You pay income tax on rental income at your ordinary tax rate, plus self-employment tax if you're a sole proprietor, plus potentially state and local taxes depending on where the property sits.

The federal government treats rental income as ordinary income. That means it's taxed at whatever bracket you fall into — 10%, 12%, 22%, 24%, 32%, 35%, or 37% depending on your total income for the year. You don't get a special lower rate just because the money came from rent. You also owe self-employment tax (15.3% combined for Social Security and Medicare) if you operate as a sole proprietor or partnership, though this doesn't apply if your rental is held in a corporation or LLC taxed as a corporation.

On top of federal tax, most states tax rental income as well. The rate varies by state — some have no income tax at all, others tax it like any other income, and a few have specific rental income rates. You may also owe local tax depending on your city or county. The total can easily reach 40% to 50% of your rental income in high-tax states, though it's much lower in states with no income tax.

Key Takeaways

  • Rental income is taxed at your ordinary federal income tax rate, not a special rental rate, and ranges from 10% to 37% depending on your total income.
  • You owe self-employment tax (15.3%) on rental income if you're a sole proprietor or partnership, but not if your rental is in a corporation or LLC taxed as a corporation.
  • State and local taxes on rental income vary widely — from 0% in states with no income tax to over 13% in high-tax states.
  • You can deduct operating expenses like mortgage interest, property taxes, insurance, repairs, and depreciation, which reduces the income you actually pay tax on.
  • You must report all rental income on your tax return, even if you didn't receive a 1099 form from a tenant or property manager.

How deductions lower your taxable rental income

You don't pay tax on your gross rent. You pay tax on net rental income — what's left after you subtract allowed expenses. This is where most landlords reduce their tax burden significantly.

Common deductions include mortgage interest (not principal), property taxes, homeowners or landlord insurance, repairs and maintenance, utilities you pay, property management fees, advertising to find tenants, legal and accounting fees, and depreciation. Depreciation is especially valuable: it lets you deduct a portion of the building's value each year (typically over 27.5 years for residential property) even though you're not actually spending money. This can create a paper loss that offsets other income.

You cannot deduct the principal portion of your mortgage payment, capital improvements that add value to the property (though you can depreciate them), or personal expenses. The line between a repair (deductible) and an improvement (depreciable) matters — fixing a roof is a repair, but replacing the entire roof is an improvement. The IRS has specific rules, and getting this wrong can trigger an audit.

Self-employment tax and business structure

If you own a rental property as an individual or in a partnership, you owe self-employment tax on your net rental income. This is 15.3% total: 12.4% for Social Security (on income up to a cap that changes yearly) and 2.9% for Medicare (no cap). You can deduct half of this tax when calculating your adjusted gross income, which provides some relief.

If you form an LLC or S-corporation to hold the rental, the tax treatment changes. An LLC taxed as a sole proprietorship still owes self-employment tax. An LLC taxed as a corporation or an S-corporation may not, depending on how you structure it and whether you take a salary. This is one reason some landlords incorporate — to avoid self-employment tax on rental income — though it creates other complications like corporate tax returns and potential double taxation. The savings only matter if your net rental income is substantial.

Consult a tax professional before choosing a business structure. The decision depends on your total income, state taxes, and how much complexity you're willing to manage.

State and local rental income taxes

Nine states have no income tax at all: Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, Wyoming, and New Hampshire (which taxes only dividends and interest, not wages or rental income). If your rental property is in one of these states, you owe no state income tax on the rent.

In the remaining 41 states, rental income is taxed as ordinary income at rates ranging from roughly 3% to over 13%. California, Hawaii, New York, and Vermont have the highest rates. Some states also tax capital gains differently — usually at a lower rate — which matters when you eventually sell the property.

Local taxes add another layer. Cities and counties in states like Ohio, Pennsylvania, and Maryland can tax rental income separately from state tax. You may owe city tax, county tax, and state tax all on the same income. Check your specific location's rules; some municipalities exempt out-of-state landlords or have different rates for residents versus non-residents.

Reporting rental income on your tax return

You report rental income and expenses on Schedule E (Supplemental Income and Loss), which attaches to your Form 1040. You list the property address, your income, and each category of expense. The IRS doesn't require a 1099 form to be sent to you — you must report all rental income whether or not you receive one.

If you hire a property manager or use a rental platform, they may send you a 1099-NEC or 1099-MISC showing fees they deducted. These don't reduce your reported income; you report the full rent and then deduct the fees as an expense. Keep records of everything: bank statements, receipts, invoices, repair bills, insurance policies, and mortgage statements. The IRS can audit rental properties, and documentation is your defense.

If you have a loss (expenses exceed income), you can use it to offset other income, though there are limits. Passive activity loss rules prevent you from deducting more than $25,000 in losses against wages or other active income in a given year if your modified adjusted gross income exceeds certain thresholds. Real estate professionals (those who spend more than 750 hours per year on real estate activities) can bypass this limit.

Quarterly estimated tax payments

If you owe more than $1,000 in federal tax for the year, you're required to make quarterly estimated tax payments rather than waiting until April. These are due April 15, June 15, September 15, and January 15. Landlords often miss this requirement because they think they'll pay everything when they file, but the IRS penalizes you for underpayment even if you end up owing nothing overall.

Calculate your expected rental income for the year, subtract expected expenses, multiply by your tax rate, and divide by four. If you're unsure, pay based on last year's tax liability. You can adjust the amount each quarter if your income changes. Use Form 1040-ES to calculate and IRS Direct Pay or a payment processor to submit. Missing these payments costs you penalties and interest.

Capital gains tax when you sell

Rental income tax and capital gains tax are separate. When you sell the property, you owe capital gains tax on the profit (sale price minus your original cost basis, adjusted for depreciation and improvements). Long-term capital gains (property held over a year) are taxed at 0%, 15%, or 20% depending on income — much lower than ordinary income rates.

However, depreciation you claimed during ownership gets "recaptured" and taxed at 25% when you sell. This is a catch: depreciation deductions reduce your current-year tax bill, but they increase your tax bill when you sell. It's still usually worth taking the deduction because you get the benefit now and pay the higher rate later, but it's not a free pass.

Frequently Asked Questions

Do I have to pay taxes on rental income if I don't make much money?

Yes. The IRS requires you to report all rental income regardless of the amount. Even if your net income is small or negative, you must file Schedule E. There's no threshold below which rental income becomes tax-free.

Can I deduct losses from my rental property against my job income?

Only up to $25,000 per year if your modified adjusted gross income is under $100,000, and the limit phases out above that. If you're a real estate professional (750+ hours per year in real estate), you can deduct unlimited losses. Otherwise, excess losses carry forward to future years.

What happens if I don't report rental income?

The IRS can assess back taxes, penalties, and interest going back several years. If the underreporting is substantial, criminal prosecution is possible. Rental properties are audited more frequently than other income sources, so the risk is real.

Do I owe taxes on security deposits I collect from tenants?

No, not when you collect them. Security deposits are held in trust and belong to the tenant. You only owe tax on the portion you keep — typically for damages or unpaid rent. When you return the deposit, that's not income.

Can I deduct the cost of buying the property?

No, not as a single deduction. The purchase price becomes your cost basis. You recover it through depreciation over 27.5 years (for residential property) or when you sell. Closing costs and improvements can be added to your basis and depreciated as well.