What expenses can you claim on your rental property? Knowing what you can and can’t claim will make a big difference in your tax return.
My husband and I used to offer a service that found tenants for people who wanted to self-manage, that was before regulations became so prohibitive. At one time, we were having a conversation with a couple in their kitchen and started casually talking about tax write offs. Much to our surprise, they had no idea they could write off the interest portion of their mortgage payment against the property’s income. They also didn’t know what other expenses they could claim against their revenue. When we told them what was possible, they acted as if they had won the lottery.
With real estate investing, you need to know techniques for finding good tenants, and what systems to put in place that make it easy to manage your property and your tenants. You should also have an excellent knowledge of the landlord/tenant legislation, and know what expenses you can claim, or have a really good accountant who has their own real estate investments or works with real estate investors.
If it sounds like a lot, it is. So, grab a big cup of something with heaps of caffeine, and buckle up.
Operating/Current Expenses and Capital Expenses
Repairs and maintenance fall under two categories; current/operating expenses and capital expenses. Current/operating expenses you incur to keep the property in the same condition as when you purchased it. Capital expenses you incur to improve the property beyond its original condition at the time of purchase. As an example, you’ve owned a property for five years, and your shingle roof is starting to show signs of decline. If you replace the shingles with the same type of shingles, that is a current expense. If you decide to upgrade the shingles to clay shingles, that is a capital expense because you are bringing the property to a condition beyond where it was when you purchased it.
Here is a chart from the CRA that outlines the difference between current and capital expenses:
Determine if your expense is current or capital. Once that’s done, you know whether you can claim the entire expense in the current year or if you can treat it as a capital expense.
Mortgage Interest- what can you claim?
Mortgages are another area where you need to know what CRA allows. Mortgage interest is an expense. The mortgage principal is not.
Every mortgage payment splits into two parts — mortgage principle: the amount that your payment has reduced your total debt, and mortgage interest, which is the amount you are paying to service the debt.
Although your mortgage payment is the same month by month, the principal amount and interest amount changes every month. As you reduce the overall debt with payments, the amount of interest you pay reduces, which means that the amount of principal you pay increases.
The most interest you pay (unless you refinance the mortgage) is year one, month one. Every subsequent month, you’re putting more of your payment towards principal and less towards interest. This why you need to know what your interest expense is, as it changes every year.
There are a couple of ways to calculate it. Your bank can provide an amortization schedule, or you can find them online. If you are looking for an amortization schedule, make sure that it specifies that it is configured for Canadian rules. Fixed-rate mortgages in Canada are compounded semi-annually. This is different from mortgages almost anywhere else in the world. Outside of Canada, mortgages are compounded monthly or annually. If you go online to any amortization schedule not configured explicitly for Canadian mortgage rules, you will get incorrect results. Here is a sample amortization schedule. It is configured for a mortgage of $281,250 with a 25-year amortization at a 3.31% interest rate:
As you can see from the schedule above, you pay down $605.66 of the actual loan in the first month and $770.19 in interest. By the time you get to the end of the first year, your principal payment is $624.16, and your interest payment is $751.98.
The total principal you’ve paid is $7,378.38. The total interest you’ve paid is $9,135.31. The interest is an expense. The principle is merely converting dollars from liability (a debt that you owe) to an asset (equity that you own) and doesn’t impact the property’s actual income.
Utilities- are these expenses you can claim for your rental property?
If you pay the utilities on the rental property, even if the tenant is reimbursing you, that is an expense. If the tenant is reimbursing you, it will show up in your effective gross income. Therefore, you want to make sure to include the expense to offset that income. Otherwise, you will end up paying more income tax than you should.
Home Office — is this an expense you can claim?
If you have an office dedicated (or partially dedicated) to your real estate investment, you can claim a portion of your home expenses against your investment income. However, one of the following two rules applies:
- Is it your primary place of business?
- Do you use the office space only to earn business income and meet your clients, customers, or patient on a regular and ongoing basis?
If you rule out number 2, your home office must qualify as the primary place of business.
To calculate this expense. First, calculate the percentage of the expenses you can claim for your property. The percentage of expenses will depend on the size of your office and the size of your property. Let’s say that you live in a 1500 square foot house, and your office is 200 square feet.
If space is used as an office ½ the time, and the other half used as a man cave, cut the percentage’s value to expense in half again, to 6.666667. For this exercise, assume the office space is used fully as an office.
Note: If you want to claim part of your house, it’s a good idea to have a floor plan so you can prove to the government that the percentages are accurate.
After all that — what can you write off as an expense?
- Mortgage interest
- Property taxes
- Rent (if you’re renting the property)
- Some vehicle expenses
- Some home office expenses
Office space calculation gives you the following numbers for your property:
You can also claim capital cost allowance (depreciation) on computers, electronic equipment, and office furniture committed to your office. Computers belong to class 50. Currently, class 50 can be written off at a rate of 55% per year.
This leads to the next question, “Can you claim a low-priced office item?” For example, suppose you buy an external hard drive for $100.00. Can you expense that, or do you have to capitalize it? The answer won’t make you happy.
Gil called CRA because he wanted to get the answer straight so that you won’t have to.
After two hours on hold, he received the following answer:
“There is no minimum value on an item that will allow you to expense rather than capitalize. What determines whether or not an item is a capital item is the lasting value that it provides.”
The CRA representative told me she had seen $3.00 items capitalized.
To summarize in a somewhat simplified sentence (because nothing is really simple with CRA)… according to CRA, anything that provides lasting value should be capitalized over time, and anything that requires immediate maintenance to keep in its current condition can be expensed in the year of purchase.
Motor Vehicle Expenses
The government has some interesting rules when it comes to travel expenses. The rules differ depending on whether you own one rental property or own more than one rental property. If you own more than one rental property, they have to be located in at least two different sites, away from your principal residence. If, for example, you own two townhouses in the same development, it doesn’t qualify under the government’s rules.
If you own just one rental property, you can’t deduct motor vehicle expenses incurred to collect rent.
That is considered a personal expense by the government. You can deduct travel expenses if you are traveling to the property to do repairs and maintenance and you use your vehicle to transport tools and materials to the rental property. If, for example, you keep all your tools at the rental property, and you have materials delivered, then you can’t claim the expense.
If you own two rental properties as described above, you can expense travel costs if incurred to collect rents, supervise repairs, or manage the properties.
With Gil’s (my husband) Victoria property, he’s spent a lot of time on the phone with the government asking if he can claim travel expenses to fly down for some reason. The answer has always been no because it’s only one property.
If you want to claim vehicle expenses, you need to prove what percentage of your motor vehicle expenses are related to the business.
To do this, you need to keep a log of all the travel you do for business purposes. Record your mileage at the start of the year and the end of the year. Next, calculate the number of kilometers you’ve driven for the business from the logs you’ve maintained.
For simple calculations, if you’ve driven 50,000 kilometers a year, 5,000 were for traveling to and from your rental properties for reasons described above. You know that 10% of your driving was related to the business.
Now, take all the receipts for gas and repairs, 10% is expensed to the rental properties.
For the sake of this lesson, let’s assume the following expenses:
Motor Vehicle Depreciation (capital cost allowance)
Depreciation is the decrease in the value of a vehicle over time. There are two classes of a passenger vehicle, and how you can determine capital cost allowance depends on the automobile class. The first class is class 10; the second class is class 10.1.
An automobile is class 10.1 if it falls within the following conditions.
If the passenger vehicle does not meet the above conditions, it belongs in class 10.
The differences between the capital cost allowance for a class 10 vs. a class 10.1 vehicle are as follows
What do these terms mean?
The Capital Cost Allowance (CCA) Rate
The CCA rate is 30% for both classes. This is how the capital cost allowance would work, assuming 10% of the miles put on the vehicle were due to business use:
The following year, the value to calculate the capital cost allowance is this year’s value minus the capital cost allowance:
Group all Vehicles in One Class
If all your vehicles are class 10 vehicles, they are all grouped in one class. If you have both a class 10 and a class 10.1 vehicle, use separate class calculations to determine the capital cost allowance.
List Each Vehicle Separately
Listing each vehicle separately as either class 10 or class 10.1 determines how to fill out your tax return, but it doesn’t impact the final calculation, so it is out of the scope of this document.
Maximum Capital Cost Allowance
The government puts a maximum cost you can capitalize in class 10.1. That amount is $30,000 plus the taxes you paid on the $30,000. If I own a $45,000 passenger vehicle in Alberta, where we have GST, the most that I can capitalize is $30,000+$1,500 in GST, or $31,500.
50% Rule on Acquisitions
The government doesn’t want you to buy a car on December 30 and claim capital cost allowance for the entire year. For this reason, on the year of purchase, you can only claim 50% of the calculated capital cost.
Half-year rule on sale
In the year that you sell your car, if it is a class 10.1 vehicle, you can claim 50% of the capital cost allowance. If it’s a class 10 vehicle, you claim all the capital cost allowance.
Recapture on sale or trade-in
If you have a class 10 vehicle and sell the car for more than its depreciated value, it’s a negative expense, and you must report them. There is no such consideration for a class 10.1 vehicle.
Terminal loss on sale or trade-in
If you have a class 10 vehicle, sell the vehicle for less than its depreciated value, which is considered an expense, and you can report it.
Pretty complicated, isn’t it? However, if you are qualified for capital cost allowance on your vehicle, that will make a significant impact on the taxes you’ll have to pay, so it’s worth doing.
If you hire an outside company to do your property management, that is an expense. However, you can’t hire yourself and claim that expense. The government doesn’t like that.
When calculating expenses, also include the following:
- Property taxes — ask your municipality for your annual tax bill
- Insurance — ask your insurance company for an estimate
- Accounting and bookkeeping — ask local service providers for quotes
Legal — the most significant legal fees you incur are when buying or selling properties.
- You may also encounter legal fees if you have issues with your tenant.
- Supplies — estimate how much you will be spending on supplies
- Advertising and marketing — estimate the cost of promoting your property to get it rented
- Property management fees — ask a reputable company for a quote
Let’s take all the expenses and add them together.
For the property demonstrated, we will make the following assumptions:
Because Gil hires a property manager, he doesn’t spend money on advertising and marketing, nor does he use his vehicle to travel to and from the property, so those expenses are low.
Also, because he uses a property manager, who has his legal forms, he doesn’t pay significant legal fees.
Now, to calculate an estimate of the actual income the property will generate, subtract the total expenses from the Effective Gross Income calculated earlier:
That is roughly what you’ll be telling the government you made on the property over the course of the year.
While you can allocate a portion of the cost of your home to the business, unless you actually had to increase the space that you are occupying (i.e., rent or buy a larger house), it’s likely that the money you claim for the business you would spend, whether or not the business existed. For example, if you repurposed a room to be an office in your existing home, your mortgage interest is still the same as if you hadn’t repurposed. Technically, although you can claim the expense, the actual cash leaving your bank account for home expenses hasn’t changed. Therefore, it isn’t usually considered a factor when calculating the real income and ROI that you are realizing. Here is the net income that you will realize if you remove the home office expense:
Calculate your new income:
So far, based on all available information, we have estimated that the net income we will report to the government is $6458.02, although our net income is $8956.69. Both of these are positive numbers.
To summarize, what expenses can you claim for your rental property ?
• Mortgage interest
• Property taxes
• Rent (if you’re renting the property)
• Some vehicle expenses
• Some home office expenses
Gil Donkersgoed, property investor and IT wizard, is a contributing writer to NeldaSchulte.com. Nelda Schulte is a property investor who is passionate about helping investors who self-manage have profitable investment properties through resources and education. If you struggle with the wrong landlord forms, or worse yet, no landlord forms check out Nelda’s 10 Essential Editable Landlord Forms that help you separate the good tenants from the bad and increase your property’s profitability.