Real Estate Tax Question: Can I Rent to My Daughter?

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There's no law against renting property you own (or space in your personal residence) to your daughter, but there aren't any extra tax advantages to doing so. In fact, you might run into trouble claiming rental property deductions based on the amount of rent you charge a family member. Understanding the laws regarding renting to family members will help guide you as you decide whether or not this is a good strategy for you.

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Why Rent to Children?

When you rent to children, as opposed to strangers, your tenant is a safer bet. For example, your daughter is less likely to damage the property, pay her rent late, skip out or otherwise cause you headaches. You will also be providing your daughter with a good landlord who maintains the property, doesn't invade her privacy or charge her unfair damage fees when she moves out.

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In addition, parents often charge their children a lower rental rate, depending on whether or not they need the property to generate maximum income and tax deductions. For example, if you just want your daughter to cover your mortgage payments and take care of any damages, you can set a below-market rent.

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Finally, you might be able to write off some of the expenses related to the rental room or area.

Read More:Deducting Mortgage Interest on a Second Home

Primary Residence vs. Rental Property

Another factor regarding renting to children is whether you are renting space at your primary residence or maintaining a second rental property. If you have an extra room in your personal residence or want to rent the basement, you can earn income, but will have to pay income tax on that income. You will also be limited as to how much of expenses you can deduct related to the room or rooms you claim.

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In addition, some localities and homeowner's associations limit the number of unrelated adults who can live in a residential home, require a specific number of bathrooms based on the number of people living in the home, restrict the number of parking spaces or outright forbid renting rooms or outbuildings.

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If you rent a second property that is not your primary residence, you can treat the entire property as an investment property and take advantage of all of the tax benefits that come with having a rental property. You'll also have to follow all of the laws regarding being a landlord in your state, as well as follow federal fair housing laws.

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Read More:Claiming Dependents for Your Taxes

You Have Increased Liability

Just because you're renting to a child doesn't mean you don't have to follow all of the laws that pertain to being a landlord. This means that since your daughter will have specific rights to the space she's renting, you might have limited access to enter the space, and you could have trouble evicting her if you want her out and she chooses not to leave.

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Additionally, if you have a falling out with your child, she could report you for any "wink wink" agreements you had that violated local, state or federal housing laws and ordinances

Read More:E-Filing: How to File Your Taxes Electronically, IRS Free File & More

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What Is the Rental Rate?

One factor you'll need to consider if you want to rent to a child and claim tax deductions is the rate you charge. If you charge well below the typical rental rate in your area, your property won't qualify as an investment property for tax purposes. This prevents parents from buying a house, renting it to a child for $1 per month, then claiming it's a rental property and claiming all of the tax deductions that go with it. Renting property at far below market rates can also be considered a gift, which will affect your taxes.

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To make sure you charge enough rent to qualify as a legal investment property (for tax purposes), look at what comparable rental properties in your area go for. Comps are based on the number of bedrooms and bathrooms, the square footage of the house and the zip code of the residence.

Finishes (such as granite countertops, stainless steel appliances and a spa bathroom) can nudge the value up or down a bit, but it's a good idea to check with a realtor or tax professional when setting your rental rates. You should also review IRS Publication 527 for more guidance.

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