, so you can try before you buy. We recommend taking advantage of this opportunity, so you don’t invest in a program you don’t like.

The right program for you varies based on the number of properties you invest in, the expenses you pay, and the complexity of your other business finances.

Property Management Software

Property management software is a niche product meant just for real estate investors. They help you track rental income, automatically track income and expenses, and keep track of all your real estate investment properties in one place.

A few of the most popular property management software programs are Stessa, AppFolio, and Rentec Direct. Most of these programs offer a free trial or free demo so you can see how they work and determine if they’re a good fit for your business.

Worksheets

If you’d rather keep it simple and have a worksheet or create your own Excel sheet, that works too. Just make sure the option you choose has the features you require. For example, if you know you won’t log every expense right away, it’s easy to get behind. Sometimes it’s better to have a program that links to your bank account and tracks the expenses automatically.

If you’re detail-oriented and can manage the details, some popular income and expense worksheets are on Zillow and PropertyManagement.com.

What Are Typical Expenses For A Real Estate Investment Property?

Tracking your real estate investment expenses is important, but you must know what expenses to track.

Here are the most common rental expenses most investors pay:

• Mortgage costs, including closing costs, inspection fees, and appraisal fees
• Real estate commissions
• Marketing and screening costs
• Maintenance costs
• Repair costs, including materials
• Legal costs

Most real estate investors have fixed and variable rental property expenses. Fixed expenses include:

• Mortgage payments
• Utility fees
• Trash fees
• Property taxes
• Home insurance
• Property management fees
• HOA fees

Other fees you may incur periodically include:

• Costs to find a new tenant
• Maintenance and repairs
• Vacancy costs
• Major improvements

What’s Included In Rental Income?

According to the IRS, rental income includes all of the following in addition to the rent you receive:

• Security deposits - You must claim any security deposits earned if it’s not returnable at the end of the lease. If your lease includes a stipulation that you return the security deposit, it’s not income, but the difference is taxable if you only return some of it.
• Advance rent received - If you ask for the first and last month’s rent when you accept a lease, that’s income.
• Money received to cancel a lease
• Expenses paid by a tenant on your behalf

How Is Rental Income Taxed?

While it gets more complicated than a short answer, and you should talk to your tax advisor about how your rental income is taxed, in general, it’s taxed as ordinary income - just like the income you receive from any jobs you hold. 

Since rental income is business income and you usually have expenses to offset your income, you typically won’t pay taxes on the full amount of rental income. You may be able to deduct a large number of expenses you pay (as discussed above).

In addition to the expenses, you may deduct a depreciation expense. This is the most helpful expense and is the reason many investors invest in real estate.

The depreciation expense is a portion of the home’s acquisition costs (minus land) amortized over 27.5 years. For example, if you spent $300,000 on a home and the land is worth $50,000, you could claim a depreciation expense of $9,090 per year.

Finally, you may be able to take your Qualified Business Income Deduction, which is a deduction of around 20% of your pass-through income. An example of pass-through income is the rent you receive. You may deduct 20% of the annual amount on your tax returns.

The income left after each of these deductions is the rental income you’ll owe taxes on at tax time.

Other Tips To Accurately Track Rental Property Expenses

As you can see, there is a lot that goes into preparing your taxes when you own rental property. Every dollar you spend or make matters and could make a big difference in the amount of taxes you owe at tax time.

To make sure you accurately track your rental property expenses, consider the following:

• Keep your business bank account separate. It’s hard to differentiate between personal and business income and expenses when you combine them. Open a separate bank account and conduct all business from that account.
• Keep track of all receipts. You don’t have to resort to shoving receipts in a shoebox, but you should have some method of keeping track of receipts. We like to take pictures of them and store them on our computer or phone to always have a copy, and there’s less paper.
• Automate your accounting tasks. It gets tedious to track every expense and even income, especially when you have multiple properties. Choose accounting software that links to your business bank account and automatically updates it for you in real-time.

Selling Your Rental Property 

When you sell your rental property, you’ll incur taxes on the profits too. You must have all the paperwork regarding the expenses, deductions, and depreciation expense deduction you’ve taken throughout the years to determine if you must pay depreciation recapture.

Selling your rental property requires a few careful considerations:

• Do you have tenants? If you do, how will you sell the home? Will you sell it with the tenants in place with a platform like Roofstock Marketplace, or will you wait until the lease expires?
• Are you in a high tax bracket right now? You may want to talk to your tax advisor about the timing so you can offset some of the capital gains taxes since investment homes don’t have the capital gains exclusion.
• Do you know how much to ask for the property? There's a difference between selling the property with tenants in it and without tenants. Know the home’s worth and what people in the area want. This will help you ask for the right price.
• Will you use a 1031 exchange? If you invest the money earned from the property in another property, you may be eligible for the 1031 Like-Kind Exchange. This option allows you to defer the taxes you’d owe on the capital gains because you invest the money in another similar property.

Organization Is The Key In Investment Real Estate

It seems like a lot of work, and some people may even think it’s not worth it, but investing in real estate is a great way to diversify your portfolio.

While you need a lot of careful records, and you’ll likely need help filing your taxes, there are ways to make it easier on yourself. The key is to be organized from day one. Automate as much as you can and set up a system to keep a careful record of your expenses and income.

Owning rental property offers many benefits, including:

• You can earn passive income. Once you buy the property and if you hire a property management company, you sit back and enjoy the rental income. Even if you have to get involved periodically, it’s not a daily job.
• You diversify your portfolio. Investing in stocks and bonds is great but also risky. Putting all your eggs in one basket can leave you with a great retirement or nothing. No one wants to take that risk. Instead, diversify your portfolio with real estate, and you won’t have that ‘all or nothing’ feeling.
• Real estate investments offer a lot of tax write-offs. Rental real estate is a great way to lower your tax liabilities even when you sell your rental property. If you sell, you can offset your capital gains in various ways if you work closely with your tax advisor. 

The Bottom Line

Right from the start, stay organized with your rental property expenses. They are more than expenses. They are your key to a lower tax bill. Figure out a system and subscribe to the software that suits your needs the most. Even if you think you can do it all yourself and manually, you don’t want to burn out.

Take the help that’s available to you, and you may even maximize your tax write-offs by staying organized as a real estate investor. 

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