The IRS states that any amount you receive in rent is generally considered part of your gross income. You must report it for the year that you actually receive the rent, if you pay your taxes on a cash basis. This is true even if the lease actually occurred in the previous year. It is also true if the rent is an advance on any future lease. A security deposit is not considered part of the rent, if you plan on returning it to the tenant at the end of the lease. However, if you keep any part of that deposit, then you must count it as part of your income.
Because rent is considered income, it is taxable to the extent that your income is taxable. For example, if your income (including rent) minus any allowable exemptions and deductions is still taxable, then your rent is taxable. However, if you also use the rental property as your home, and you rent it out less than 15 days out of the year, then the rent you collect is not considered part of your income. You cannot deduct any rental expenses. However, you can still deduct all normal itemized deductions normally associated with owning the home, such as interest, taxes and casualty losses.
You can deduct any rental expenses against gross rental income in the year you pay them. These expenses include advertising, commissions, depreciation, insurance, cleaning and maintenance, utilities, repairs and travel expenses. If the rental is over 14 days a year and on a part of the home that you occupy, you can deduct a proportionate part of the home expense. For example, if you paid $100 for electricity on your home, and your tenant occupies 10 percent of your home, you can deduct 10 percent ($10) of that utility payment as a rental expense.
Enough deductions can reduce or eliminate the taxable portion of your rent. For example, if your rental income was $1,000, and your deductible expenses totaled $1,000, your taxable rental income is zero. You thus do not owe any tax on the rent. If your property is not used as your home, your expenses can exceed the gross rental income. This can create a loss that you may be able to deduct against your regular income, given the qualifications detailed in IRS Publication 925, "Passive Activity and At-Risk Rules." If your property is used as your home, you generally cannot deduct your expenses beyond your gross rental income.