Rental income is taxed as ordinary income at your regular tax rate
When you rent out a property, the IRS treats the money you receive as ordinary income, which means it is taxed at the same rate as wages or salary. You pay federal income tax on rental income using the tax brackets that apply to your total income for the year. If you are in the 24% tax bracket, rental income is taxed at 24%. If you are in the 32% bracket, it is taxed at 32%. There is no special lower rate for rental income the way there is for long-term capital gains.
This applies whether you rent out a single room, a house, an apartment building, or commercial space. The IRS does not distinguish between different types of rental property for ordinary income treatment. You must report all rental income on your tax return, even if you receive it in cash or if the tenant pays you informally.
Key Takeaways
- Rental income is taxed at your ordinary income tax rate, which depends on your total income and filing status for the year.
- You must report all rental income on Schedule E (Form 1040), including rent, late fees, and payments for utilities or services the tenant reimburses you for.
- You can deduct ordinary and necessary expenses from rental income, such as mortgage interest, property taxes, repairs, insurance, and property management fees, which reduces the amount you owe tax on.
- Self-employment tax does not apply to rental income, but you may owe estimated quarterly taxes if your rental income is substantial.
- State and local income taxes also apply to rental income in most states, in addition to federal tax.
What counts as rental income for tax purposes
Rental income includes more than just the monthly rent payment. The IRS counts any money you receive related to the rental as taxable income. This includes late fees charged to tenants, security deposits that you keep (rather than return), payments for utilities or services you provide, and any other compensation tied to the rental arrangement.
If a tenant pays you to break a lease early, that payment is also rental income. If you receive a payment for allowing a tenant to make alterations to the property, that counts too. The key test is whether the money is connected to your use of the property as a rental.
Security deposits that you return to the tenant are not income, because you are simply returning the tenant's own money. But if you keep part of a security deposit to cover damage or unpaid rent, that portion becomes income in the year you keep it.
How deductions reduce your taxable rental income
Although rental income is taxed as ordinary income, you can reduce the amount you owe tax on by deducting expenses. The IRS allows you to deduct any expense that is ordinary and necessary to operate the rental. Common deductions include mortgage interest (not principal), property taxes, homeowners insurance, repairs and maintenance, utilities you pay, property management fees, advertising to find tenants, and legal fees related to the rental.
You can also deduct depreciation, which is a deduction for the wear and tear on the building itself over time. Depreciation is calculated using IRS tables and can be a substantial deduction, though it has tax consequences when you eventually sell the property.
You report rental income and deductions on Schedule E (Form 1040), which is the form the IRS uses to track rental activity. Your taxable rental income is the total rent and other income minus all allowable deductions. If deductions exceed income, you may have a rental loss, which can offset other income under certain circumstances.
Self-employment tax does not apply to rental income
Unlike income from a business or self-employment, rental income is not subject to self-employment tax (Social Security and Medicare tax). This is one of the few tax advantages of rental property ownership. You do not owe the 15.3% self-employment tax on rental income, even if you actively manage the property yourself.
However, if you provide substantial services beyond simply renting the space — for example, if you run a hotel or short-term rental business where you provide daily housekeeping, meals, or other services — the IRS may reclassify the income as business income subject to self-employment tax. The distinction depends on whether the rental of the property or the services provided is the primary source of income.
Estimated quarterly taxes on rental income
If your rental income is substantial, you may owe estimated quarterly taxes. The IRS requires you to pay tax throughout the year, not just when you file your return. If you expect to owe $1,000 or more in federal income tax for the year (after accounting for withholding from other sources), you should make quarterly estimated tax payments.
Estimated taxes are due on April 15, June 15, September 15, and January 15 of the following year. You calculate the payment based on your expected income and tax rate for the year. If you do not make these payments and end up owing a large amount at tax time, you may owe penalties and interest.
If you have other income with tax withholding — such as wages from a job — that withholding may cover your tax liability on rental income, and you may not need to make separate estimated payments.
State and local taxes on rental income
In addition to federal income tax, most states tax rental income at the state income tax rate. A few states (Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, and Wyoming) do not have a state income tax, so residents of those states pay only federal tax on rental income. All other states apply their ordinary income tax rate to rental income.
Some cities and counties also impose local income taxes or property taxes that affect rental income. New York City, for example, has a local income tax that applies to rental income. The total tax burden on rental income can be substantial when federal, state, and local taxes are combined.
How rental losses work under passive activity rules
If your rental expenses exceed your rental income in a given year, you have a rental loss. However, the IRS treats rental income as passive income, which means losses are subject to special rules. In most cases, you cannot use a rental loss to offset wages or other active income on your tax return.
There is an exception for taxpayers with modified adjusted gross income below $150,000 who actively participate in managing the rental property. These taxpayers can deduct up to $25,000 of rental losses against other income. The $25,000 allowance phases out as income rises above $150,000, disappearing entirely at $200,000 of income.
If you cannot deduct a rental loss in the current year, you can carry it forward to future years and use it when you have rental income or when you sell the property. This is why tracking losses carefully is important.
Frequently Asked Questions
Is rental income taxed differently if I own the property outright versus with a mortgage?
No, the ordinary income tax rate applies either way. However, if you have a mortgage, you can deduct the interest portion of your payments, which reduces your taxable income. If you own the property outright, you have no mortgage interest to deduct, so your taxable rental income will be higher.
Do I have to report rental income if I only rent out a room in my home?
Yes, all rental income must be reported to the IRS, regardless of whether you rent out an entire property or a single room. However, if you rent out a room in your primary residence and live there, you may be able to deduct a portion of your home expenses as rental deductions.
What happens to rental income if I sell the property?
When you sell a rental property, you may owe capital gains tax on the profit, which is taxed differently from ordinary income. However, any rental income you received before the sale is still taxed as ordinary income in the years you received it. Depreciation deductions you claimed reduce your cost basis and can increase your capital gains tax when you sell.
Can I deduct losses from a rental property against my job income?
Only if you actively participate in managing the property and your income is below $150,000. Otherwise, rental losses are passive losses that cannot offset wages. Unused losses carry forward to future years or can be used when you sell the property.
Do I owe taxes on rental income if I did not receive a 1099 form?
Yes. You owe tax on all rental income whether or not you receive a 1099 form. The 1099 is simply a record for the IRS; its absence does not change your tax obligation. You must report rental income on Schedule E even if no one sends you a form.